The impact of entrepreneurial characteristics on firm performance: uncovering the characteristics of strategic entrepreneurship on the performance of UK SMEs
CHAPTER: LITERATURE REVIEW
With the advent of the global economic crisis in 2008, the economic status of the United Kingdom has been highly to the extent of experiencing a second recession in the period between 2011 and 2012 (ONS, 2013). Macroeconomic indicators such as unemployment, inflation, and the base rate by the Bank of England continue to highlight the fragile condition of the country’s economy. Despite these worrying trends in the nation’s economy, SMEs in this county have continued to flourish providing a certain form of relief to the country. According to statistics, the country experienced an increase of 253,000 in businesses between 2011 and 2012 (BIS, 2012). It has been noted that the number of businesses started every year exceed those that exit the market since the year 2000, even during the period of economic downturn. This shows the ability of SMEs in this country to withstand even the harshest of economic conditions to ensure the continued sustainability. In this part we review existing literature to explore the various entrepreneurial characteristics that underlie the performance of a firm and especially SMEs in the UK.
Researchers have concluded that factors leading to the growth of a firm are grouped into two; characteristics of the firm and characteristics of the entrepreneur/owner of the firm. Characteristics of a firm include such aspects as age, legal status, sector, and size of the business, while characteristics of the owner include age, education, level of experience and entrepreneurial capabilities possessed. Entrepreneurial capabilities will also determine business strategies the business adopts including market orientation, methods of financing, management practices and social capital. Literature review has been used to explain the contribution of these entrepreneurial characteristics to the success of a firm. However, to be able to determine how successful a firm is, we need to define the concept of success in the context of SMEs.
The Concept of Success
Scholars have not reached a consensus on the proper definition of the concept of success in the context of SMEs leading to a big room for different interpretations (Foley and Green, 2009). In fact, there has been no study conducted up to date to seek and shed light on the meaning of success to SME entrepreneurs (Ahmad et al., 2011). This poses serious challenges to scholars who are interested in exploring this topic since it is imperative to have a valid methodology of measuring success if to be able to identify pertinent issues regarding SMEs. As a result, understanding what entrepreneurs consider as success formed an object of this study.
Several forms of measuring success have been suggested including earnings (Schiller & Crewson, 1998), size of the firm and level of growth (Cooper et al., 1994) and the number of employees that the firm is able to accommodate (Bruderl et al., 1992). The challenge associated with this is that measures of success may vary depending on different aspects such as nationality of the business or owner. For instance, a recent study (Ahmad & Seet, 2009) revealed that certain elements of success such as financial, social factors, and lifestyle were considered more important measures of success in Australia as compared to Malaysia. Although the majority of research studies tended to lean more on financial factors as indicators of success, other nonfinancial measures may also influence the perception on success.
Such nonfinancial factors as personal involvement, lifestyle, independent quality of life, and responsibility (Jenning & Beaver, 1997) have been highlighted by some scholars as being measures of success. Other factors important indicators of success that have been identified include personal satisfaction, flexibility, independence and reputation (Walker & Brown, 2004)). Customer satisfaction and customer retention were also considered important (O’Reagan & Ghobadian, 2004).
Entrepreneurial Characteristics Leading to Success of a Firm
- Characteristics of the Entrepreneur/Owner
The issue of the entrepreneur contributing to the growth of a firm has caught the attention of diverse scholars. Psychologists tend to describe entrepreneurs in terms of their personality traits such as having the high need for success (Johnson, 1990). Economists on the other hand view them as innovators and risk takers. It should be noted that a firm exhibiting high growth rate is likely to have been founded by a group of people as opposed to a single individual. It is also more likely that firms experiencing high growth rates were started by middle-aged entrepreneurs who have more business experience as opposed to younger owners.
This view is supported by the study by Bruderl et al. (1992) where it was found that the level of education and work experience possessed by the entrepreneurs increased significantly to the probability of the success of a business. For instance, level of education may be very critical for the success of the business as they equip the owner with commitment, determination and advanced problem solving skills, while special knowledge in regard to a given discipline or industry may be the key to survival and growth (Cooper et al., 1994). The particular characteristics of the entrepreneur are discussed in detail:
- Entrepreneurial Orientation
This refers to the practices, processes, and decision-making activities leading to the new entry of the particular business. Scholars have argued that this is determined by the ability of the entrepreneur to innovate, take risks, and act proactively (Miller, 1983). Being proactive refers to the ability of a given business to take advantage of the existing market opportunities or how a firm is able to adapt to unforeseen adverse market changes. The aggressiveness of an entrepreneur as well as the ability of a firm to identify and respond promptly to market needs have also been linked to success of a business. When a business has a more enhanced entrepreneurial orientation, it has better chances of performing as opposed to a firm that has not developed this capacity (Wang, 2008).
- Learning Orientation
The learning orientation of a firm is determined by three factors. The first factor relates to a firms level of commitment to learning and how much learning is emphasized within the firm (Senge, 1990). The second factor relates to open-mindedness and the ability of a business to proactively induce change of organizational culture in terms of long-held beliefs and assumptions that may no longer be helpful to the organization. The third factor is having a common vision for the organization and the ability of a firm to communication organizational goals and objectives across the entire firm while managing to instil a sense of purpose and direction in its members (Baker & Sinkula, 1999).
Scholars have argued that these three organizational values shape two different types of organizational learning which are adaptive learning and generative learning (Wang, 2008; Senge, 1990). Adaptive learning refers to incremental and sequential learning that is acquired when carrying out traditional organizational activities. However, depending on this traditional knowledge may not be beneficial to the firm in the long run and in order to be able to seize new opportunities in the market, the firm may need to change its organizational culture to allow change to take its course. To achieve this, the managers will need to appeal to higher scope of knowledge which is called generative learning. Learning orientation just like entrepreneurial orientation is directly linked to the performance of a firm.
- Entrepreneurial Learning
This is a continuous process during which wisdom is acquired from experience (Politis, 2005). Experience here refers not only the good aspects of the business but also the experience acquired through failure and critical moments. Entrepreneurial learning is the ability of a firm to learn not just from within the business but also outside the business including the period prior to its establishment (Cope, 2005). In as much as some incidents experienced along the way may be painful and with disastrous effects, with proper management, they may prove transformational to the business (Beresford & Saunders, 2005). Such events may trigger the need to seek support from the outside world forming the wider network including agents such as bank managers, accountants, or social networks, which may prove very beneficial to the firm in the long run.
As the business grows, the entrepreneur is required to develop mechanisms through which the business will be able to adapt as it moves through the different phases of development. Failure to plan adequately for this adaptation process my lead to developmental crisis both at the personal and organizational level (Cope & Watts, 2000) which is usually the main reason why many SMEs crush before they become successful. To this end, it is paramount that entrepreneurs are able to monitor the various events generating crisis throughout the developmental phase so that they can respond to them in an appropriate and timely manner (Scott & Bruce, 1987). The most important element that should be closely monitored is the complex, interactive relationships existing between individuals themselves and between individuals and the business. Major crisis may not only be important to facilitate learning developing self-awareness but may also be instrumental to the process of change (Cope & Watts, 2000).
However, it should be noted that in order for a firm to generate learning from critical incidents, the entrepreneur should be able to incorporate both ‘single’ as well as ‘double-loop’ learning (Kolb, 1984). According to a study conducted using 27 firms in the UK, it was found that for a firm to grow beyond a critical incident, it must be able to stand back and reflect on the situation as a whole from the viewpoint of a third party (Sullivan, 2000). To be able to maximize learning from business experience, it may be important to engage formal programs such as management courses as well as informal programs such as mentorship processes. Also, to encourage effective learning, instruments such as expert consultancy should not be involved in the process as the business is required to adopt solutions on its own (Sullivan, 2000) to facilitate learning. Engaging a professional distances the entrepreneur from the whole problem-solving process which may not be beneficial since the business does not get to learn how to avoid or even solve such a problem on its own in future.
- Characteristics of the Business
Studies placing characteristics of the firm at the heart of business success have focused on aspects such as age of the business, size, sector of market in which it operates in, and legal form. These are further discussed below;
- Age of the Business
Age the business has been associated with success or failure rate of firms. Age plays a part in the success of a firm because older businesses have had a longer time period during which to form an accurate view of their attributes as a firm especially in regard to such aspects as cost structure and efficiency levels (Disney et al., 2003). According to research, follower businesses, i.e. those businesses founded within an existing firm, have been associated with higher survival rates as compared to newcomer businesses (Bruderl et al., 1998). This is because these firms are able to take advantage of previously established success factors such as good customer connections or other internal customs that have proved successful for previous businesses. Starting a new business without a having a range of experience to draw from to help deal with industry specific problems largely increases the mortality rate of the business.
Research has also shown that younger firms are characterized by faster growth though growth rate differs with the specific industry (Story, 1994). Slowed growth in regard to older SMEs may be explained by dwindling motivation level, as explained above. This may arise once the owner achieves a certain level of income which he perceives as satisfactory to him, or if the firm has grown past its minimum efficiency levels. It could also be that due to poor management of growth, diseconomies have started to emerge that require employing and managing others, something which the firm has not done or is incapable of doing. Sometimes, it may just be that the owner has reached his desired level of growth and has no intention of expanding the firm further. This is especially true in regard to small family businesses which are only run for purposes of supplementing the family income.
- Sector of the Business
Research has shown a strong correlation between the sector or industry and the growth rate of SME (Bruderl et al., 1992). It has been suggested that sectors characterized high innovative activities exert a certain level of contrasting effect to the performance of a newcomer business (Audretsch, 1995). In such a sector, only businesses that are entrepreneurial enough to adjust to the high level of innovation and bring new viable products to the market will experience high levels of growth and survive in the harsh market. On the other hand, firms that do not possess the capability to adjust quickly and deliver market expectations are faced with a lower likelihood of success in the highly innovative market. In this light, before considering entering into a highly innovative market, entrepreneurs are encouraged to develop highly competitive strategies if they are to achieve a significant amount of growth within such a sector.
- Size of the Firm
According to a study carried out in UK (Schiller and Crewson, 1997), it was found that a positive relationship exists between the size of a firm and its chances of survival while a negative relationship exists in regard to micro-businesses (Holmes et al., 2010). In that study, micro-businesses were defined as those firms with less than 10 employees. This may be explained by the fact that large SMEs are in a better position to achieve high optimization in terms of minimum efficiency levels. However, with time, size of the business becomes less important in determining the survival rate of a business as long as the firm continues to at a fast rate (Disney et al., 2003). In UK, the optimum growth size of a firm has been found to be that having its number of employees as between 2 and 20.
- Legal Form
The legal status of a firm also plays a role in its growth rate. For instance, limited companies have been found to exhibit higher growth rates as compared to other forms of businesses such as sole traders or partnerships (Storey, 1994). However, the direct effect of this relationship has not been explored in detail.
- Business Strategy
Although there is a significant number of UK SMEs who depend on funds from family and other informal networks to support their businesses, research has shown that approximately 50 percent of UK firms rely on credit from traditional suppliers through current accounts to finance their operations. The notorious global recession, however, impacted businesses negatively by creating a credit crunch generally triggered by a decrease in turnover and cash flow.
Consequently, businesses slow down in repayment of their debts leading to a reduced credit worthy on the part of the business (Ma and Lin, 2010). When such a situation arises, only businesses holding tangible assets, for instance those within the manufacturing industry, are able to withstand the harsh economic conditions and record high success rates as opposed to those who do not have tangible assets, such as those operating in the service industry. It has therefore been suggested that SMEs maintain a proper record of their cash flows and maintain good working relations with their banks (Ma & Lin, 2010).
Businesses that start with low capital reserves have been associated with high failure rates (Bruderl et al., 1992). On the other hand, high levels of capitalization for a start-up business contribute to the success of a firm by providing elasticity in ‘buying time’, undertaking more ambitious strategies, and in changing the course of undesirable trends (Cooper et al., 1994). Firms recording high rates of growth tend to share equity with external partners, be it individuals or organizations, instead of placing too much emphasis on strategies like short-term debt financing which generally tends to constrain the growth of a business (Storey, 1994). However, this causation may be complicated by the fact that external owners are more likely to support businesses which they feel have high potential for growth. In that case, it may be argued that the business would still have survived even without the external support since the success factors were inherently in the business and not with the external party.
- Market Orientation
This has been defined as the ability of an organization to respond to negative customer feedback in regard to their satisfaction levels, timely detection of changes in market needs and consumer preferences, and prompt response to new competition in the market. A strong relationship has been found to exist between market orientation and the performance of the business (Pelham & Wilson, 1996). Market orientation contributes to the growth of a firm by encouraging forecasting future trends and planning adequately for the same, then focusing on effective implementation of those future plans. However, this works most effectively when integrated into the organizational structure, especially by introducing formal methods of control to ensure that the progress of the program is in line with the set standards. Market orientation should also place innovation and differentiation strategies at the heart of forecasted organizational plans (Pelham & Wilson, 1996). Most high growth firms tend to occupy particular segments of the market rather than generalize the market, though this may be a complex concept especially for SMEs (Storey, 1994). For market orientation to work effectively, intruding new products or services into the market should remain the main objective for the business.
- Management Practices
Management skills possessed by the entrepreneur or obtained from external partners or advisers of the firm may be critical for the success of the business. Good management practices are important in helping the firm adopt business strategies and management models that are more appropriate for the particular business. These practices are generally acquired by investing a substantial amount of time in activities of observing, studying, and collecting information to enable making apt business decisions (Cooper et al., 1994). It demands that the owner be ready to delegate decision-making to non-owning members of the organization for diversity and inclusiveness in the decision making process (Storey, 1994).
The issue of whether these new decision makers should come from within or outside the firm has not been explored in detail. However, it has been a well documented fact that including different members of the organization in decision making is found to motivate individuals who feel a sense of belonging with such a firm, something that is critical in the continued performance of the firm and in accelerating growth rate. However, a study conducted in the UK showed that management know how will only produce a limited effect on the growth or survival of a firm (Cooper at al., 1994). To achieve optimum benefits, other factors discussed in this paper must be present all in relevant quantities.
- Networks and Social Capital
Scholars have defined social capital as the goodwill that is available to business persons (Alder & Kwon, 2002) that enable them to either start a business or drive such businesses forward. It operates where an entrepreneur receives opportunities from friends, colleagues, and general contractors in terms of financial or human capital (Burt, 1992) which may not be easily available to other persons. Whereas human capital is concerned with quality of these support individuals, social capital on the other hand is a quality developed between people. Social capital produces two main benefits to entrepreneurs which are; information and influence (De Carolis & Separito, 2006). In regard to information, having a healthy social network exposes one to huge amounts of information that may be very useful for the business either in dealing with current challenges or in forecasting about the future. Influence is important especially when it comes to obtaining credit and other financial support. Individuals can also maximize their influence from social networks by accumulating obligations which they can use in future to gain favours. While most scholars look at social capital as a unitary component, other scholars have tended to look at it as multi-dimensional composed of three dimensions which include; structural dimensions, relational dimension, and cognitive dimension.
- Structural Dimension
This refers to the overall pattern of network connections maintained between the various actors constituting the organization. These networks are important in helping a firm gain access to resources as well as reducing the time and resources required to gather data relevant for decision making. These networks ensure that the firm has an efficient mechanism in place for the screening and distribution of information to all members of the organization (Burt, 1992). However, this is highly dependent on how well the information system is configured around the firm. It can be described as the relationships existing between networks that provide the firm with brokerage opportunities allowing optimum utilization of structural holes within the organization (Burt, 1992).
It should be noted that cohesive contacts, i.e. networks between people going through common life situations, are likely to produce information patterns with many similarities thus rendering most of that information redundant. On the other hand, contacts existing between two dissimilar groups may be a rich source of diverse information that may have innumerable benefits to the firm. Therefore, it is the role of the entrepreneurial manager to span the structural holes through mechanisms of information monitoring, problem identification, and appropriate response mechanisms. The entrepreneur should strive to maintain sparse networks consisting of fewer redundant contacts in order to maximize on information benefits as they are likely to be more diverse and providing varied information sources (Burt, 1992). However, the entrepreneur should also keep in mind that information transfer is more effective in situations where interpreting and ascribing meaning to the information is not a challenge to the organization.
Proper positioning within the social network is also crucial if one is to benefit maximally from such a network. This is because it provided the firm with differential access to the various actors within the network which in turn ensures the information obtained is also highly differentiated. For instance, when an individual is positioned in such a way that they are the only point of connection between two groups of people, then the individual is in a position to broker information between the two separate groups (Burt, 1992). This means that they can modify this information to suit their organizational circumstances in a bid to gain optimum benefits from such information (Burt, 1992).
- Relational Dimension
Relational dimension defines the quality of relationships existing within a given network. The quality of relationships between the participants of a given network can either be weak or strong depending on the actors themselves and the nature of the network system. A strong relationship is more or less defined by the amount of time spent developing the ties, emotional intensity of such ties, level of intimacy and the extent of reciprocity shared between the participants. A strong relationship is characterised by high levels of trust that is shared by the participants and continuous flow of good quality information (Nahapiet & Ghoshal, 1998). When individuals become highly embedded in a social network, it gives rise to a certain form of trust amongst these individuals referred to as relational trust (Nahapiet & Ghoshal, 1998). This kind of trust is developed over long periods of time and is grounded on the principle of continuous reciprocity. Participants will usually perform favours for each other with the expectation that the favour will be returned at some future date. This kind of accumulated favours may be very beneficial to a firm especially during periods of economic hardships when the firm might really need a helping hand.
Cognitive dimension of social networking has been described as the shared meanings and systems of interpretation and ascribing meanings existing between parties involved in meaningful relations. These special ways of ascribing meanings allow the concerned parties to make sense of the information shared between them. Through this process, parties are able to classify the information into perpetual categories to the extent that these individuals can be a part of each other’s thinking processes (De Carolis & Separito, 2006). In order to reach this level of cognition, the parties must have developed shared language and vocabulary and a common pool of collective narratives though which they can transfer tacit knowledge between themselves (Nahapiet & Ghoshal, 1998). The benefit from this level of social cognition includes the fact that entrepreneurs gain a greater illusion of control. This illusion leads individuals into thinking that they are in a position to predict and control future outcomes especially regarding to the success of the business (Nahapiet & Ghoshal, 1998). This is an important factor for managers of SMEs because it gives them the confidence to get out of their comfort zones and be more willing to take risks. It lures business persons into managing their firms in a proactive manner as opposed to reactive approach.
In this part, we have used the existing literature to review the various characteristics that contribute to the performance of SMEs thus increasing their success rate in a highly ambulatory market. The elements discussed above will form the variables to be used in conducting a research study to determine to what extent these factors contribute to the success of SMEs in the UK. A comparison will be made in regard to SMEs in other economies particularly the US and France. The following sections of the paper will discuss the methodology that will be employed in conducting this study and tools and techniques that will be utilized in analyzing and tabulating the results of the study. A discussion of the results will also be provided and conclusions made in regard to the most effective entrepreneurial strategies in increasing the success rate of SMEs depending on the sector or industry of the firm. This information is aimed at providing future entrepreneurs with a deeper understanding of the various entrepreneurial strategies they can adopt to increase the success rate of their SMEs.
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