Noam Wasserman is an Associate Professor of Business Administration and Tukman Faculty Fellow at Harvard Business School (HBS) and the author of the bestseller The Founder’s Dilemmas: Anticipating and Avoiding the Pitfalls That Can Sink a Startup. Dr. Wasserman received the HBS Faculty Teaching Award and the Academy of Management’s 2010 Innovation in Pedagogy Award for “Founders’ Dilemmas,” an MBA elective he developed and teaches. In 2011, the course was named one of the top entrepreneurship courses in the country by Inc. magazine. Recently, business writer Jen Hickey interviewed Prof. Wasserman via email to discuss some of the common pitfalls facing founders of start-ups.
JH: The focus of your research and book is on the problems faced by founders of "high-potential' startups (high-tech and life sciences). How do some of the dilemmas these founders encountered and the lessons learned apply to those not in such high-growth industries?
NW: While my quantitative data come from high-potential startups, from everything I've seen, most pitfalls I study are relatively universal. No matter what industry or type of company, a core founder has to figure out if and when to become a founder, whether to found alone or attract co-founders, with whom to co-found and how to divide the roles and equity, whether and whom to hire, etc. The biggest differences are probably the financing issues. A founder in high-growth industries will usually have a different set of investor options and face different exit issues and options.
JH: What are the most important things a would-be entrepreneur needs to consider before striking out on his or her own to launch a business? Also, why is it important for an entrepreneur to understand his or her motivations for starting a business?
NW: First, founders need to understand where the pitfalls lie. Of the failures in high-potential startups, 65 percent are due to early decisions about the people (co-founders, hires, advisors, and investors). My research on 10,000 founders revealed a striking pattern: The most common people decisions, which I’ve dubbed “The Three Rs,” were the most hazardous:
- Relationships (i.e., choice of co-founders) – More than half of the teams in my dataset co-founded with friends and family, which on average happens to be the least stable of all types of founding teams and may be an even more common decision in non-high-growth industries.
- Roles – Positions taken by each founder or hire and how they make collective decisions.
- Rewards (in particular, how equity is split among the co-founders) – 73 percent of teams split equity within a month of founding but do not allow for adjustments due to changes in the company or team.
Second, by understanding the potential pitfalls in advance, entrepreneurs can take steps to avoid them. For example, someone co-founding with friends or family should be creating firewalls that help protect the business while building a tight-knit team. Similarly, if splitting equity, clear early actions—too rarely taken—will keep them from getting burned by drop-out founders and other problems that destroy founding teams.
Third, founders need to be aware of their own motivations. Do they want to become “rich or king”? Becoming rich will likely mean losing kingship (control) within the venture, whereas aiming to remain king usually means becoming less rich. Self-aware entrepreneurs should also consider how their early passion and confidence can potentially turn into Achilles heels if left unchecked. Knowing your strengths, and especially your weaknesses, is vital to attracting the best-fitting co-founders, hires, and investors.
Figuring things out as you go along is too easy and problematic, as it is far harder to undo the damage caused by ill-considered ‘3 Rs’ decisions. Instead, entrepreneurs need to make sure they anticipate and avoid those pitfalls to improve their chances of success.
JH: How can a founder's optimism and confidence cloud their decision making?
NW: There are a lot of psychological elements that manifest early as strengths, but become detrimental down the road. Optimism and confidence are two of those elements. Left unchecked, they can lead to a founder’s demise by introducing hazards in almost every important area of the startup. Operationally, founders underestimate the time needed to develop their product or service. Financially, they underestimate the resources they will need. Strategically, they discount negative information that should spark a rethinking of their original plans.
Within the team, they underestimate the holes in their skills and fail to bring onboard the right people to complement those shortcomings. They also can overestimate their abilities to manage the difficult interpersonal issues that arise between co-founders. Likewise, founders often run out of money long before hitting their milestones because they did not devise plans for less-than-rosy scenarios.
JH: Describe the ‘3 Rs’ system and how it can serve as both a positive and negative force?
NW: The ‘3 Rs’ system highlights the most critical people-decisions founders must consider during the early stages of their company. As described, they include relationships, roles, and rewards. Within each ‘R,’ there are often better and worse decisions, and founders have to carefully consider those costs and benefits.
Founders must also consider three more complications. First, decisions within each R cannot be made independently of the other Rs, since those decisions are often linked. If made independently they risk being out of alignment with each other, and misalignment can bring destructive tensions to the team. Second, startups often experience important changes as they evolve, and things may also change for individual founders (e.g., changes in a founder’s commitment). Thus, even when the early ‘3 Rs’ decisions are in alignment, they can often become misaligned if the team doesn’t pay attention. Third, the inclination to avoid conflict leads people to allow the ‘3 Rs’ to become the ‘elephants in the room’—the looming issues no one is willing to bring up until things are on the verge of disaster.
Instead of ‘punting’ those issues, teams must tackle them and have those deep discussions key to preventing team tensions from becoming destructive.
JH: Explain ‘rich vs. king’ and why it's so difficult for founders to achieve both?
NW: First-time founders will almost always be missing some skills or resources needed to fully pursue their opportunity. To fill those holes, founders usually try to attract people: co-founders, hires, investors, and others. Each time, they are facing a ‘rich vs. king’ decision, because those people will want ownership and some measure of control over decision making. If founders decide to resist giving up that ownership and control, they risk not attracting the key people and resources needed. Alternatively, if founders opt to relinquish ownership and control to attract the best people, they imperil their control.
As each decision accumulates across the stages of the entrepreneurial journey, founders can be swayed from one outcome and toward another. Founders who wait until the end of the journey to figure out which outcome is more important might end up with the opposite outcome from the one they wanted, so early self-awareness about motivation is key to helping a founder achieve his or her goals.
JH: What conditions must exist for a founder to increase the value of their company without giving up control?
NW: At the company level, if there is no rush to develop the business—e.g., no real competitive threat or reason why the window of opportunity will slam shut soon—and if the company requires few resources—i.e., not capital intensive—it is often easier to grow the business while keeping control.
At the founder level, if the founder has the skills, contacts, and other resources needed to pursue the opportunity, the founder can keep control because he or she does not have to attract other people to fill holes in each of those areas.
Both highlight the importance of the pre-founding decisions: Choosing an industry that fits what the founder wants to—and can—do and founding at the right time.
JH: In the years you've studied the dilemmas founders face, what has most surprised you?
NW: I have been most surprised by the recurring pattern of the most hazardous decisions being the most common decisions (e.g., founding with friends or family; splitting the equity early, quickly, and equally). Also surprising is that the most successful founders are often fired even sooner than those who have achieved middling success—what I call the "paradox of entrepreneurial success."
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