New venture survival: Ignorance, external shocks, and risk reduction strategies

Abstract

Although scholars have long recognized the increased mortality risk that new ventures face in terms of a “liability of newness,” most of the discussion around this risk has been in terms of the contextual constraints that new ventures face and the difficulties that managers have in overcoming them. This emphasis is in part a reflection of the perils of newness but also stems from the retrospective and aggregate perspective taken by researchers. Although the macro-level perspective of new venture mortality has made a significant contribution to our knowledge of mortality risk patterns, there has been little interest in identifying how venture managers can address the risks that all new organizations face. We argue that in order to make progress in explaining new venture survival, a theoretical model is required that uses a more micro-level perspective to explain new venture failure (and the flip side, new venture survival). In this paper we develop such a model. We establish a definition of mortality risk and argue that the liability of newness is largely dependent on the degree of novelty (ignorance) associated with a new venture. Novelty is viewed in three different dimensions, viz.: to the market, to the technology of production and to management. Novelty to the market concerns the degree to which the customers are uncertain about the new venture. Novelty in production concerns the extent to which the production technology used by the new venture is similar to the technologies in which the production team has experience and knowledge. Novelty to management concerns the entrepreneurial team's lack of business skills, industry specific information and start-up experience. We argue that mortality risk increases with the degree of novelty in each dimension and with the number of dimensions in which the new venture is novel. We propose that the decline in mortality risk occurs as the venture's novelty in each of the three dimensions is eroded by information search and dissemination processes. This allows the new firm to become an established business and explains what we term the “evolutionary” path of mortality—novelty and risk decline monotonically, after a period of adolescence, as ignorance decays over time due to `passive learning'. We also propose that there is a “strategic” mortality risk path that reflects the impact of positive and negative shocks (shocks are exogenous events that alter the overall degree of novelty at a point in time— positive shocks decrease overall novelty, while negative shocks increase overall novelty) and reversals (endogenous actions that increase the overall novelty of the new venture at a point in time) on the mortality risk of a new venture. If the incidence and effects of these disruptions can be managed, then venture managers may be able to mitigate the mortality risk for their venture. We argue that risk reduction strategies can be employed, most of which impact on one or more of the dimensions of mortality risk in order to increase the firm's chances of survival. A series of risk reduction strategies are proposed and their impact on the determinants of mortality risk is considered.