The Entrepreneurship Myth

Author Scott Shane seeks to dispel popular illusions about startups—starting with the myth that founders earn more than they would as employees

by John Tozzi

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Entrepreneurship creates jobs and drives the U.S. economy, making smart founders and savvy investors rich in the process, right? Not so, says Scott Shane, professor of entrepreneurial studies at Case Western University and author of The Illusions of Entrepreneurship, to be published by Yale University Press this month.

Shane argues that increasing the rate at which new companies are formed does little for the economy or job growth; instead, expanding existing businesses would be a more efficient way to spend time and money. Shane, who is also a researcher on new businesses for the Ewing Marion Kauffman Foundation and an angel investor with the Cleveland-area North Coast Angel Fund, wants to give every aspiring business owner a reality check.

Shane's book reveals a bleak picture of entrepreneurship in the U.S. It shows the average new venture will fail within five years, and even successful founders usually earn 35% less over 10 years than they would working for others.

Shane spoke recently with BusinessWeek.com's John Tozzi about the myths of entrepreneurship. Edited excerpts of their conversation appear here. We also offer a playbook (BusinessWeek.com, 1/23/08) and a link to a quiz Shane put together to test knowledge of entrepreneurship.

You collect a lot of data in your book and come to some counterintuitive conclusions about entrepreneurship. What would you say is the biggest illusion?

I think the biggest myth entrepreneurs have is that the growth and performance of their startups depends more on their entrepreneurial talent than on the businesses they choose. I hate to deflate egos, but on the other hand I want people to have a realistic understanding of things. The industry a person picks to start a business has a huge effect on the odds that it will grow. If you go back 20 years or so, about 4% of all the startups in the computer and office equipment industry made the Inc. 500, 0.005% of startups in the hotel and motel industries made that list, and 0.007% of startups in eating and drinking establishments. So that means the odds that you make the Inc. 500 are 840 times higher if you start a computer company than if you start a hotel or motel.

The subtitle of your book is "The costly myths that entrepreneurs, investors, and policy makers live by." What's the cost of these misconceptions?

At the individual level, the core fact here is the typical, median, right-smack-in-the-middle entrepreneur is a failure. The cost is everything associated with that. So if you start a business and the business dies, you could have been working for somebody else. You could have been making a salary. You could have had the stability—you wouldn't have had that kind of stress that comes from the up and down of running that business.

So there's the personal costs. From an individual level, the myth is that somehow if you manage to hit the average or hit the median, you're going to be fine. The reality is that the distribution is so skewed you have to hit the top for it to matter, and in fact, you have to hit the top 10% to have income as an entrepreneur better than what you would have gotten working for other people.

Describe the typical startup that you found.

The median startup is a business that's capitalized with about $25,000. The financing of that business comes from the entrepreneur's savings. The business is a retail or personal service business, a hair salon or a clothing store, that kind of thing. The founder doesn't have expectations of a very high growth business, in fact [the entrepreneur is] probably thinking a goal of $100,000 a year of revenue is a good goal.