Lessons Learned From a Failed Ivy League Entrepreneur

A "Case Story" By Chris Cononico
 

Chapter Two

“Life shrinks and expands in proportion to one’s courage.” –- Anais Nin

Andrew Smith, a professor with twenty years of teaching experience, taught my first Entrepreneurial Management class at Wharton. Smith was a tall, slender man with glasses, who used to attribute his svelte physique to entrepreneurship. “Run your own business,” he used to say, “The stress will keep you thin.”

Since it was the first day of the semester, Professor Smith started the class with a brief discussion about the potential rewards of entrepreneurship. That year, the majority of the individuals in the Forbes 400 had acquired their wealth from running their own businesses. In fact, the vast majority of millionaires in the United States were entrepreneurs. Entrepreneurs were not only pioneers in their fields, but they were catalysts for change, and an inspiration to others with new ideas. They proved it was still possible to be self-made in America.

He went on to explain to us how entrepreneurs changed the way Americans lived their lives, and the way American companies did business. The message was clear to me, or so I thought -- if you want to do something groundbreaking with your life, become an entrepreneur. I think his words got everyone’s attention. They certainly got mine.

Smith peppered his enthusiastic introduction to entrepreneurship with a cautionary tale from his own past. Smith’s first venture was in the real estate market. As a young man, he selected a building, which he planned to purchase, renovate, and resell. He found an investor to finance the equity portion of the deal, an older gentleman, with whom he placed his trust. They agreed to an informal partnership, whereby his partner provided the capital and my professor provided the “sweat equity.”

After the young Smith invested a year putting the deal together, his partner suddenly balked at the agreed terms and threatened not to invest his money. Sensing vulnerability, his “mentor” demanded a larger share of the profits. With no other financing alternatives in place, my professor got squeezed. Smith was forced to give up almost all of the upside potential in exchange for the capital he needed. With the rising interest rates of the late 1970’s and the extortive financing terms of his partner, my professor seemed lucky to walk away from the experience with the shirt on his back. Surprisingly, the story had little effect on me. I believed I would never make those mistakes. (Ultimately, I would make very different ones.)

Smith eased his way into the required reading by discussing the personal traits of a successful entrepreneur. People called out answers like “ambitious,” “independent,” and “aggressive.” It seemed like a simple question with simple answers, until someone shouted out “risk seeker.” The professor immediately put down his chalk. “Someone tell me what’s wrong with that answer?” he asked the class. We were silent and the woman who provided the answer turned pale.

At that time, I didn’t think it was a shocking thing for her to say. Isn’t that why entrepreneurs got paid so much? Isn’t that the whole foundation of modern financial theory, i.e. the trade off between risk and reward? If new ventures were the riskiest with the highest potential returns, then wasn’t it reasonable to assume that the entrepreneur had an exceptionally high-risk tolerance? Weren’t entrepreneurs seeking a certain thrill by quitting their jobs and taking a shot on their own?

“Wrong!” said Smith. He told us that intelligent entrepreneurs never seek risk; on the contrary, they try to avoid it. He wrote risk-seeker on the board and crossed it out for emphasis. He told us there were enough risks inherent in new ventures that entrepreneurs don’t need any more. The world isn’t linear. There are no constants and there’s no way to control the actions of competitors. There is an ever-present risk that an entrepreneur can do everything right, meet all of his targets, and still fail for no better reason than random chance. As my father used to paraphrase, “Between the cup and the lip, a lot of tea can fall.” There are no sure things. The short answer was that smart entrepreneurs try to limit risk.

For entrepreneurs, part of avoiding risk was controlling cash outflow, especially when starting a new venture. To that end, the professor went on to give us the traditional entrepreneurial code:

 Never buy what you can lease.
 Never lease what you can borrow.
 Never borrow what you can have for free.

You have to be a cheapskate when starting a company. Never use your cash, if you have any other alternatives.

This seems obvious enough, but it’s very difficult to apply when you’re trying to expand a young business. “What’s the number one reason new businesses go bankrupt?” Smith asked the class. The obvious answer was they ran out of cash and couldn’t pay their bills, but he wanted to delve deeper. “What was the primary reason new companies ran out of cash?” His answer seemed counterintuitive at first. He told us it was because they were too successful too quickly.

Early successes often push entrepreneurs to expand too quickly, and burn through their money. It was a financing problem, not a business problem. Early successes can cause an entrepreneur to forget the code. Professor Smith looked up at the clock at the back of the room. He seemed satisfied he had made his intended points.

Smith looked out over the class and reminded us his course was about entrepreneurial management, which meant learning to work together in teams to create value. He insisted it took a team of people to build the next IBM, not an individual working in isolation. To emphasize his point, he remarked, “A pizza shop owner is not an entrepreneur -- he is self-employed. The guy who owns 50 pizza shops, he’s an entrepreneur.”

Unfortunately, with that final sound bite, the lesson of staying humble, the most important lesson of the day was lost to me. Instead of remembering the value of teams, I saw a stigma to being a small business owner. After all, I had no intention of being perceived as a “pizza shop owner.” I wanted to be an “entrepreneur” and that meant thinking big, or so I concluded.

The obvious problem is that every new company starts small and you have to open one pizza shop before you can expand to 50. In fact, it can take 20 years before your company expands to 50 shops. If you’re ashamed of managing a small business, you’ll be more likely to pursue risky growth strategies that ruin your company. Unfortunately, the analogy of the “pizza shops” stuck in my head. It made me think starting my own business wasn’t good enough. To feel accomplished, I needed the legitimacy of managing a large organization.
 
 

Copyright  2005 by Chris Cononico
All rights reserved. No part of this manuscript may be reproduced in any form or by any electronic or mechanical means, including information storage and retrieval systems, without permission in writing from the author, except by a reviewer who may quote brief passages in a review.