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The entrepreneurial process transforms an idea into a firm.

The Entrepreneurial Process

The key insight here is that the entrepreneurial process is a pre-firm process.
An idea is any one or a combination of the following:
A product or a service
A technology/innovation
A market need

Examples of an "idea"

Concept Example
Product Plastic containers
Service Packaging design
Technology Blow molding
Innovation Stretch blow molding
Market Need Packaging of liquids

The idea is modeled as a problem with an initial problem space (consisting of domain variables and their relationships) bounded by initial constraints-for which a solution (or multiple solutions) may or may not exist. The firm is a feasible solution for the problem.

The entrepreneurial process can end in one of two ways. If a feasible solution is found, the firm comes into existence; otherwise, the entrepreneurial process aborts. It is important to distinguish between the success or failure of a firm and the success or failure of the entrepreneurial process. This means that it is entirely possible within this model that the entrepreneurial process successfully creates the firm but that the firm thereafter fails at a future date. The success of the entrepreneurial process does not ensure the success of the firm-it merely provides the initial conditions for the firm's future development.

Since the entrepreneurial process is essentially a pre-firm process, it is exceedingly important to develop criteria for the end of the entrepreneurial process and the beginning of the firm. These criteria are modeled as constraints to the initial problem for which the firm is the solution. The following three definitions of the firm have been used to develop the criteria in the model for the cut-off point at which the firm comes into being:

1. Production function: The firm is a production function that transforms inputs into outputs througha technology.

2. Nexus of contracts: The firm is a nexus of contracts between individual agents.

3. Core competency: The firm is a set of core capabilities that enable it to deal with changes in its environment.

These definitions in their turn have been developed through a detailed review of the theories of the firm (Sarasvathy, 1997). Following is a representative sample of theories reviewed as part of this exercise in definition development:

A. Theories That Deal With Resources

Formal economic theories, beginning with Alfred Marshall (Marshall, 1948) and continuing till today's standard textbooks on micro-economics emphasize the firm as the basic unit of production in the economic process. These theories view the firm as a production function involving profit maximization subject to resource and technological constraints. The firm is modeled as a single irreducible entity with no separation of ownership and control.

Variants of this classical economic model of the firm have been made by the managerial theories of the firm. These theories typically involve the maximization of objective functions other than profits by managers in large corporations. For example, in Baumol's model (Baumol, 1959), managers seek to maximize sales revenue of the firm subject to earning an acceptable level of profits for the firm. Williamson (Williamson, 1964) examines many variants of a general model in which managers seek to maximize a utility function subject to reported profits exceeding some minimum acceptable level. Marris (Marris, 1964) expounds a theory in which managers maximize the market value of the firm under the threat of take-overs.

B. Theories That deal With Stakeholders

Beginning with Cyert & March in 1963, behavioral theories of the firm view the firm as a coalition of groups and managers who satisfice rather than maximize (Simon, 1959). The interests of the competing groups are mutually reconciled through a willingness to live with acceptable solutions. Provided the situation is perceived as satisfactory, the satisficing economic agent does not seek to make any changes to the situation. The idea that firms are not the efficient maximizers that classical economic theory makes them out to be has also been examined through the concept of X-inefficiency developed by Leibenstein (Leibenstein, 1976). This theory emphasizes that firms do not achieve technical efficiency (X-efficiency) due to variations in individual efforts of agents within the organization.

A separate approach based on the composite nature of the firm has been developed as a result of Coase's differentiation between firms and markets. In this approach, the firm is posited as an alternative to the price mechanism and is modeled as a hierarchical organization involving a nexus of contracts between individual agents. Costs of renegotiating contracts, called transaction costs, are the focus of these theories. While Coase emphasizes the costs of price discovery and negotiation, Williamson highlights the importance of investments in assets specific to a given venture and the allocation of those assets among the contracting parties (Williamson, 1985). Alchian and Demsetz, however, emphasize the costs of monitoring within a firm where workers have incentives to withhold promised effort (Alchian & Demsetz, 1972). An interesting variation based on the composite nature of the firm is examined through the lens of agency theory-the countervailing benefits and problems arising from the separation of ownership and management, and has been studied by Fama and Jensen & Meckling (Fama, 1980; Jensen & Meckling, 1976).

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