Warwick Business School

Key learning objectives  Understand why business closure is important  Be aware of the issues involved in defining business closure  Be able to compare and contrast the five approaches to business closure  Be able to critically evaluate the empirical evidence on business closure

Warwick Business School How would you define a business closure?

Warwick Business School A business closure occurs when a transacting entity stops its activities and does not transfer its ownership to another business and is independent of an existing business.

Warwick Business School The small and young are more likely to ‘die’

Warwick Business School Why closure is important  Negative consequences Has economic and social consequences Loss of employment Losses to investors (fraudulent activity)  Positive consequences Successful closures Learning experience Signals to others

Warwick Business School Why defining closure is difficult

Warwick Business School Six measures of closure 1. Individuals who say they have closed a business; 2. Individuals who move out of self-employment; 3. The number of bankruptcies, insolvencies or liquidations; 4. The number of enterprises deregistering; 5. The number of companies deregistering; 6. The number of business bank accounts that are closed

Warwick Business School No ideal measure of business closure

Warwick Business School Measuring the closure rate  To work out the closure rate, need to establish the numerator (measure of closed businesses) and then divide this by the denominator (population)  Difficult to establish the numerator because of timing, purity and periodicity issues  Difficult to establish denominator because choice is between using the ‘stock’ of businesses or using the number of workers  Both numerator/denominator share problems with timing, data sources, unit of measurement, coverage, thresholds

Warwick Business School Differences in the closure rate

Warwick Business School Five approaches to closure 1. Gambler’s ruin 2. Population ecology 3. Resource-based closure 4. Utility 5. Entrepreneurial learning

Warwick Business School 1. Gambler’s Ruin  Running a business like playing at a roulette wheel  Use chips (resources) to gamble on a successful outcome (survive/grow business)  Winning allows them to continue to ‘gamble’  Losing (eventually) means they leave the table (close the business)  Importance of future expectations

Warwick Business School Modifying gambler’s ruin  Vary wealth and access to finance  Some may be better gamblers  May have ‘thresholds’  Predictions Chance is key Smaller businesses more likely to close Temporal ‘U’-shaped pattern: few closures, rising closures, few closures

Warwick Business School Smaller and younger business more likely to close Bankruptcies and insolvencies as a percentage of the business stock, 1979 – 2006 Bank account data on percentage of surviving accounts that close within the following six months

Warwick Business School 2. Population ecology  Focus on populations: not individual/business  Resources in the environment  Level of competition for resources  Structural inertia  Predictions Industry pivotal (environment), younger and smaller businesses more likely to close, closure due to structural inertia as business gets older But what about the actions of individuals?

Warwick Business School Population dynamics The population dynamics of automotives, tyres, television and penicillin

Warwick Business School 3. Resource-based closure  Four identifiable approaches Lack of financial controls and resources Deficiencies in managerial resources Lack of organisational resources (e.g. inadequate networks) Resource Based View: closure due to a lack of competitive advantages (resources and capabilities)  Different emphases all linked to the importance of entrepreneur/business

Warwick Business School Resource-based closure approaches  Predict that: Smaller and younger businesses more likely to close How people do business is important Sustainable businesses have a source of competitive advantage

Warwick Business School Financial and managerial resources  Entrepreneurship is risky, mainly because so few of the so-called entrepreneurs know what they are doing. (Drucker 2007: 26)  Using ratios is an inexact guide to predicting failure (which ratios? Value of historical information?)  Ask liquidators and entrepreneurs for the causes of failure and two different stories emerge  Evidence that both internal (e.g. management) and external resources (economic climate) are important

Warwick Business School Networks (organisational resources)  Those with inadequate networks are more likely to close but businesses often set up by just one person  Also, limited evidence of a linear association between networks and closure  Price rather than trust is important: evidence is that price-based strategies associated with closure

Warwick Business School Resource Based View (RBV)  Suggests that businesses lacking competitive advantage are more likely to close  Some evidence of importance of innovation and distinctiveness but clouded by the importance of other factors (e.g. industry)  Is RBV tautological?  Most new businesses do not do anything new

Warwick Business School 4. Utility  Mirrors economist’s labour-market view of business entry  Closure occurs because of choice and relative utility of different labour-market states  Gimeno et al. (1997) use ‘thresholds’ and presence of alternative choices to explain why it is that one business may close and another business may continue

Warwick Business School Empirical evidence  Evidence suggests that: Younger entrepreneurs more likely to close their business Less clear cut on sex Mixed evidence on prior entrepreneurial experience Clearer evidence that more highly educated less likely to close their business  Crude approach that has generated few identifiable factors

Warwick Business School 5. Entrepreneurial learning  Odd that prior entrepreneurial experience provides little guide to survival in business  Ought to: doesn’t everyone learn?  Jovanovic (1982) Don’t know your talent level before you enter Even if you have talent might still be unlucky Talent (over time) wins out over luck Entrepreneurs learn passively (learn about their level of talent)

Warwick Business School Modifications and predictions  Frank (1988) and the role of optimism  Ericson and Pakes’s (1995) active learning  Predictions Younger business more likely to close as their owners quickly learn about their talent Smaller businesses more likely to close Strategic orientation and behaviour important Chance is still important

Warwick Business School Criticisms  No real evidence to support entrepreneurial learning  Metzger (2007)  Lottery analogy Each business situation is idiosyncratic Wining might be just down to people buying more tickets (owning businesses) Optimism and the ‘price’ of the lottery ticket (e.g. set up costs)

Warwick Business School Summary of the five approaches

Warwick Business School Conclusions  Examined five approaches to business closure  Each offer a plausible but incomplete picture of business closure  Offer different explanations why younger and smaller businesses close but few other insights  Study of business closure remains the ‘poor cousin’ compared to business entry and growth

Warwick Business School Conclusions  Showed that business closure has both positive and negative impacts  Difficult to define business closure due to the complexities of ‘closure’  No clear measure of business closure or its rate: makes it difficult to see who is ‘entrepreneurial’…and who is not!