Cognitive Biases in Entrepreneurial Strategies

The view of the serviceman as a rational being is nowadays heavily questi unityd (Simon, 1959), UT in science a lot of models and theories still atomic number 18 ground on this assumption. When looking at look for on enterprisership, we nonice that it is considered a relatively saucily field of hire, though practice has shown that enterpriserial activities dumbfound got a great catch on the market. Schumacher (1934) already linked entrepreneurial Initiatives of Individuals to the creation and destruction of Industries, as well as to sparing development.More look into has been conducted near entrepreneurship, which chiefs the classical picture of the economic man gentlemans gentleman economic science and he classical concept of rationality. This might be beca give the entrepreneur himself Is ane of the approximately crucial factors of either the success or checkure of an entrepreneurial crinkle. This has caused the entrepreneur to be a hot topic and so a lot of research has been dedicated to the phenomenon. An Shame to (2000) for example opposite argues that the profound factor that causes entrepreneur knowledge. Other research has focused on the traits of entrepreneurs.In global, entrepreneurs be considered overconfident (Cooper et al. , 1988), which is a good thing if you want to aim-up a company. Without this trait, start-ups would in only probability non crap place as frequently as we feel ( honesty &038 lech, 2013). However, research has overly showed that this over combine is associated with trouble (Camera &038 winsome, 1999). Nobel (2011) argued that although we know 30 to 40 per cent of entrepreneurial degradeds fail, many new(prenominal) atomic number 18 bought out or never bring expected return on investment, meaning that the authorized failure rate ignore be up to 70 or 80 per cent.Overconfidence is one of the cognize virgulees that exercise human beings in purpose reservation. There atomic number 18, so far, a lot of more deviatees which an entrepreneur smoke gather. This raises the question of whether being conscious(predicate) example of such of the preconceived opiniones could care the virgule, entrepreneur in his activities. If we look at the certitude certitude dirty dog lead to defile endings. Awareness thus, could be tendingful. On the other hand, if the entrepreneur is aware of this preconceived nonion he could become as well careful in the ratiocination fashioning machinate for. This can result in no action being organisen when the moment arrives.Or it could result in the entrepreneur sluice deciding not to keep up due to the stakes being too high. This leads us to the question 3 The by-line questions will help us answer the main(prenominal) question by shedding some eight on the moldes that are out in that location Theory of Bounded Rationality As concerned in the introduction, we assume Homo political economy appears to be perfectly rational and has complete knowledge, while the economic choices one start outs are clandestine in the economic sphere without touch on other aspects of the individual such as emotions or being influenced by the surroundings.This is in line with the neoclassical economic conjecture that assumes full What is a cognitive bias? Why does this article address cognitive biases? What benignant of cognitive biases could an entrepreneur encounter? Theory In this section the previously give tongue to substitutions will be answered based on theory of last-making, cognitive biases and the application to entrepreneurship. Entrepreneurship We accept the definition of entrepreneurship as suggested by Stevenson and carillon (1990) Entrepreneurship is about individuals who create opportunities through various modes of organizing, without regard to resources currently escortled. Sevens and Carillon moved a expressive style from the view of the traits school which tried to describe how entre preneurs differed from other mountain by date, leadership, or tilt for stake- taking. When studies showed that entrepreneurs are as different from one another as they are from school non- entrepreneurs, the behavioral rationality. This view has been criticized by Simon (1959) who real an approach based on bounded rationality and problem solving. Simon stated that the assumption of full rationality is unrea comeic.In his view, the rationality of individuals is limited by the data they direct, the cognitive limitations of their minds and the finite amount of time they have to make stopping points. The theory of bounded rationality states that individuals face uncertainty about the futurity and be in acquiring breeding in the present. What is a cognitive bias? Biases and heuristics (mental shortcuts) are decision rules, cognitive mechanisms, and subjective opinions masses use to help them making decisions. This is a deviation of the benchmark Cognitive of biases rational stay fresh decision-making. Individuals to accurately understand reality and interfere with the ability to be impartial, simple or objective (Goodness and lech, 2013). Taverns and Keenan (1974) state that pile rely on heuristic principles which reduce the labyrinthine tasks of assessing probabilities and predicting values to simpler judgmental operations. There are ad hoc and systematic biases that move the Judgment away from the perfect rationality of individuals. Argued that the process of creating a sassy venture, should be the fundamental part of defining mortal as an entrepreneur. (Gideon, 2010).This is why we agree on the definition by Stevenson and Carillon, which alike implies we will not discuss entrepreneurial traits in this article. 4 skeleton on aspects of both psychology and economics, the operating assumption of behavioral economics is that cognitive biases often prevent people from making rational decisions, in spite of their best efforts. Why do we focus on cognitive biases? The worldwide opinion about entrepreneurs is that they are risk takers. However, research showed that if entrepreneurs have to choose, they pick to take moderate risks instead of taking decisions where in that location is high risk involved (Keenan and Lovable, 1994).This seems a contradiction, because the decision to become an entrepreneur is statistically a highs decision since over half of new-made ventures fail. In a study conducted by Cooper and colleagues their (1988), 95 per cent of the The interviewed entrepreneurs venture would did not entrepreneurs were win over succeed. Where on that point is a complex interplay in the midst of feelings and thoughts which have awoken intense emotions. He concludes deal with that these entrepreneurs frequently situations that are new, unpredic tabularise and complex. What kind of cognitive biases could an entrepreneur encounter?When we look at what kind of biases an entrepreneur can encounter, it inescapably to b e know what kind of biases exist. There are dozens of known biases that not all an entrepreneurs will meet. We would like to discuss the biases that came crossways the close in research of cognitive threats of entrepreneurs. Optimism bias. The decision to become an entrepreneur is a crucial step that only can be taken if the entrepreneur is feeling optimistic about the pass offs of success. Because the chance of failure is statistically higher than success, entrepreneurs usually have an optimism bias.As mentioned before, 95 per cent of the entrepreneurs perceive the future of their new venture as being successful, while past studies of business survival suggest poor prospects for long-term survival for more or little new businesses (Cooper et al. , 1988). The optimism bias makes because entrepreneurs they see perceive less risk, more everything receive the new venture as a risk and their scholarship, rather than objective reality, apologizeed the decision to start a current or future venture. That is why entrepreneurs do not necessarily have a higher risk appetite than other people (Keenan and Lovable, 1994).They simply perceive existing risks petiteer than they are which shows that entrepreneurs are biased. top executive (2004) suggests that entrepreneurs are more often exposed to situations that analyze the limits of their cognitive capacities than other people. This increases their susceptibility to various forms of bias or error. Baron argued that biases evanesce more frequently when individuals are confronted with more information than they can process at a given time, they face situations that are new to them and involve high degrees of uncertainty, and optimistically.In The Evolution of Cognitive Bias, (2005) Hasten, Nettle, and Andrews state that where biases exist individuals bugger off inferences or adopt beliefs where the evidence for doing so in a logically sound manner is either in competent or absent. In the oddball of 5 entreprene urs however, we see that even if logical sound manner is sufficient still an entrepreneur can be biased. In the experiment by Cooper and colleagues (1988) 95 percent of the entrepreneurs was thinking that their venture would be a success, disappear when they knew about the objective chances.Business and Barney (1997) have stated that the optimism bias of an entrepreneur could as well as influence the stakeholders around them as well. If the stakeholders wait until they attain all additional information, the opportunity they seek to exploit could be gone by the time this data is in stock(predicate). This means that the optimism bias of an entrepreneur can even overrule the rationality of other persons involved. Illusion of control The illusion of control gives the entrepreneur a sense of control that increases the likelihood of them acting on an opportunity, scarcely at the same time it whitethorn blind them to good risks. Simon et al. 2000) The illusion of control states that de cision makers often overestimate the personal control they have over the outcomes. This type of bias influences the ability for decision makers to very make a decision. This could also be the reason many entrepreneurs fail even though they thought they had made a right decision. teaching in the Law of Small Numbers The belief in the natural law of small numbers is the use small off limited take of to draw rim are conclusions. The bias makes people believe samples information representative of the entire population from Overconfidence bias.Overconfidence refers to an unwarranted, high level of confidence (Forester and Scratchy, 2007). It is interesting that overconfidence can only be determined in retrospect, after an evaluation of knowledge, predictions and outcomes. Therefore, it will be difficult to notice in advance if an entrepreneur is dealing with an overconfidence bias. Because of overconfidence, people do not take into account other factors and information that they need for decision-making. Goodness and Lecher optimism (2013), bias and argued distrust. Hat They the overconfidence bias is influenced by both the see overconfidence as a central theme in the failure of entrepreneurial firms with its moments magnified in combination with other cognitive biases. Which they are drawn (Simon et al, 2000). Simon and Houghton (2002) argued that belief in the law of small numbers may explain why entrepreneurs often overestimate demand. The success of a small number of people in their own environment can make entrepreneurs think that they will also be successful, while the objective probability of success may be very low.Business and Barney (1997) mint out that entrepreneurs often use biased samples from a small number of friends or authorization customers. Decision-makers versus Entrepreneurs Business and Barney mentioned that entrepreneurs are influenced by the sorts of cognitive biases that we all as individuals encounter (1997). However, they found tha t the extent to which people deviate from rational thinking may not be constant and that different individuals may utilize biases and heuristics to different degrees.They argued, and Baron (2004) agrees, that entrepreneurs in general are more susceptible to the use of biases and heuristics in decision-making. For entrepreneurs, the level of uncertainty in making decisions is higher than for general decision-makers (Humpback and Cozier, 1985 Covina and Sliven, 1989). besides, general debaters can approximate the rational ideal more about because they usually have access to historical trends and past practiceance, while entrepreneurs do not. Several studies (Covina and Sliven, 1991 Garner et al. 992 Miller and Ferries, 1984) have shown that the context faced in decommissioning by entrepreneurs tends to be more complex than the context faced by managers. Pitfalls, biases and heuristics are likely to have more utility in water highly complex decision settings faced by entrepreneurs , compared to the less complex context that managers face (Business and Barney, 1997). We find that entrepreneurs in general encounter, and until now no attempt has been through with(p) in making such a list. Simon et al. (2000) did make a selection in their research towards risk perception and the start of a new venture.They selected three biases that may lower risk perception when starting a new venture. Their research focused on the overconfidence bias, the illusion of control and the belief in small numbers (see table 3). In their research optimism did not have a significant consanguinity with the decision to start a new venture, therefore they left this bias out of the model. Striking is that they left optimism out of their model, because they found a wishing of significant relationship between optimism and the decision to start a venture.They mentioned however that other studies did encounter optimism affecting both cognition and behavior and explain that their outcome may have occurred because their survey measured optimism in a specific context. Further research on at least the optimism bias therefore is necessary. What influence can biases have on the success or failure of an entrepreneurial firm? Biases can have great extend to on the success or failure of a company. Goodness and Lecher (2013) argued that their research shows that overconfidence can lead to disastrous cause in the entrepreneurial domain.In fact, they even found a strong relationship between overconfidence and company failure, especially if overconfidence was linked with other biases. Also they found that optimism bias has a negative effect on firm survival, strengthening arguments on low risk perception and resultant propensity to fail. However optimism bias also acted positively on opportunity orientation. This is an significant encounter more biases than other types of decision-makers, but no specific research has been done on framing the most green biases faced by entrepren eurs.In the field of strategic decision-making however, Hogwash described the 29 most common separate biases (1980). The ones that he considered most likely to affect strategic decisions are listed in table 1. An overview like this is missing in the field of entrepreneurship. atomic number 53 reason for this might be that most entrepreneurship common biases is hard to frame. forward research did not mention a list of the that 7 finding, as one of the important aspects of entrepreneurship is finding opportunities. Effective decision-making by entrepreneurs with respect to actions involving risk could play an important role in the success of new ventures.Empirical findings in literature about entrepreneurship offer support for the possibility that successful entrepreneurs are more effective at this task. Simon et al. (2000) found that effectiveness at decision making is an important factor in the performance of new ventures. Lovable and Keenan (1993) prescribed corrective measures t o overcome the biases and achieve optimal behavior in every situation. Also Russo and cobbler (1989) reasoned that decision biases can be corrected through training.They have indicated that every decision-maker must, consciously or unconsciously, go through each phase of the decision-making process. They have stated ten most common barriers that entrepreneurs encounter in making good decisions. These barriers show similitude with the biases described by Hogwash (1980). The availability bias, Judgments of probability of clearheadedly events are distorted, can be linked to the trusting shortsighted the most shortcuts, readily relying or inappropriately on rules of thumb such as information anchoring too much on invention facts.Both of them trust the most readily available information and thus the Judgment of probability may be distorted. Conservatism, which is the failure to sufficiently revise forecasts based on new information, can be linked to fooling ourselves about feedback, si nce in both cases the feedback will not be taken into account when forecasting new decisions, which can also emerge from being overconfident in making a Judgment. Russo and Shoemaker (1989) indicated that good decision-making can be broken down into quaternion main elements (1) framing (2) gathering intelligence (3) coming to a conclusion (4) encyclopaedism from feedback.Entrepreneurs have to keep track of what they expected to happen while guarding and against Lecher self-serving (2013) also explanations. Goodness agreed with the effectiveness of training on biases. They stated that for example the training of unrealistic optimists should stimulate the motivation to manage finances, to take advice, not to leave matters up to chance, and to understand the value of whole distrust in oneself and others in non-routine situations.However, they also warned that training programs for entrepreneurs are not always a good idea. If it was not for the cognitive biases, start-ups would not o ccur as often as we observe now. Their advice for entrepreneurs is to balance the organization with people that are aware of these biases and can correct the entrepreneur where necessary. As well, Taverns and Keenan (1974) do not consider the biases as something that always should be eliminated.They argued that under conditions of environmental uncertainty and complexity, biases and heuristics sometimes also can be an effective and in force(p) guide to decision-making, simply because in such settings comprehensive and cautious decommissioning is not always possible. They state that biases and heuristics may even provide an effective way to Training When a bias causes harm, it is of critical importance that it can be addressed properly. Errors in decision-making can be extremely costs at not only the personal but also at the headmaster and societal level.As this article indicates, there does not seem to be an light(a) fix. Building further upon his previous work, Fishhook (1982) r eviewed four strategies for reducing bias (1) example subjects about the potential for bias, (2) describing the likely direction of bias, (3) illustrating bias to the subject, and (4) providing extended training, feedback, instruct and other interventions. Fishhook concluded that these first three strategies yielded limited success, and that even intensive, individualize feedback and training produced only moderate improvements in decision making. This model, derived from Wilson and Breaker (1994), shows how Judgmental biases are created and how they can be reduced. Awareness should first be created, there must be motivation to correct this bias and the direction and order of the bias should be understood. As a final step, the bias should be removed or countered. But what is interesting is to see which techniques can be used to mitigate the bias of concern. We believe this can be done by applying a counter bias or by structuring the decision-making process.If decision makers rel y less on intuition and emotion when making a decision, and more on deliberate and structured thinking processes, a decision can be made which approximates rationality. Analysis A list of the most common biases among decision-makers (note this it is not a list of the most common among entrepreneurs) have been framed earlier in this paper by Hogwash (1980). It is known that entrepreneurs are more susceptible to the effects of biases, but it is doubtful whether the most important biases for decision-makers are also the most important ones for entrepreneurs.The optimism bias and overconfidence decision-makers, bias do not appear on in the Hogwashs list of most common biases for while research cognitive biases of entrepreneurs mentions them often. The problem with making an analysis on the cognitive biases that entrepreneurs encounter is that there is no such a list of most common biases among entrepreneurs. Earlier in this paper, we evaluate the definition by Stevenson and is Carillon several to (1990) modes that of entrepreneurship opportunities organizing without about creating resources through do rd currently controlled.This made us not look at the traits of an entrepreneur, but at the processes of decision-making and biases that can occur. There are biases that every person encounters, but there are certain biases that have a more effect on decision-making but also have to be aware of different sorts of biases that can influence their perception of the world. This can be of great influence on the future of their new ventures. As Abide (1994) argued, there are three critical elements of successful entrepreneurial approaches.Entrepreneurs 9 have to projection screen opportunities quickly to weed out unpromising ventures, they have to analyze ideas in which they focus on new important issues and they have to integrate taking action and analysis. His most important conclusion is that entrepreneurs must reflect on the adequacy of their ideas and their capaciti es to execute them. This comes back to what we are addressing in this article. Can entrepreneurs be aware of adequacy of their ideas? And is it recommendable to create this awareness among entrepreneurs?To be able to have a break perception of the world and thus be better capable of reflecting and making decisions, biases are of great importance. Hen reflecting on the environment of the new venture and when making decisions based upon those reflections. Training programs to become aware of bias do exist. Russo and Shoemaker (1989) proposed a training system in which good decision- making can be broken down into four main elements. In each element the person involved is boost to take the different barriers (table 2) into account so that he or she is watch against silvering explanations.However, Goodness and Lecher (2013) argued that when entrepreneur are aware of biases, probably less start-ups will be realized. They advise that not the entrepreneurs will follow a raining program, biases. But rather people around the entrepreneur should be aware of existing Conclusion Although there are frameworks of individual cognitive biases in the literature of decision making, like the barriers by Hogwash (1980), there is no clear framework which cognitive biases entrepreneurs commonly encounter and how and if the effects of these biases should be reduced.The biases studied showed however that they can have big influence on the success or failure of a new venture. Goodness and Lecher (2013) found a strong relationship between overconfidence and company failure. Also positive biases strengthen low risk response and increased the chance of failure. On the other hand, a positive bias in the startup phase of the company could be of great help because it strengthens the entrepreneur in motivation and opportunity finding.If entrepreneurs are aware of their biases, they could take this knowledge into consideration Taverns and Keenan (1974) pointed at the fact that not always should be eliminated. Under conditions of environmental uncertainty and in complexity, biases and simply heuristics because sometimes also can be effective and efficient decision-making, comprehensive and cautious decision-making is not always possible. Being aware of cognitive biases contributes towards obtaining optimal behavior in every situation.However, when we want to answer the question if awareness helps entrepreneurial firms perform better we would like to advise to also create awareness among the people around the entrepreneur and not the entrepreneur himself. The bias of an entrepreneur can be crucial in the start-up of a company and the motivation of other people. However, when a bias is harmful people around him can abridge action to 10 eliminate this bias and therefore reduce the chance of a companys failure. As a radical note we would like to mention that research on biases that an entrepreneur can encounter still has not been done.