Two Risk Profiles of Entrepreneurs

Following up on yesterday’s post about how entrepreneurs approach risk, I spoke with Steve King today about two different types of small business owners with different risk profiles.

On one side are conventional small businesses, which are risk-averse. The owner’s personal wealth is tied up in the business. It’s probably her most valuable asset (or second to her home) and she’s faces big downside risk if the business fails.

On the other side are investor-backed start-ups — companies aiming for high growth and playing with other people’s money. This is key. Once entrepreneurs sell a significant amount of equity to venture capitalists or angels, the investors have taken on a lot of the downside risk. The VC model lets start-ups swing for the fences, with the understanding that a lot of times they’ll strike out, but that won’t leave the founder flat broke. Entrepreneurs can even benefit financially if the venture fails. “A lot of people have gotten rich building businesses that failed,” King says.

But I’m also interested in the people in between: Entrepreneurs bootstrapping growth ventures on their own dime. They’re often risking their personal wealth like Main Street small business owners to try to build Silicon Valley-style enterprises that scale. “Those people tend to fall into the more traditional small business risk profile, because they are putting their money on the line,” King says.

Jonathan Fields also brings up a good point in the comments on yesterday’s post: Small businesses are learning how to scale with minimal risk.

Some models require substantial investment of money and ramping up of overhead and complexity. More and more, though, freelancers and small businesses are discovering ways to scale that reduces risk and complexity by commoditizing and distributing knowledge.

Examples include copywriters and marketers who develop niche specific campaigns, test them, then license their use, instead of selling it one time. Or designers who create and distribute DIY branding information for small businesses.

SO, I agree, the massive scale homeruns tend to require more cowboy-oriented risk, but increasingly, most small business people can scale to a very satisfying level without the exposure and complexity that was required just a few years ago.

This goes back to the earlier discussion of microenterprise as a safety net. It’s possible to support yourself and grow at a respectable rate (if not a “home-run” pace) without taking on the kind of financial risk that investor-backed companies do.

I also love this anecdote from Barbara Winter:

I once got a call from an investment broker. When I told him my primary investment was my own business, he sounded shocked and said, “Isn’t that risky?” I replied, “Not as risky as giving my money to a stranger over the phone.” What others perceive as risk doesn’t feel like it to people who understand creative problem-solving and are flexible and willing to change as situations warrant. And small businesses can adjust more quickly than big dinosaur organizations.

Please keep the stories coming. How much of your personal wealth do you risk in your business? How do you minimize risk in your venture? For entrepreneurs who both bootstrapped and raised money, do you approach risk differently in an investor-backed company? Has your approach to business risk changed in this recession?