The Impact of Learning and Overconfidence on Entrepreneurial Entry and Exit

Abstract

Empirical evidence suggests that entrepreneurs make mistakes: too many enter markets and, once there, persist too long. Although scholars have largely settled on behavioral bias as the cause, we suggest that this consensus is premature. These mistakes may also arise from a process in which entrepreneurs continually learn about their prospects and make entry and exit decisions based on what they have learned. We develop a computational model of this process that connects pre- and post-entry learning and can be directed to analyze Bayesian-rational or biased entrepreneurs. The model suggests that, to outside observers, rational entrepreneurs may appear overconfident, seem to take too long to exit, and exhibit a positive correlation between entry cost and persistence in the market. When examining confidence biases, the model suggests that entrepreneurs whose biases cause them to perform the worst after entry will be most likely to enter, that pre-entry learning induces a positive correlation between distinct confidence biases among entrants, and that exit changes the prevalence of certain biases in the surviving population of entrants over time. Our study also speaks to recent work on pre-entry experience that documents the transfer of knowledge from parent to progeny firms, suggesting that, in addition to inheritance, differential performance may also be the result of heterogeneity in the length and quality of pre-entry learning during which an opportunity is assessed.

Perceived violations of reward delivery obligations in reward-based crowdfunding: an integrated theoretical framework

“…Also, as stated earlier in the paper, prior research related to pre-entry learning (Chen et al, 2018;Fong and Nisbett, 1991;Ivernizzi et al, 2017) indicates that certain decision biases of entrepreneurs as well as the effect of their overconfidence can be mitigated through pre-entry learning and budgeting. While it may not be desirable to overburden an entrepreneur with exhaustive due diligence, it may be possible to provide a reasonable project management checklist or sample legal questions that must be answered, with the answers available on the fundraising page for the project.…”

“…For example, as Fong and Nisbett (1991) noted, decision biases can be corrected through training. Chen et al (2018) characterized entrepreneurship as the unfolding feedback-learning process and their model indicated that pre-entry learning activities have substantial positive implications for the entry decision and varying the length and quality of pre-entry learning shows how experience remedies certain biases, though not all bias. Similarly, Ivernizzi et al (2017) suggest that entrepreneurs' overconfidence can be mitigated by their level of educational attainment and the use of budgetary controls.…”

“…Researchers in the field of entrepreneurship have recently examined psychological factors in the context of entrepreneurial mistakes and failures with a specific focus on overconfidence and narcissism (e.g. Artinger and Powell, 2016;Chen et al, 2018;Hogarth and Karelaia, 2012;Invernizzi et al, 2017;Liu et al, 2019;Navis and Ozbek, 2017). In the context of RBC, we believe that entrepreneurial personality theory provides a relevant theoretical lens through which we can identify specific entrepreneurial personality traits that may partially explain the observed common failures and delays in reward delivery.…”

“…Artinger and Powell (2016) also examined how overconfidence can distort entrepreneurial decisions and lead to entrepreneurs' mistakes in excess entry. Similarly, Chen et al (2018) examined the impact of overconfidence in modifying the entrepreneurs' learning process, altering the pattern of entry and exit decisions. Invernizzi et al (2017) found that the majority of entrepreneurs were prone to overconfident budgetary forecasts which were directly associated with firm failure.…”

Self-Confirming Biased Beliefs in Organizational “Learning by Doing”

“…In this task, multiple alternatives exist, and an agent learns its values through repeated choices [3]. is model has been used extensively in organization science to analyse learning by doing processes, including individual-level processes [31], coupled learning process between individuals (or organizations) [24], and organization-level adaptation [25]. Along with a formal definition, we provide a numerical illustration of SCBB.…”