Cognitive biases are an entrepreneur’s best enemy
Of course you need a good business plan to be a successful entrepreneur. This includes an underlying idea on which the company’s creation is based, and a precise view of the business potential. You will also need to define your strategic goals and create an action plan for implementing your business idea. A budget for the next three to five years is also required.
But even an exceptional business plan is not enough. In this article we will take a closer look at certain cognitive biases that can be an entrepreneur’s best friend or worst enemy.
A good business plan is an indispensable starting point.
Self-confidence is good, but…
Studies show that the likelihood of becoming a successful entrepreneur is highest for those with an excessive degree of self-confidence who systematically overestimate their chances of success. Those who are risk averse do not have the right attitude to embark on the adventure of setting up their own business. And what’s more, it would never occur to this type of person to become an entrepreneur.
It has also now been established that overconfidence and an appetite for risk are key requisites when it comes to innovation and setting up a business. But that doesn’t make them a guarantee of success. The likelihood of failure is high if you fail to recognise cognitive biases. It makes sense to recognise and avoid irrational misconceptions. However, current research shows that behaviour that is too rational does not promote entrepreneurial success and may even be a serious disadvantage.
In general terms, the best approach is to remain optimistic and be aware of the biases that influence entrepreneurs. While some of these biases have a negative impact, others represent the basis for success. As is often the case, it’s all about the right balance! Simply making a list of these biases is not enough to take advantage of them, entrepreneurs must learn to handle them properly.
A study published in 2020 by Haili Zhang, Hans van der Bij and Michael Song entitled “Can cognitive biases be good for entrepreneurs?” suggests that business founders must find the right balance between two ways of thinking – the availability heuristic and representative heuristic.
Entrepreneurs need the right personality and approach that allows them to withstand stress.
Quick and easy decisions
The availability heuristic describes our tendency to take decisions on the basis of thoughts that come to mind quickly and easily. When taking decisions, we have a tendency to consider only a part of the available information that is required to make the right decision.
This bias is often seen together with excessive confidence in our own judgement and abilities. It misleads entrepreneurs into using false causality to retrospectively attribute the outcome of events solely to their actions.
This way of thinking may appear dangerous, but it does have one major advantage – it allows company bosses who are under pressure and constantly reacting to a variety of issues to make quick decisions without getting swamped by a mass of information.
The individual case as prototype
The representative heuristic describes the general tendency to make generalisations on the basis of individual cases. For example, a would-be entrepreneur trying to convince their family of the success of their business project will talk only about entrepreneurial success stories, implying that their own project will also be successful. Yet each example of success cited is in reality an individual case. And the would-be entrepreneur ignores the fact that the success stories puffed up by the media are extremely rare in comparison to the very high number of unsuccessful entrepreneurs. As a reminder, 80% of companies filing for insolvency do so in their first 18 months.
The illusion of having everything under control also plays a major role in the representative heuristic. Prospective entrepreneurs often massively underestimate how important luck is to success, while overestimating the importance of their own skills.
A cushion for strong emotions
If we only consider the topic of cognitive biases on a superficial basis, they inevitably appear to have a negative impact. Yet studies show that – as we have already indicated – you need to be strongly influenced by these biases to have the courage to start your own business and to stick with it over the long term.
Founding a company is a risky venture full of emotion. It is not always sensible to consider each step of the way from a purely rational stance. Sometimes you have to jump in head-first.
Follow your instincts, but to just the right extent.
To withstand this emotional rollercoaster, entrepreneurs need a personality and an approach that allows them to withstand stress, stick to their convictions and remain optimistic. In this respect, the cognitive biases we have talked about are very useful. It is ultimately human instinct that ensures our survival when threatened with danger. On the other hand, that shouldn’t result in us becoming complacent with regards to our own instincts.
One last tip: in order to remain grounded and evolve further, it is key for entrepreneurs to surround themselves with people they trust who view things from a different perspective. But they mustn’t let these opposing views slow them down, even if certain decisions are fraught with risks.