{"id":1431,"date":"2022-05-09T09:54:00","date_gmt":"2022-05-09T07:54:00","guid":{"rendered":"https:\/\/insights.ieseg.fr\/?p=1431"},"modified":"2024-03-26T12:06:35","modified_gmt":"2024-03-26T11:06:35","slug":"growth-or-profitability","status":"publish","type":"post","link":"https:\/\/insights.ieseg.fr\/en\/resource-center\/growth-or-profitability\/","title":{"rendered":"Growth or profitability: what should come first?"},"content":{"rendered":"\n

The rapid growth of firms, including new ventures, is regularly lauded by policy makers, the media, researchers, and other stakeholders as something which is overwhelmingly positive and even a benchmark of successful entrepreneurial performance. A major new *study by Professor Cyrine Ben-Hafa\u00efedh (I\u00c9SEG School of Management), and her co-author Professor Anais Hamelin (EM Strasbourg), questions the \u2018growth at all costs\u2019 dogma. <\/strong>Their findings demonstrate that firms that initially prioritize profitability before growth are more likely to successfully secure both profitability and growth than those focusing primarily on growth. They also found that companies that focus primarily on growth (before profitability) are also more likely to end up with low growth and low profitability. In their paper, they explain how their findings raise important questions notably for entrepreneurs, policymakers and entrepreneurship educators.<\/p>\n\n\n\n

Unicorns, gazelles\u2026 and the entrepreneurial landscape<\/h2>\n\n\n\n

In the field of startups, Professor Ben-Hafa\u00efedh explains for example that growth has often been considered the hallmark of entrepreneurial success. Unicorns (startups valued at over 1 billion dollars) and Gazelles (new ventures experiencing extremely rapid growth) are frequently acclaimed by the media and policy makers, but, nevertheless represent a small minority of the total number of startups. In France, for example the arrival of the country\u2019s 25th<\/sup> unicorn was acclaimed<\/a> earlier this year by the French President and the media. In the US, the Silicon Valley model is often characterized in terms of (hyper) growth, and acquiring venture capital before a successful IPO (Initial Public offering) like those of Uber, Dropbox etc.<\/p>\n\n\n\n

\u201cI have long been fascinated by entrepreneurial teams and collective entrepreneurship,<\/em>\u201d explains Professor Ben-Hafa\u00efedh. \u201cSome of my previous research had shown that new companies (those which survive) led by teams were more likely to grow more than those run by a sole entrepreneur. This led me to investigate ambitious entrepreneurship and, together with my coauthor, we noted that there were a lot of unanswered questions for example relating to profitability and growth.<\/em>\u201d <\/p><\/blockquote>\n\n\n\n

What should be the primary focus for entrepreneurs \u2013 growth or profitability? How do both impact the performance and sustainability of startups?<\/p>\n\n\n\n

The basis for a massive replication study<\/h2>\n\n\n\n

\u201cWe were very aware of the study carried out in by Per Davidsson and colleagues in 2009 which addressed the question of how firms end up in the enviable position of high performance in terms of both profitability and growth. Their main result was they needed to grow from profits; and putting growth first was like putting the cart before the horse. We were curious why these findings had not made more noise in entrepreneurial and policy circles, or why there had not been more research in this area<\/em>,\u201d Professor Ben-Hafa\u00efedh explains. The researchers therefore decided to do a follow up, a massive replication study that incorporated a larger sample of companies, countries, and lengthened the timespan of the study to address the question of sustainability.<\/p>\n\n\n\n

Professors Ben-Hafa\u00efedh and Hamelin used a database of over 650,000 small and medium enterprises (SME) from different sectors in Europe, which represent nearly 40% of SMEs in the EU to study their growth (in terms of sales, assets, and employees) and their profitability over the period from 2011 \u2013 2019. This enabled the researchers to assess the medium and long-term effects of their initial strategy orientation.<\/p>\n\n\n\n

Results \u2013 the importance of the initial strategic orientation<\/h2>\n\n\n\n

\u201cWe found that companies (across different sectors) initially focusing on profitability were 2.5 times more likely to end up in what researchers refer as the \u2018star category\u2019 which alludes to high profitability and growth,<\/em>\u201d notes Professor Ben-Hafa\u00efedh. \u201cThis is a great achievement as it is very challenging for new ventures to end up with both high profitability and growth as these two aims can be in direct opposition. Furthermore, we found that SMEs focusing their initial strategy on growth were more likely to end up with poor performance in terms of both growth and profitability<\/em>.\u201d<\/p><\/blockquote>\n\n\n\n

The researchers have shown that early strategy decisions made by companies are therefore very important and can have a long-term impact on their performance. \u201cFor many entrepreneurs, therefore, I believe the key message should be profitability comes before growth<\/em>.\u201d<\/p>\n\n\n\n

However, she does nuance the findings of the study by noting that there are examples of companies that have \u2018grown profitable\u2019.  Such cases can be seen in \u2018new markets\u2019 where the \u2018winner takes all\u2019 and where investors therefore use a logic of high risk and high reward. \u201cBut even then we can see that some of these \u2018examples\u2019 only became profitable some years after their IPO\u201d, she adds. Their paper also recognizes that the high growth firms have been shown to contribute disproportionately to job creation and economic growth.<\/p>\n\n\n\n

Potential applications for policymakers, entrepreneurs and educators<\/h2>\n\n\n\n

However, Professor Ben-Hafa\u00efedh believes it is important to change the perception that growth systematically \u201cdraws the profit cart\u201d: \u201cThis may be the case for an infinitesimal number of startups and SMEs but this certainly is not representative of the overall entrepreneurial landscape.<\/em>\u201d<\/p>\n\n\n\n

She suggests that policymakers should rethink their growth-oriented strategies to put more focus on the importance of profitability. \u201cOf course, specific policies and support mechanisms are needed for unicorns and other high-growth companies, but these are just not relevant for most entrepreneurs who don\u2019t have such growth ambitions. Our results imply that growth-oriented strategies should not be indistinctly encouraged. And when fostering growth, profitability should be the initial focus if the end objective is to sustain this growth<\/em>\u201d.<\/p>\n\n\n\n

For entrepreneurs, she notes the message might depend on the type of market they are entering.  \u201cif you are not in a specific type of market where \u2018blitzscaling<\/a>\u2019 makes sense and are looking for venture capital, I would recommend that you focus on profitability first and growth will take care of itself\u201d.<\/p>\n\n\n\n

She also notes that the study has important messages for entrepreneurship educators: \u201cI believe it is important to stop overfocusing on the growth dogma. Too many lectures focus on growth, the black swans (rare and random events) and other fast-growing ventures, which does not portray the reality of the overall landscape<\/em>\u201d.<\/p>\n\n\n\n

Professor Ben-Hafa\u00efedh now hopes to follow up on this work by, on the one hand, examining more closely the trajectories of the successful vs. failed ventures and, on the other hand, by looking for at different ways of measuring the success of new ventures that incorporate entrepreneurs\u2019 and other stakeholders\u2019 goals.<\/p>\n\n\n\n

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