Module 4 Chapter 9

MODULE 4
CHAPTER 9: Managing Risk and Reward in the Entrepreneurial Venture

Entrepreneurial Ventures - pursue opportunity in an environment of scarce resources
To elaborate:
 The pursuit of opportunity generally requires that the entrepreneurial venture do something
new.
 The pursuit of opportunity without regard to resources currently controlled implies a context of
resource scarcity.
The risks are significant in entrepreneurial venture, so are potential rewards. And, while venture
capitalists can play the portfolio diversification game and the law of averages, individual entrepreneurs
cannot.
Strategies can be grouped in the following general categories:
1. Define and understand the business model.
2. Start small.
3. Conduct conscious experiments.
4. Make fixed costs variable costs.
5. Manage the nature and timing of commitments.
6. Stage financing (a special—but very important—case of the above general principle).
7. Stay flexible.
Defining Risk and Uncertainty
 Risk - “probability of a bad outcome” times some measure of “how bad that outcome is”
 Reward –also a probabilistic function that results from the “probability of a good outcome”
times some measure of “how good it is.”
 RISK AND REWARD CURVE -attempts to describe the risks as well as the rewards
Improving the ratio of reward to risk is a matter of both reducing the probability of loss and the
potential amount of the loss, as well as increasing the probability of reward and the amount of
that potential reward.
 Uncertainty - creates some probability of bad outcome -series of concentric circles that capture
the various elements of “not knowing the future”
The ff. statements represent the circles:

 What is truly unknowable.
 What is knowable but which you don't know, and further, don't even know you don't know.
 What is knowable, but which you know you don't know.
 What you do know, but with an imprecise estimate of the probability.
 What you do know, and with a precise estimate of probability.
1. Define and Analyze the Business Model
The Entrepreneurial Manager course have explored in deal the concept of business models and the cost
and revenue drivers behind them. Suffice it to say that, before one begins a new venture, it makes sense
to have a crystal-clear view of the underlying economics of the business, the basics of how the
enterprise will generate profits, cash, and value for its owners.
It makes sense to understand the actual values of those variable:
 What is a likely response rate for a direct mail campaign?

 What is the renewal rate for existing subscribers?
Research that is done before one actually begins operations (and spends money) can often help calibrate
the key variables in the business model. This reduces uncertainty in the sense that it narrows the likely
range of possible outcomes. Of course, one can always be surprised, but there are fewer surprises when
one's expectations are well grounded.
This advance research also helps answer the questions:
 What can go right?

 What can go wrong?
Given scarce financial and management resources, such analysis can help the team in several ways. The
latter is accomplished by understanding where the leverage is in the business model. Moreover, by
establishing a baseline and a set of expectations, the management team has a well-defined set of
standards against which to benchmark actual results. Thus, this kind of careful up-front thinking
manages risk by reducing uncertainty through advance research.
2. Start Small
One very common approach to managing uncertainty is to start small. First this approach
certainly minimizes the cost of failure, and assuming starting small means starting sooner than
would otherwise be the case, then potentially valuable information will be available sooner as
well.
3. Conduct Conscious Experiment
One of the key strategies that the entrepreneurs have at their disposal is to Conduct Conscious
Experiment. There are several key elements to successful execution of this strategy. First, the
cost of the experiment must be less than the cost of a full-blown rollout. If doing a test-mailing
to 1% of the target market will let you assess which price and promotional message achieves the
highest response rate, great. But if you are building a look. It pays to recognize which variables
can be nailed down with experimentation and which will need to remain uncertain until full-
scale operation begins. Next, some experiments are pure "research" while others are
conducted within the context of an operating business. For example, a new company with a
novel drug delivery technology found resistance to its idea at the conceptual level. The
technology required encapsulating the drug in a powder, and drug companies believed that the
chemical qualities of the drug would render the powder unfit for this use.
 The goal of experimentation is maximum "unit" of risk reduction per dollar spent. Thus, two
variables come into play the cost of the experiment and the amount of risk reduction it buys. That is,
it pays to do cheap experiments first, but it also pays to experiment early on those business model
drivers that have a high probability of failure.
 If the probability of a bad outcome is high, then learning this early can save you a lot of money. This
is why the "option to abandon" is so valuable in risky ventures, because there is a substantial
probability that the option will be exercised. Thus, it makes sense to run experiments on the "weak
links" and "deal killers" as soon as practical.
4. Make Fixed Cost Variable Costs

- One of the effective strategies when it comes to reducing the resources required to get into
business.
- It does not only do approaches minimize-up, front costs, but they also increase flexibility.
-Lastly, this strategy also reduces the cost of failure, by minimizing the investment requirement.
5. Manage the Nature and the Timing of Commitments

- It’s one of the key tools available to the entrepreneur to manager risk.
-This approach renders the concept of breakeven meaning less.
-It should be recognized that this is not always a zero-sum game of simply transferring risk from
the entrepreneur to some other party
6. Stage Financing
- Method many investors use to reduce their risk when funding companies.
-This is another way of managing risk.
-It reduces the level of the risk bearable level, allowing risky ventures an opportunity to get
financed.
7. Stay Flexible
-Flexibility a risk-reducing strategy,
-Being a flexible-firms needs to be able to change the product they produce, customers they
produce, and business model.
PREPARED BY:
ANIVES, ANGELICA D.
AVENIO, RENZMIR C.
REYES, MARIA CHRISTINA A.

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MODULE 4

CHAPTER 9: Managing Risk and Reward in the Entrepreneurial Venture

Strategies can be grouped in the following general categories:

1. Define and understand the business model.

3. Conduct conscious experiments.

4. Make fixed costs variable costs.

5. Manage the nature and timing of commitments.

6. Stage financing (a special—but very important—case of the above general principle).

Defining Risk and Uncertainty

The ff. statements represent the circles:

It makes sense to understand the actual values of those variable:

 What is a likely response rate for a direct mail campaign?

This advance research also helps answer the questions:

 What can go right?

4. Make Fixed Cost Variable Costs

5. Manage the Nature and the Timing of Commitments

REYES, MARIA CHRISTINA A.

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