17 July 2017

Should a startup write a formal business plan or not? Professor Francis Greene weighs in on the debate.

When asked about an opponent’s plan for their impending fight, former world heavyweight champion Mike Tyson once said: “Everyone has a plan until they get punched in the mouth.”

It is a school of thought now fashionable in entrepreneurship circles. Advocates of “learning by doing” approaches such as the lean startup say it is better to act, improvise, and pivot than to waste time and resources on a 20-page plan that won’t survive first contact with the customer.

In stark contrast, the “purposive planning” approach advises that a plan helps usefully map out, organize, and direct the startup. A plan answers central questions such as “Where are we know?” “Where do we want to get to?” and “How are we going to get there?”

A plan helps detail how the opportunity is to be seized, what success looks like, and what resources are required, and it can be key to the investment decisions of angel investors, banks, and venture capitalists.

The truth, though, is that we just don’t know if it pays to plan. For every study that shows it does, another study comes along and says that startups should learn by doing. This has done little to help the would-be entrepreneur decide whether to plan.

The starting point for our research was that insufficient attention has been given to why entrepreneurs plan. There is a range of contextual factors that prompt the decision to plan. This includes everything from past entrepreneurial experience to the need for external finance and the urge to grow the business or to innovate.

Not examining the context for planning has another side effect. An entrepreneur’s background and startup conditions have a big impact on the chances of that business becoming viable. Better-financed startups are more likely to succeed. So are more experienced entrepreneurs.

We wanted to study entrepreneurial planning but with more context than previous efforts. To do so, we turned to the Panel Study of Entrepreneurial Dynamics II. This tracked a representative sample of more than 1,000 would-be U.S. entrepreneurs over a six-year period (2005 to 2011). Along the way, the study has gathered some of the most comprehensive data ever collected on the characteristics of startups and their founders. It details the full range of activities undertaken to get the business off the ground and, crucially, whether it reaches a key measure of viability: reaching cash flow positive.

We separated would-be entrepreneurs into two groups: those who write a formal plan and those who don’t. We used a common statistical method to ensure that the two groups were, in effect, statistical twins — identical in all respects except that one twin writes a plan and the other does not. This meant that we could establish if the startup planning or nonplanning “twin” was more likely to achieve venture viability.

We found that it pays to plan. Entrepreneurs who write formal plans are 16% more likely to achieve viability than the otherwise identical nonplanning entrepreneurs. More than that, we were also able to see what makes people write business plans in the first place.

Two findings stood out. First, high-growth oriented startup entrepreneurs are 7% more likely to plan, while those with innovative, disruptive ideas are also marginally more inclined (4%) to plan than their peers. The inference is that planning is of more benefit when the challenges are greatest.

Second, entrepreneurs seeking external finance are 19% more likely to commit their vision to paper than those not seeking finance.

Writing a plan can make the difference when it comes to realizing startup success. Plans support the process of turning an entrepreneur’s vision into tangible actions by promoting the organization and direction of startup activities.

In the real world, though, entrepreneurs rarely start with the question “To plan or not to plan?” More often than not, they begin with a hazy vision of what success might look like. In these early stages, they may improvise or experiment to bring this vision into better focus, but as the startup begins to take shape, and innovation and growth become important, a plan begins to become necessary for the startup to succeed.

Plans also remain vital for external fundraising because it builds legitimacy and confidence among investors that the entrepreneur is serious. Further, it reassures staff, suppliers, customers, and other key stakeholders.

Writing a plan is unlikely to be best for all entrepreneurs. But if an entrepreneur wants to raise money and grow quickly, eventually they’ll want to write a plan.


Professor Francis Greene is Chair in Entrepreneurship at University of Edinburgh Business School.

The original version of his post appeared on the Harvard Business Review. 

 

Image source: @istockphoto/Rawpixel