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Firms In Financial Distress Are Unintentionally Driving Entrepreneurship, Says Research From Columbia Business School

Frustrated with constraints imposed upon them by their employers during times of distress, many high-quality employees feel compelled to take the leap into entrepreneurship. This is most likely to happen when their companies face financial distress and become restrictive, says a study from Columbia Business School.

The research, titled Destructive Creation at Work: How Financial Distress Spurs Entrepreneurship, explains the factors that make workers leave stable employment for entrepreneurship.

“During times of economic stress, companies are more vulnerable and make financing decisions that employees don’t always agree with,” says author of the research Tetyana Babina, Assistant Professor of Finance and Economics at Columbia Business School.  “Decisions like these have the potential to encourage employees to leave their jobs and start their own companies.”

The study, which used U.S. Census employer-employee matched data, finds that companies’ financing decisions have direct impact on employees, which is an important but largely overlooked effect of firm financial leverage.  During times of financial distress, firms engage in more risk-averse behavior and are not likely to take part in risky-yet profitable project ideas. Subsequently, the high-quality employees who had wanted to pursue the project leave the firm to develop the idea on their own.

These same financing decisions have profound affects on human capital decisions: the firm wants to retain its employees, so it avoids making potentially risky financial decisions, yet that same decision to avoid risk leads to the likelihood of those workers to leave.

“It’s important to understand factors that may drive an employee to leave a stable, paid job for an uncertain, start-up dream,” says Babina. These new entrepreneurs point to their previous employers’ corporate choices as playing a large role in that decision, according to the research. Babina says many successful start-ups are founded by people who have left paid employment, citing a statistic from Amir Bidhe that finds nearly 70 percent of employees who left jobs to create a start-up got their ideas while they were employed elsewhere.

Source: Columbia Business School

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