Control Versus Prediction: Effectual Logic

Welcome to Topic 8: Control Versus Prediction: Effectual Logic. In this topic you will learn about:

• Personal control, self-esteem and entrepreneurs
• Prediction and control strategies
• Inputs, outputs and perception of control
• Entrepreneurs and self-efficacy
• Entrepreneurs have a bias toward action
• Expert entrepreneurs think differently.

These relate to the Subject Learning Outcomes:

1. Articulate the difference between causal and effectual logic and when both are best used in organisations.
2. Identify and apply the core principles of effectuation and how they form the basis of the effectual cycle.
3. Explain the entrepreneurial bias toward action leads to experience, which in turn increases self-efficacy.

Welcome to your pre-seminar learning tasks for this week. Please ensure you complete these prior to attending your scheduled seminar with your lecturer.

Click on each of the following headings to read more about what is required for each of your pre-seminar learning tasks.

Perhaps you have experienced not feeling in control. You might have noticed this happens in unfamiliar situations when you are unsure what to do. When a situation is familiar, however, you can usually rely on experience from the past to safely predict what will happen in the future. Such predictions give you at least a sense of control. This is the basis of the world of business plans – the world of 'search and select'.

This topic focuses on the ‘create and transform' approach, which is used in uncertain situations where you cannot reliably predict the future. This requires a different type of control, one in which you shape yourself (endogenous control) or share your environment (exogenous control) by taking action. Of course, not everything can be controlled, so entrepreneurs focus on elements that they can control (Read et al. 2016).

Personal control, self-esteem and entrepreneurs

Psychological research suggests that an enormous range of human behaviours relate to control or striving somehow and are intrinsically linked to healthy human functioning. For example, personal control is connected to the development of self-esteem and the reduction of stress. Whereas, loss of control increases the likelihood of feelings of helplessness and depression. In other words, having a desire for control over your life does not make you a ‘control freak’ (despite what your friends may say)! Instead, it is normal and healthy (Read et al. 2016).

These ideas of personal control and self-esteem inform how different people might approach entrepreneurial ventures. Let us look at some different approaches in more detail.

Prediction and control strategies

Let us explore the idea of control relative to prediction, and how they might determine business decisions.

Knowing how it will 'shake out' means you 'own it'

Wouldn't it be handy to know what to do when you have a lot of control (when you own it) or when you can accurately predict how things will develop (when they will ‘shake out’)?

Several business textbooks focus on using these two tools – control and prediction – to make better decisions. But those texts tend to focus on one tool or the other, not both. However, the authors of Effectual Entrepreneurship (Read et al. 2016) consider situations on a continuum of high to low control and predictability. The following model illustrates what to do in low and high control and predictability situations. (Please note that the examples given are for 'business as usual, in other words, pre-COVID-19).

Let us look at each of the four (4) main combinations of the two (2) factors.

High predictability and high control

Let us start with the ultimate power play – high predictability and control

If you have a lot of market power, you have a lot of control. Meta, formerly known as Facebook, is a good example of having an almost monopoly on social media. This means Meta can determine what happens in its market, making the market very predictable. They can also put their vision into action, further securing their position. It is a very dominant position.

High predictability and low control

Next is the 'well-oiled machine' – high predictability but low control.

When the environment is stable and information is based on experience and is reliable, you can predict the market accurately. In this situation, the corporate superpower is planning. Traditional industries, such as food manufacturing in stable demand and supply situations, are examples of businesses in the planning quadrant. Profitability does not come from market domination but rather from consistently refining systems to measure, predict and plan.

Low predictability and low control

Queens and Kings of reinvention – low predictability and control.

With an unpredictable (constantly changing) environment and little control over the situation, the only way to compete is to be good at learning and adapting, allowing you to react appropriately and more quickly than your competitors. This is a tough place to be successful. However, good examples are a few evergreen musicians, such as Cher and Elton John, who have consistently re-created themselves and what they do to remain contemporary.

Low predictability and high control

Expert entrepreneurs – low predictability but high control.

This is the space to seek control to compensate for low predictability. That control often comes from co-creating with others (customers, suppliers, and partners). These self-selected stakeholders contribute their available means and affordable loss to the joint effort and share in the benefits gained. This is called effectuation and means shaping the future by taking action, experimenting and creating new things. As defined by Sarasvathy (2005), expert entrepreneurs are guided by the effectuation mindset. Examples of expert entrepreneurs include Richard Branson and Sara Blakely.

Monitoring or reacting to the environment

The left-hand quadrants (planning and adaptation) of the prediction and control strategies require a strong ability to monitor and understand their environment to either improve planning or adapt better and faster (to react).

The right-hand quadrants (market power and effectuation) involve taking action to gain control and not waiting for a reaction to changes in the environment.

Bringing theory into reality

To help you visualise the various strategies, here they are in the 2 × 2 matrix of predictability and control we introduced earlier. Note that the ‘market power’ approach is a bit fanciful and initially not a typical entrepreneurial approach.

Inputs, outputs and perceptions of control

As much as it complicates things for entrepreneurs, the success of entrepreneurial ventures is impacted by many external factors, over which there is a varying level of influence.

Expert entrepreneurs focus on those elements with a higher degree of control – namely their means, such as their co-creation partners (including their team, advisers, directors and investors) and how they execute their business model using technology, capital, and channels.

If only success was simple...

Since external factors are basically the same for everyone, success depends on the entrepreneur's ability to understand this and identify which factors over which they have the most influence (control) and work to shape them in their interest. This is an ongoing process, particularly because the venture, its customers and the industry evolve (Read et al. 2016).

Knowing what the entrepreneur can influence (and what cannot be influenced) is the basis for effectuation, in the sense that:

Expert entrepreneurs understand and accept that they have less influence over channels, competition, location and the culture where they are doing business compared to their means, such as how they execute their business model. Consequently, they spend the least amount of effort on the elements over which they have the least control, for instance, the economy and the space or industry in which they participate.

The following figure provides an overview of the typical degree of control an entrepreneur has over some common elements that can impact venture success.

Effectual versus causal control techniques

Digging deeper into the concept of control, entrepreneurs can choose different ways of influencing their chances of success. Let us start with the method most taught in business schools – causal control.

Causal control techniques

Business plans are usually developed around predictions about how markets will develop. They might include simple growth rate assumptions or singular events, such as a city being named to host the Olympic Games, or the expectation that a change in government will lead to a more positive investment climate.

The weakness of the causal approach is that the entrepreneur has little if any, influence on the outcome of such major developments. Hence, causal control is effectively placing bets based on predictions (Read et al. 2016).

Effectual control techniques

Entrepreneurs using an effectual control technique work differently. First, they identify which factors have complete or at least significant influence and concentrate their efforts on them. An example would be approaching a potential client and convincing them not only to order but also to pay for a product or service you will later deliver. While the entrepreneur does not control every aspect of this example, they focus on those they do and work to make it a success, such as taking action to pre-sell a product to a client (Read et al. 2016).

Perception of Control

An entrepreneur's perception of control in terms of inputs and outcomes is also important for venture success. Read et al. (2016) present the idea as a four-quadrant graphic, as indicated in the following table.

Explanation of the quadrants

Read et al.(2010, pp. 175-176) gives a detailed explanation of the working with and without control matrix, which presents four ways that entrepreneurs are driven to action, which is summarised here:

Watch the following short video clip in which venture capitalist Janice Roberts explains how the effects viral marketing are difficult to predict and control.

Entrepreneurs and self-efficacy

Famous psychologist Albert Bandura is known in entrepreneurship circles for his work on self-efficacy (Bandura 1997), which is the belief that a person can succeed. This idea is also credited with being the start of positive psychology.

Mastery brings confidence

Bandura (1997) gave four (4) key sources of self-efficacy, and a fifth was added by psychologist James Maddux, perhaps because he is a Dungeons and Dragons enthusiast.

The concept of self-efficacy is valid for every part of our life and, understandably, has been picked up by professional sports, as the following explanation by sports psychologist at the University of Queensland, as Mike Noetel, shows.

Confidence, reasonable goals and entrepreneurs

Robert Baron, of Oklahoma State University, completed research on entrepreneurs. He found that successful entrepreneurs are good at both self-regulation and self-efficacy (confidence) and therefore set reasonable (attainable) goals (Baron, Mueller & Wolfe 2016). He implies that it is important for new entrepreneurs to work at developing both self-regulation and self-efficacy. Watch the following video to hear from him directly.

Entrepreneurs have a bias toward action

“Action enables entrepreneurs to exert control on things that are otherwise impossible to predict. With control-driven strategies, you do not need full control – you only need sufficient control so that you can move on to the next step and the next stakeholder. Expert entrepreneurs don’t often seek unilateral control of people or markets, but they work hard to control the controllable, often with partners” (Read et al. 2016, p. 94).

Action enables control

The principles of effectuation, as formulated by Saras Sarasvathy (2005), are based on research into the heuristics of expert entrepreneurs – people who generally feel comfortable with uncertainty. That confidence comes from their bias toward action – trying things and if they work, continue doing it, or even expanding upon it.

Watch the following video to hear how Sarasvathy describes this using the example of example of Muhammad Yunus and Grameen Bank.

Structure of taking action

As much as taking action seems simple enough, action coach Steve Garguilio came to the conclusion that most people are more interested in collecting ideas than actually doing things. So, he took a closer look at what is behind this in order to understand how to become more action-oriented. Watch the following video to learn more about how he reached his conclusions.

Confidence, bias toward action and gender

Claire Shipman, television journalist and co-author of The Confidence Code, ties together the ideas of confidence and bias toward taking action from a gender-specific perspective, which is helpful for anyone struggling to move forward.

Watch the following video of Tom Peters, the management guru, who shares what the last 50 years of experience has taught him – basically, whoever gets out there and tries the most wins. He gives the advice of “being on that nervous edge”, which is a simple idea, but hard to do.

Reminder of affordable loss

As a bit of reassurance, being on “that nervous edge” should be within your personally defined limit of affordable loss. This gives you peace of mind to go through the effectual process and gain additional means, confidence, and control.

Expert entrepreneurs think differently

We have discussed control and taking action and introduced the idea of effectuation. Moving forward, we explore how expert entrepreneurs think differently with a deeper focus on effectuation, including an in-depth discussion of the effectual principles. We also look at an example to illustrate effectuation.

Effectuation overview

To get a sense of what effectuation is all about, watch the following video as a brief guide.

To summarise, effectuation is a set of decision-making principles used by expert entrepreneurs to create new products, organisations and markets in uncertain situations, using what is at their disposal, even if it is sometimes considered waste.

Expert entrepreneurs have learned to control or shape the future using the following four (4) basic principles:

1. Start with your means.
2. Do not risk what you cannot afford to lose.
3. Build the future together with partners.
4. Be open to surprise.

These principles enable control, so the entrepreneur need not rely on prediction (Read et al, 2016).

A more comprehensive introduction to effectuation

With those basics in mind, watch the following video in which Sarasvathy and her colleagues give a more in-depth explanation of effectuation theory, the research behind it and how it can be used.

Watch the following video of Sarasvathy, as she gives us more background and conclusions from her work.

In the following video, Sarasvathy provides more details and graphs showing how effectual logic compares to causal logic, which is the core of many business education programs. You will recognise the 2 × 2 predictability and control matrix about 1.5 minutes into the video.

It is important to understand that the different approaches are not necessarily good or bad, right or wrong. Rather, they are two different ‘toolboxes’, which are most effectively used in the right situation at the right time.

In simple terms, effectual logic is ideal for testing hypotheses in the search for a business model, while causal logic is needed to scale (grow) a validated business model (in other words for the execution phase).

In the following video, Sarasvathy shares her thoughts about when to use causation versus effectuation.

Causal logic is focused on a future goal and works backwards, while effectual logic is about taking steps from today's perspective on means, affordable loss, and co-creation with partners. Take some time to compare how the principles differ. We will discuss these differences in this week’s seminar.

The five effectual principles

Returning to the idea of a toolbox, Sarasvathy and others have identified five (5) key principles or tools that are important to the effectuation toolbox, namely:

1. Bird-in-hand (available means)
2. Affordable loss
3. Lemonade principle (leverage surprises)
4. Crazy quilt (form partnerships)
5. Pilot-in-the-plane (control).

Take a brief look at each of the principles of effectuation in the following video.

Airnbnb as a high profile example of effectuation

Let us look at Airbnb case example of effectuation.

How strange: Inviting a stranger to stay at your place

It has become something of an entrepreneurship legend, but like most success stories, Airbnb had a very humble beginning. Showing entrepreneurial expertise and without realising it, Airbnb effectuated its way to success.

Read et al. (2016) state that Airbnb is one example of a new venture. The case example explains that two people, Joe and Brian needed to continue to pay rent and had the idea to offer lodging on an air mattress and breakfast in their apartment. This resulted in three people showing up and a new idea was born. However, they needed to employ other means to ensure the success, so they launched a venture at SWSW in which they photographed their listed houses to the people they knew and brought into the venture. While an abstract idea at the time, it resulted in a successful new venture.

Listen closely to the following video for examples of the effectual principles used by Airbnb. Later we will sketch them out as concrete examples.

Now that you are familiar with the basic story, watch the following interview with one of the founders of Airbnb, Brian Chesky. Again, listen closely for the effectual principles, which we will go through next.

Airbnb story – The early chapters

So, now you have a good sense of the Airbnb founding story. Did you find examples of effectuation? The following analysis lays out the various situations and the actions taken by the Airbnb founders based on effectual logic and, most importantly, what effects were created to pave their pathway forward.

To get you started in this dissection of Airbnb's effectual journey, note the 'build-up' to their actual venture idea – they grew their available means, namely a trusting relationship and shared interest in entrepreneurial projects. A critical step was Brian taking control (pilot-in-the-plane) and quitting his job to move to San Francisco to have more time and attention (available means) for entrepreneurial activities.

But like so many entrepreneurial stories, it was adversity (not having money for rent, trade fair guests without accommodations) combined with meagre available means (airbeds and the ability to set up a simple blog website) that put them on a path, which took a completely unpredictable trajectory to build a company worth billions of US dollars.

As much as some people might believe that founders use effectual logic for the initial phases of building a company, keep in mind that effectuation is best suited for uncertain situations, where the outcome is not predictable. In situations where the outcome is predictable, causal logic based on planning is the way to go.

Airbnb story – Effectuation in crisis?

You know that there were plenty of bumps in the road for Airbnb. But the bigger you get, the more exposed you are to criticism and review, particularly if you are considered a success and are planning on listing your company on the stock market (IPO).

Watch the following video, which discusses these issues. As you did with the other chapters of the story, listen for examples of effectual logic.

Making sense of what just happened

After that surprising video, let us review the situations of the crisis chapters of Airbnb's story, which involves a lot of 'lemonade moments'. Remember that the basis of this principle is that every surprise has an opportunity in it. So, it is up to the entrepreneur (often using their available means and conscious of affordable loss) to take action.

You will note that the effect created is not always positive, but that is also part of effectuation – running experiments, knowing that they will not always work out. An unsuccessful experiment is not a failure because the learning gained becomes new available means for the future. An example of this is how the backfiring of Brian's unilateral action probably taught him about stakeholder perspective during the workforce reduction.

Wrap up

Developing an understanding of how expert entrepreneurs avoid predicting and seek to influence what is within their control is the core of the entrepreneurial mindset. This approach also helps build confidence and self-efficacy (remember, it is a person's belief that they can succeed).

You were then given an overview of effectuation, the entrepreneurial logic applied in uncertain situations, which is based on the (hopefully now familiar) five principles:

1. Bird-in-hand (available means)
2. Affordable loss
3. Lemonade principle (leverage surprises)
4. Crazy quilt (form partnerships)
5. Pilot-in-the-plane (control).

Now that you have the foundation, we will build on that, providing more detail and helping you understand how all the parts fit together.

Welcome to your seminar for this topic. Your lecturer will start a video stream during your scheduled class time. You can access your scheduled class by clicking on ‘Live Sessions’ found within your navigation bar and locating the relevant day/class or by clicking on the following link and then clicking 'Join' to enter the class.

Click here to access your seminar.

The following learning tasks will be completed during the seminar with your lecturer. Should you be unable to attend, you will be able to watch the recording, which can be found via the following link or by navigating to the class through ‘Live Sessions’ via your navigation bar.

Click here to access the recording. (Please note: this will be available shortly after the live session has ended.)

In-seminar learning tasks

The in-seminar learning tasks identified below will be completed during the scheduled seminar. Your lecturer will guide you through these tasks. Click on each of the following headings to read more about the requirements for each of your in-seminar learning tasks.

Welcome to your post-seminar learning task for this week. Please ensure you complete this after attending your scheduled seminar with your lecturer. Your lecturer will advise you if this is to be completed during your consultation session. Click on the following heading to read more about the requirement of your post-seminar learning task.

Each week you will have a consultation session, which will be facilitated by your lecturer. You can join in and work with your peers on activities relating to this subject. These session times and activities will be communicated to you by your lecturer each week. Your lecturer will start a video stream during your scheduled class time. You can access your scheduled class by clicking on ‘Live Sessions’ found within your navigation bar and locating the relevant day/class or by clicking on the following link and then clicking 'Join' to enter the class.

Click here to access your consultation session.

Should you be unable to attend, you will be able to watch the recording, which can be found via the following link or by navigating to the class through ‘Live Sessions’ via your navigation bar.

Click here to access the recording. (Please note: this will be available shortly after the live session has ended.)

These are optional readings to deepen your understanding of the topic material:

• The Business Channel 2016, The real story about how Airbnb was founded – Nathan Blecharczyk Co-founder Airbnb - Startup Success, YouTube streaming video, 
• Qrius 2017, Effectual logic: How entrepreneurs think, Chicago Booth Review.

References

• Aaltouniversityace 2012, Saras Sarasvathy: How Great Entrepreneurs Think and Act Differently, YouTube streaming video, https://www.youtube.com/watch?v=q3rdTYXO4kc
• Bandura, A 1997, Self-efficacy: The exercise of control, W.H. Freeman., New York.
• Baron, R, Mueller, B & Wolfe, M 2016, 'Self-efficacy and entrepreneurs' adoption of unattainable goals: The restraining effects of self-control', Journal of Business Venturing, vol. 31, no.1, 31(1): pp. 55-71.
• Big Think 2012a, Saras Sarasvathy explains the entrepreneurial method | Big Think, YouTube streaming video, https://www.youtube.com/watch?v=Ruvb_kGAMYw
• Big Think 2012b, Saras Sarasvathy looks at the world through entrepreneurial glasses | Big Think, YouTube streaming video, https://www.youtube.com/watch?v=qIeXVer33Ag
• Big Think 2015, Claire Shipman: be biased in favor of taking action | Big Think, YouTube streaming video, https://www.youtube.com/watch?v=RxMvmX_98rQ
• BrittasProduction 2010, Sarasvathy - effectuation vs. causation, YouTube streaming video, https://www.youtube.com/watchv=hCMpd7z4AbA
• Business Casual 2019, The rise of Airbnb: from airbeds to billions, YouTube, streaming video, https://www.youtube.com/watch?v=1Tc9YScMtN8
• Dolnicar, S 2021, Airbnb before, during and after COVID-19, University of Queensland.
• Effectuation.org 2017, What is effectuation? https://www.effectuation.org/sites/default/files/documents/effectuation-3-pager.pdf
• Elsevier Journals 2016, Self-efficacy and entrepreneurs' adoption of unattainable goals, YouTube streaming video, https://www.youtube.com/watch?v=7wM1k3mZA98&t=150s
• Entrepreneurship.org 2013, Janice Roberts-losing control to the consumer, YouTube streaming video, https://www.youtube.com/watch?v=Z89xkgPMdhg
• Fortune Magazine 2017, Interview with Airbnb CEO Brian Chesky | Fortune, YouTube streaming video, https://www.youtube.com/watch?v=GFMeuSIhIYg
• iLab Incubator 2019, Effectuation an introduction, YouTube streaming video, https://www.youtube.com/watch?v=EZYbuG3SbUM
• Khan Academy 2014, Self esteem, self efficacy, and locus of control | Individuals and Society | MCAT | Khan Academy, YouTube streaming video, https://www.youtube.com/watch?v=xcLKlPTG97k&t=350s
• Michael Noetel Performance Psychologist 2015, Self-efficacy theory in sport: sources of SE, YouTube streaming video, https://www.youtube.com/watch?v=j0RwUqCllfY
• Peters, T 2016, A bias for action, YouTube streaming video, https://www.youtube.com/watch?v=ooLoBPsjFgw
• Read, S, Sarasvathy, S, Dew, N & Wiltbank, R 2016, Effectual Entrepreneurship, 2nd edn., Routledge.
• Read, S, Sarasvathy, S, Dew, N, Wiltbank, R & Ohlsson, A 2010, Effectual entrepreneurship, Routledge.
• Sarasvathy, S 2005, 'What makes entrepreneurs entrepreneurial?', University of Virginia Darden School Foundation, Charlottesville, Virginia.
• Shipton, C 2016, A brief guide to effectuation, YouTube streaming video, https://www.youtube.com/watch?v=oC-yWrC0P_E
• Society for Effectual Action 2016, Effectuation, YouTube streaming video, https://www.youtube.com/watch?v=8_Y_d9ZFhqE
• TEDX Talks 2017, The science of taking action | Steve Garguilo | TEDxCarthage, YouTube streaming video, https://www.youtube.com/watch?v=hn9so1zVfR0
• Vorontsova, O 2016, The analysis of the impact of causation and effectuation approaches on decision-making of IT start-ups, Masters thesis, FEP.
• Wall Street Journal 2020, How Airbnb fell from successful startup to crisis mode | WSJ, YouTube streaming video, https://www.youtube.com/watch?v=c-y69rCGx_8