5 Most Common Entrepreneurial Cognitive Biases

We as humans are buggy in thinking, judgment, and memory. Many scholars have found it disturbing that humans might have been rational enough to invent a probability theory but not rational enough to use it in their daily thoughts. There are cognitive illusions or biases that “lead to a perception, judgment, or memory that reliably deviates from reality”. That deviation in our thinking, judgment, and memory happens randomly but tends to be robust, hard to avoid as well as difficult to mitigate.

The underlying idea of a well-known book “Thinking, Fast and Slow” by Daniel Kahneman was that humans employ a small number of simple and quick rules of thumb in many different situations in order to take a decision as quick as possible under uncertainty. Out of 21 cognitive biases presented by Rüdiger F. Pohl in his book “Cognitive Illusions”, there is a great bunch of heuristics present in an entrepreneur’s decision making process.

Nobody doubts that the decision making under the fast and frugal “rules of thumb” or cognitive biases is more or less equal in its performance to highly time-consuming strategies. For sure, quick problem solving techniques can be quite useful and beneficial. There is nothing to be pessimistic about. We always have known how imperfect we are but let’s have a look what might sometimes lead us to severe and systematic errors.

Entrepreneurial Cognitive Biases: The Most Common Pitfalls

The most common cognitive biases entrepreneurs are subject to are overconfidence, illusion of control, anchoring, confirmation bias and optimism. In brief:

1. Overconfidence occurs when our confidence in our judgments, inferences, or predictions is too high compared to the corresponding accuracy.
2. Illusion of control occurs when an individual overestimates his or her personal influence on an outcome.
3. Anchoring and adjustment occurs when an individual predicts or estimates relative to some anchor from his experience or practice.
4. Confirmation bias occurs an individual searches, interprets or remembers information in a way that corresponds with the prior hypotheses they had, independent of its truth.
5. Optimism occurs when an individual is prone to seeing the positive side of whatever happens as well as seeking positive information to reinforce positive aspects of the decision.

So how does it work in practice? If to module the “ordinary life” of an entrepreneur, we can see that over time the entrepreneur invests more and more commitment and dedication to their startup and less to their private life or personal relationships. Sooner or latter the startup becomes some kind of “child” for the entrepreneur. Under the time and money pressure how high can the decision quality be if it is related to a “child”? Obviously, the decision becomes less comprehensive and the quality diminishes as the personal attitude accelerates.

Entrepreneurs who have started various ventures are likely to have gained valuable knowledge and experience. Their experience is relevant in many cases, although it also increases the chance of overconfidence, illusion of control and adjustment biases.

Hypothetically, let’s imagine an entrepreneur who managed a couple of successful product launch campaigns. He or she knows the possible loopholes and predicts completion time relative to their experience (clear case of adjustment bias). The more time they have to plan, the more overconfident he or she becomes and more likely, they will underestimate the capabilities to complete the launch in the planned period of time (good example of overconfidence). The worst in the described situation is that the entrepreneur becomes not only overconfident about his plans but also about their personal influence on an outcome (case of illusion of control). The illusion of control increases in magnitude with perceived knowledge and skills as well as previous successes. Entrepreneurs tend to exaggerate the degree of control they have over events, discounting the role of luck. Taking into account all the risks and uncertainty of the entrepreneurial situation, the illusion of control does a “good job” in its reduction. Well, sometimes it can work out, sometimes not.

In conclusion, I would like to highlight that biases and heuristics are part of our cognitive activities and decision making process. Sometimes, they become the main reason of erroneous and fallacious decisions. Sometimes, they help us to take a decision as quick as possible under uncertainty. That’s why I will propose you to consider cognitive biases as indicators of normal cognitive functioning. This is probably also what Cicero meant in his famous quote “Errare humanum est” (To err is human). However, I also remind you to be cautious when you make an important decision.

 

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