A Real Options Model of Stepwise Entry into Self-Employment

By Karl J. Wennberg, Timothy Folta, and Frederic Delmar, 2007 [13 pages]

Under contract No. SBAHQ-05-M-0561*

This paper was originally presented in Bloomington, 

Indiana, at the Babson Entrepreneurship Research 

Conference (BERC) in June 2006. It was awarded 

the Office of Advocacy Best Paper Award at the 

2007 BERC meetings in Madrid, Spain. 

Karl J. Wennberg is a doctoral student at the 

Center for Entrepreneurship and Business Creation 

at the Stockholm School of Economics in Sweden. 

Timothy Folta is an Associate Professor at the 

Krannert Graduate School of Management at 

Purdue University in Indiana, and Frederic Delmar 

is a Professor of Entrepreneurship at the Ecole de 

Management de Lyon (EM Lyon) Business School 

in France.

Purpose

Many people do not enter directly into full-time 

self-employment, but choose to enter part-time. 

By doing so, they minimize the uncertainty 

related to self-employment as they can retain their 

employment while testing the viability of the selfemployment choice. For many people, part-time 

self-employment represents not only a secondary 

income, but also a first step into full-time selfemployment. 

The authors of this paper examine the path 

toward self-employment as one that is fraught 

with uncertainty. That is, an individual will consider the choice to enter into self-employment and 

to leave employment by others as a hedge against 

uncertainty. Part-time entry into self-employment 

allows them the strategy of limiting their investment in time and money. If successful, they can 

enter self-employment on a full-time basis; if not, 

they have limited their risk, while maintaining 

their full-time job elsewhere.

This paper tests that hypothesis using data from 

a cohort of people employed in Swedish knowledge-intensive industries, following their occupational choices over two periods

Overall Findings

The authors find that entrepreneurs used parttime entry as a strategy to test their ideas when 

they have little information about their true value. 

As such, models of entry into self-employment are 

incomplete if they do not consider this option. 

Moreover, an individual is less likely to undertake 

self-employment if the investment requires high 

levels of fixed assets, which might be irreversible 

or hard to liquidate in the event of failure

Highlights

• The authors find evidence that uncertainty has 

a negative effect on the likelihood of entry. Fulltime entrants are less likely to enter self-employment given uncertainty than those who have experimented with part-time options first 

• Individuals using part-time entry as a means 

of testing the validity of their opportunities are 

more likely to enter full-time self-employment 

(after a successful trial run), and they are also 

more likely to exit than full-time entrants. 

• An individual with a long work history of 

employment with the same firm is less likely to 

leave his or her firm to engage in entrepreneurship. 

• Industry-level measures of irreversibility, such as 

the level of intangible assets required, had a positive 

impact on self-employment. This finding is not what 

was hypothesized by the authors..

• Having prior part-time experience significantly 

increased the probability of entry into self-employment, on both a part-time and full-time basis.

June 2007 No. 304

*This contract for a best paper award at the Babson Entrepreneurship Research Conference was given to Babson College of Babson 

Park, MA 02457-0310. This Small Business Research Summary summarizes a research report published by the U.S. Small Business 

Administration’s Office of Advocacy. The opinions and recommendations of the authors of this study do not necessarily reflect official 

policies of the SBA or other agencies of the U.S. government. For more information, write to the Office of Advocacy at 409 Third Street 

S.W., Washington, DC 20416, or visit the office’s website at www.sba.gov/advo.
Note

This paper was prepared for presentation at the 

Babson Entrepreneurship Research Conference. 

The report references “space limitations” and 

“suppressed” control variables in the tables. The 

authors needed to comply with strict guidelines 

for submission to the BERC, including a page limitation. The Office of Advocacy is releasing the 

BERC version of the paper as a working paper, 

which adheres to these guidelines.

Scope and Methodology

The authors utilize a cohort of people employed 

in the Swedish knowledge-intensive industries in 

1997. The data are from Statistics Sweden and 

cover 3.3 million individuals, representing over 70 

percent of the active Swedish labor market. The 

larger longitudinal data set covers 1989 to 2002, 

providing labor market histories of the individual 

before and after 1997. These data can be linked 

to firm-level data. 

Since extremely large data sets present problems 

in terms of computations and in identifying selfemployment entry, they use state-based sampling 

to construct a smaller sample from the larger data 

set. The entry decision is modeled with a series of 

multinomial logit models that compare events of 

entry with a random sample of non-entries. Nonentries are modeled by randomly selecting 10 percent of the individual observations in the data set, 

and then randomly assigning each observation to 

an industry. Hypothesis testing on such a sample 

is unproblematic since state-based sampling yields 

unbiased and consistent coefficients for all variables except the constant term. 

The final sample consists in the first wave of 

5,469 instances of full entry (2.32 percent), 6,595 

instances of part entry (2.79 percent) and 223,981 

randomly sampled non-entries (94.89 percent). 

In the second wave, part-time entries switched 

labor market status dramatically. 2,190 exited 

altogether from self-employment (33.21 percent), 

818 changed to full-time self-employment (12.40 

percent), and the rest (3,587 or 54.39 percent) 

remained as part-time self-employed. Among the 

full-time self-employed, 1,177 made an exit (21.52 

percent) and 468 changed to part-time (8.56 percent). Among the randomly sampled non-entries, 

0.72 percent changed to part-time self-employment, and 0.43 percent changed to full time selfemployment in 1999.

This report was peer-reviewed consistent with 

Advocacy’s data quality guidelines. More information on this process can be obtained by contacting the Director of Economic Research at 

advocacy@sba.gov or (202) 205-6533.

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