Ethical considerations of the legitimacy lie.

This article draws upon prior research and theory on the legitimacy threshold that suggests entrepreneurs in start-up ventures will likely employ proactive strategies to gain initial legitimacy with key stakeholders. We argue that these strategies may sometimes include questionable ethical behaviors, including telling legitimacy lies--intentional misrepresentations of the facts. Based on a review of literature on ethical decision making, we then apply two common ethical frameworks to explore the ethical boundaries of what may or may not be acceptable behavior in seeking legitimacy. We conclude the article with some specific guidelines for start-up entrepreneurs.

Introduction

Researchers have noted that overcoming the liabilities of newness and smallness is the most difficult challenge that a start-up entrepreneur encounters (Hannan & Freeman, 1984; Singh, Tucker, & House, 1986; Stinchcombe, 1965). These challenges can be essentially described as a quest for legitimacy by the new and small firm (Williamson, Cable, & Aldrich, 2002; Zimmerman & Zeitz, 2002); until stakeholders view the firm as a legitimate enterprise, the entrepreneur will have great difficulty acquiring the resources (e.g., capital, employees, and suppliers) that the enterprise needs to survive. As a result, many entrepreneurs feel that they must employ whatever strategies and tactics are necessary to overcome these liabilities and gain legitimacy. Since most new venture firms are "opaque" with regard to information--meaning that it is difficult for outside participants to ascertain the quality of a given venture--it is especially tempting and possible for entrepreneurs to mislead social actors by engaging in legitimacy lies, or intentional misrepresentations of the facts. This problem is compounded in many new ventures because entrepreneurs have an advantage of information asymmetry--they know more about certain aspects of the business (e.g., intellectual property) than outside stakeholders do. It is important to point out that we are not suggesting that entrepreneurs are (or must be) deceptive. However, we are operating under the assumption that entrepreneurs are at least tempted to misrepresent the facts (and a good number of them actually do) in order to gain initial legitimacy. While the issues addressed in this work are likely applicable to a number of contexts, our focus here is on the new and small venture headed by a novice entrepreneur.

In this paper we hold that there exists in most firms an initial threshold, before which the new venture will have high levels of smallness and newness liabilities; and after which these liabilities have been mitigated significantly (Zimmerman & Zeitz, 2002). In most firms, this threshold occurs when some significant stakeholder has legitimized them (Rutherford & Buller, 2007). Because new ventures are generally cash starved at early stages of development, it is most often a key customer or financier that grants this legitimacy (Pfeffer & Salancik, 1978). The granting of this legitimacy sends a signal to other stakeholders that the firm is something more than an untenable collection of resources and is worthy of some level of trust--legitimacy begets legitimacy.

This condition causes most start-up entrepreneurs to face a simple ethical conundrum: How to send the signal of legitimacy when, by definition, the organization is not yet legitimate? A social judgment of legitimacy has not been made regarding the organization, yet the organization must appear as if it has. Stories abound in which an aspiring entrepreneur sets up a "sham" operation to convince a prospective stakeholder that the organization is something more than it in fact is. Similar stories tell of entrepreneurs making promises that they are not sure can be delivered on. The fact that these deceptive actions are often celebrated by the popular press can cause ethical dilemmas in the mind of start-up entrepreneurs (e.g., Kuemmerle, 2002). Strictly speaking, these actions are lies--misrepresentations of the truth. These lies ultimately may result in violations of trust between the entrepreneur and his or her stakeholders.

The purpose of this paper is to identify some of the ethical challenges that face early-stage entrepreneurs as they attempt to gain initial legitimacy and to offer guidelines for addressing these challenges. First, we define the legitimacy threshold (LT) and address the specifics of the legitimacy lie in view of the relevant theoretical and empirical literature. Next, we will broadly explore the nature of entrepreneurial ethics and ethical decision making, with a special focus on the unique nature of ethical issues in the new venture. We then present two common ethical frameworks that are appropriate for dealing with this issue and apply them to several case examples. We conclude with some general guidelines for entrepreneurs.

The Challenge of Seeking Initial Legitimacy and Lying

The legitimacy lie concept spans the intersection of legitimacy theory and ethics theory--more specifically, at the intersection of new venture legitimacy theory and ethics theory pertaining to lies. It essentially involves lies told before an adequate level of legitimacy is attained, for the purpose of attaining legitimacy. These lies are generally statements made or actions taken to counteract the liabilities of smallness and newness that most entrepreneurs feel are unfairly placed on them by stakeholders. Legitimacy is defined parsimoniously here as "... a social judgment of acceptance, appropriateness, and desirability, [that] enables organizations to access other resources needed to survive and grow" (Zimmerman & Zeitz, 2002). The legitimacy lie is defined as an entrepreneur's "intentional misrepresentation of the facts" in an effort to encourage various stakeholders to deem them a legitimate entity.

Initial Legitimacy

The notion that new and small businesses are different is at the heart of entrepreneurship research, regardless of the construct under study (Gartner, 1989). We submit here that a key underlying source of this difference is the fact that, unlike older and larger firms, most start-ups do not possess a base level of legitimacy. Increasing subsequent incremental levels of legitimacy is far less difficult than attaining the initial base. This leads to an important fact seldom expressed in the literature: for many new ventures, legitimacy--not financial performance--is the key outcome (Delmar & Shane, 2004). This is the case because, at this stage, legitimacy is a precursor to performance. We utilize the notion of an LT (Carlisle & Flynn, 2005; Rutherford & Buller, 2007; Zimmerman & Zeitz, 2002) to more fully convey this condition. Zimmerman and Zeitz were the first to explicitly use and operationalize the LT. They define the LT as "[the point] below which the new venture struggles for existence and probably will perish and above which the new venture can achieve further gains in legitimacy and resources." They go on to state: "An organization must achieve a base level of legitimacy that is dichotomous--it either does or does not meet the threshold" (Zimmerman & Zeitz, p. 427). In life cycle parlance, the LT can be thought of as a movement of a firm from the birth stage to (at least having the potential to reach) the growth stage. Scott and Bruce (1987) term this the "inception to survival crisis."

There have been several typologies of legitimacy put forth in the literature (e.g., Hunt & Aldrich, 1996; Suchman, 1995), and the preponderance of this literature suggests that three types of legitimacy exist: regulative, normative, and cognitive. Regulative describes legitimacy that arises from maintaining proper behavior according to laws and rules set forth by governments and industries. Normative legitimacy is attained by complying with "softer" requirements set forth by key stakeholders in society. These requirements would include performance measures, organizational structure considerations, adequate strategic planning, etc. Finally, cognitive legitimacy describes an even more tacit form of legitimacy, in which stakeholders make legitimacy judgments about an organization passively and not based on any sort of active evaluation. "From the cognitive perspective of legitimacy, organizations are legitimate when they are understandable (that is there is greater awareness and therefore less uncertainty involved with the organization) rather than considering when they are desirable" (Shepherd & Zacharakis, 2003, p. 151).

While no typologies have specifically addressed legitimacy in the new and small firm, some notable studies have begun to specifically examine this relationship (e.g., Choi & Shepherd, 2005; Shepherd & Zacharakis, 2003; Tornikoski & Newbert, 2007). While there remains a lively debate around characteristics of the entrepreneur, many scholars would argue that the field has moved away from this paradigm and toward a study of the behaviors and activities of these individuals (e.g., Aldrich & Martinez, 2001). Tornikoski and Newbert, for example, found that nascent ventures whose founders engaged in activities meant to positively affect stakeholder perceptions increase formation chances. Specifically, initiation of marketing efforts, the opening of a bank account, the development of a prototype, and the purchase of raw materials and equipment increased the likelihood of starting a venture. Collectively the authors' findings suggest that by undertaking these activities, which they term strategic legitimacy, nascent entrepreneurs increase their chances of founding.

Delmar and Shane (2004) conceptualize activities in the start-up stage as consisting of three separate activities: (1) activities that enhance reliability and accountability, (2) activities that increase stakeholder relations, and (3) activities to control critical resources. Their work provides support for the hypothesis that entrepreneurs should first work to develop legitimacy through increasing reliability and accountability through activities such as business plan creation and establishment of a legal entity. In doing so, the entrepreneurs increase survivability chances for their ventures.