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Why "Social" Entrepreneurship Is No Substitute for "Market" Entrepreneurship

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03/14/2020

There is a lot of confusion regarding what entrepreneurship is and how entrepreneurs earn profits. This confusion causes a distinction between "market" entrepreneurship and "social" entrepreneurship that does not, in fact, exist.

Generally speaking, "social entrepreneurship" is the providing of value to those in need with the implied understanding that there is no "room" for earning profits. But this type of activity is either charity, plain and simple, or it is a fundamental misunderstanding of entrepreneurship. This becomes clear if we distinguish between value creation (really, facilitation) and distribution (value capture). They are often misunderstood as being the same thing—or value creation is overlooked completely.

What entrepreneurs do is create new value, which is how they constitute the "driving force" of the market: the organizing of (existing) production follows entrepreneurs' creation of new value in pursuit of greater value capture. This new value that entrepreneurs create is not profit. It is purely consumer side, which is why entrepreneurs must understand and target specific customers, whom they can offer solutions to.

Any economic good satisfies some want, but consumers only choose to purchase those goods that satisfy them more. And they will only give up lesser value (to themselves) to acquire the good. The entrepreneur's problem is thus to figure out how to best serve the consumer, so that sufficient value is created that the consumer willingly (and, even better, eagerly) chooses to part with enough money in exchange to cover the entrepreneur's production cost.

Any one consumer must value the good more highly than the price they pay to acquire it, and they must also value the net gain (value minus price paid) of the good more than that of other goods. Value creation is simply the satisfaction enjoyed by the consumer when they acquire the good; value capture is how large the share of that value each party to the transaction gets.

For the consumer, this is purely subjective: the satisfaction from using the good minus the expected satisfaction of using (or holding) the money in other ways. For the entrepreneur, this is a matter of monetary calculation: the difference between the money price received and money prices paid (production cost). If sufficient value is created for the consumer, the price paid may cover the cost of production (and the entrepreneur earns a profit). If not, the entrepreneur suffers a loss.

Social entrepreneurship, if it is not charity, must create value for the consumer that, from their point of view, is above the price of zero. In other words, the bar for this entrepreneur is much lower. "You cannot compete with free," as they say. But this does not mean there is no cost of production: goods provided for free must still be produced and thus have a cost.

This cost is not (and cannot be) covered by the price paid, which is exactly why the bar for a "sale" of the good is so much lower. The production of goods provided by social entrepreneurs is, to a significant extent (often, but not always, 100 percent), subsidized by some other party. This leads to different outcomes than in market entrepreneurship, because the incentives are different.

On the one hand, the value created is captured solely by the consumer. This is, after all, why it is called "social" entrepreneurship: the good is provided to those in need and, consequently, without expectation of payment (or other form of quid pro quo). But note that because of this, the value created must only exceed the consumer's indifference, whereas with a good offered for sale the value must exceed, by some nontrivial margin, the price paid (as subjectively felt by the consumer).

This, in turn, means that social entrepreneurship can, and often does, create value that is, in effect, lower than the cost of production. Social entrepreneurs can operate at what would be a loss. And as there is no price asked of the consumer, there is no way of knowing how much they value the good—only that it has some value.

From an economic point of view, then, this is an act of value creation where the cost can be (and perhaps often is) greater, thus generating what under market entrepreneurship would be recognized as a net destruction of value. Market entrepreneurs suffer losses when they fail to use resources in such a way that they create sufficient net value to cover their costs. And they should suffer losses, so that they swiftly abandon those plans that do not sufficiently contribute to consumer welfare.

Entrepreneurial profits are therefore, assuming open competition and no force or fraud, an indication of creating value for consumers in excess of both cost and the competitive offerings of other entrepreneurs. Profits are relative to the value created and signify the entrepreneur's captured portion of the value created—as accepted and approved by the consumer.

Social entrepreneurs operate at a loss by design, which means that the value they contribute cannot be properly assessed. It can only be experienced by the consumers of the offering, who compare it to zero. Consequently, social entrepreneurs need to cover the cost either personally or by finding a third party willing to do so. But this is difficult to think of as entrepreneurship and not charity, and it should typically be value destructive on net (for society/the economy), since the cost can (and often does) exceed the value created.

Whether a social-entrepreneurial undertaking is "worth it" is in the eyes of those covering the cost, compared to whatever alternative uses there might be for the resources involved. (For the user, the only requirement is that the value of the good provided be greater than zero.) It is thus safe to assume that social entrepreneurship, though it may provide valuable services, is a low-value undertaking.

While all the value created is captured by the consumer/user, this value is disconnected from (and may, therefore, fall short of) the cost of producing it.

This is why social entrepreneurship cannot operate as market entrepreneurship. It would be a loss-generating undertaking with no hope of ever covering its costs (as the price charged is typically zero). But this also means that market entrepreneurship is what generates net value in society, whereas social entrepreneurship is primarily a use of that value (consumption).

Is it then reasonable to call this a form of entrepreneurship? Probably not, since it may not create value and does not on net attempt to do so. While social entrepreneurship engages in production activities, it is not productive. It typically consumes resources, which come at a cost.

Formatted from Twitter @PerBylund.

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Contact Per Bylund

Per Bylund is assistant professor of entrepreneurship & Records-Johnston Professor of Free Enterprise in the School of Entrepreneurship at Oklahoma State University. Website: PerBylund.com.

Note: The views expressed on Mises.org are not necessarily those of the Mises Institute.
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