Managing in the New Economy

An economist who studies America's business environment talks to the editors about management and planning.

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David L. Birch, the economist who's helped us understand the truth about America's turbulent business environment, on his own experience in company building

For the past decade David L. Birch has made his name -- in Inc.'s pages and elsewhere -- as one of the clearest, most straightforward, and therefore most suspect of economists. Others theorize; Birch, mainly, counts.

Beginning as the director of a research program at the Massachusetts Institute of Technology in the 1970s, and continuing as founder and chief executive officer of Cognetics Inc., his economic research and consulting firm, Birch compiled a database that attempted to count -- and then track -- virtually every business enterprise in America and every job those enterprises provided. From such a project came some unforeseen discoveries, chief among them that small businesses, not large, generated the majority of the country's new jobs. More precisely, it was growth companies -- 98% of which have fewer than 100 employees, 86% of which have fewer than 20 -- that generated almost all new jobs. And growth companies represent just 10% of America's 7 million enterprises.

Questions about those 700,000 companies came to fascinate Birch in the 1980s. How do they grow? Where do they grow? What kinds of businesses are they, and in what industries? How old are they? How volatile? It was this last question that intrigued him most, because the picture that emerged was so unexpected, and so laden with consequence. Growth companies, it turns out, don't simply carve a smoothly climbing line on their chart of revenue over time. They move instead in great pulsating waves of ascent and decline, like a roller coaster gone dangerously out of control. It appears the road to success (or at least to 20%-plus annual growth) is paved with business reversals, layoffs, debt troubles, and crises of confidence -- in other words, with heartache.

In the midst of all this research, in 1983, Birch started Cognetics, which now employs 12 and grew quickly enough to rank among the elite 700,000. Given that, perhaps we shouldn't have been surprised when we revisited Birch in January at his offices in Cambridge, Mass.

We'd been regular guests during the time he was reporting his discoveries in a monthly column for Inc. But nearly two years had passed, and the Birch we met this time seemed changed. He was a little quieter and didn't move around as much. Though as enthusiastic as ever, he seemed every one of his 52 years, rather than preternaturally young as before. He seemed a little tired. He seemed, in short, just like a lot of CEOs we know.

So a planned interview with David Birch the researcher became instead a talk with David Birch the company builder. Birch the researcher confirmed our suspicion that business volatility, the pace of change in the typical growth company's fortunes, has only increased in the '80s, not slackened. Birch the company builder told us how understanding that turbulence helps him and his colleagues at Cognetics cope with it.

He talked with Inc.'s editor-in-chief George Gendron and executive editor Michael S. Hopkins.

INC.: A decade ago, when you began discovering the wild fluctuations of fortune suffered by most growth companies, your work must have seemed safely abstract. But for several years now you've owned one of those unstable enterprises. Has that changed the way you see them?

BIRCH: Not exactly. It's true I can empathize a lot better with the people who are in the midst of that instability. I know what it feels like. But that doesn't change what I measure, and the measurements still show the same instability -- fast-growing companies still rise and fall and rise again. Or don't rise again.

INC.: But hasn't your own company-building experience affected your understanding of that pattern?

BIRCH: It's more the other way around. My understanding of growth-company instability has affected how I run my company. For one thing, that awareness has given me comfort -- because I understand there's nothing pathological about my own company's tendency toward instability. Plus, I've been prepared for it.

INC.: Prepared? So you've operated differently as a CEO because of what you learned as a researcher?

BIRCH: Yes. All of us at Cognetics share a kind of knowledge; we've all studied the companies in our database and seen what the fast growers go through -- their extreme and threatening ups and downs. That's made us much more inclined to allow room for mistakes so that the bottoms don't kill us. We know they're coming, so we've built in cushions rather than going for the most rapid growth we could. We've tried deliberately to damp out the oscillations.

INC.: Can you be more specific? How do you allow a cushion?

BIRCH: Well, we keep a reserve of cash -- if we possibly can -- for when somebody gets sick or some client pulls out. We know we'd grow faster if we didn't keep it -- we could hire three more people, invest in a new computer, whatever. That's true. But we've made a very wise choice, I think. It's not that we want to stand still -- relative to the Inc. 500, we've grown pretty well -- but we don't want to try for 300%-a-year growth at the cost of keeping everything at the edge and possibly getting caught short.

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