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Second Thoughts on Growth
 

Analysis of a new generation of business owners, and growing a company in light of the last decade.
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Second Thoughtson GrowthA new generation of owners are building better, more durable companies bychallenging everything the last decade taught us about fast growth

If you were to name an opening day for the last decade's economy, a moment that seemed to crystallize the business world's dreams and ambitions for the years to follow, you might choose December 12, 1980. It was the day Apple Computer went public.

Not that the offering itself was so dramatic. The shares rose only 33% in the course of trading, a far cry from the crazy first-day doubling of Genentech's stock, a couple of months earlier. But who cared? The drama this time lay in the company, not in the market. Wall Street was putting its imprimatur on the two kids from California and, in the process, was making them not just multimillionaires but symbols of hope, of opportunity, of a new and rosier future.

Back then, you may remember, optimism was hard to come by. Inflation was well into double digits. The ayatollah had just overthrown the shah of Iran, and the resulting turmoil in the oil fields had sent energy prices soaring for the second time in six years. Interest rates were skyrocketing, too; the prime peaked in 1980 at about 20%. Jimmy Carter knew there was something wrong -- "The erosion of our confidence in the future is threatening to destroy the social and political fabric of America," he had told us -- but evidently didn't know what to do about it. Ronald Reagan, elected in November, was an unknown quantity, inspiring to some but frightening to others. And now -- here was this company, founded only a few years earlier, arousing the markets from their 1970s torpor. Unlike Genentech, Apple was more than a technological prayer and a promise; it was a company already topping $100 million in sales and making money besides. Maybe more important, it seemed a harbinger of things to come. Wall Street graybeards had seen plenty of hot new issues (though this one, they told one another knowingly, was the biggest since the Communications Satellite Corp.'s IPO, back in '64). But how many times had they sniffed a whole new industry in the making -- an industry with seemingly revolutionary technology, with opportunities not just for manufacturers like Apple but for parts makers, distributors, retailers, programmers, repair people, and so on? Optimism, hell. This had all the earmarks of a gold rush. Climb aboard or be left in the dust. Twenty-five-year-old Steve Jobs, after the initial public offering, was suddenly worth $165 million. There had to be more where that came from.

Wall Street was right, of course. Then again, Wall Street didn't know the half of what the ensuing decade would bring.

It was on target about the birth of a new industry. New industries, really. Personal computers and everything related to them, sure. But also video games, automated teller machines, engineering workstations, credit-card readers, smart telephones, electronic appliance controls, and a thousand other applications of the incredible shrinking microprocessor. Technology ventures proliferated. "The number of new companies being formed is unprecedented," wrote an incredulous Business Week in 1982. "The computer rookies are turning the industry upside down." And oh, how they grew. Apple reached $1 billion in sales in seven years. Compaq Computer, founded in 1982, took only five. Conner Peripherals, started in 1985, also did it in five.

Yet there was more -- much more -- to this particular entrepreneurial revolution. Technology companies might be making the biggest waves, both in the press and on Wall Street. But innovation and entrepreneurship were suddenly flourishing all over the economic landscape. A host of specialty retailers began carving up markets once dominated by the likes of Sears. A new generation of small manufacturers capitalized on corporate demands for high-quality parts delivered just in time. Astute company builders invented new services -- asbestos removal, telecommunications management -- and revitalized old ones, such as temporary personnel. These companies multiplied and grew as rapidly as their high-tech counterparts. Inc. began its annual listing of the nation's 500 fastest-growing private companies in 1982. Typically, only 20% to 25% of each year's list was in computer-related businesses.

The public, for much of the decade, was hypnotized by the megadeals of Wall Street -- the hostile takeovers and big-buck buyouts. Businesspeople, more and more, were mesmerized by the new companies. Look at that woman Debbi Fields, starting up a national company to sell nothing but freshly baked cookies! Look at airline entrepreneur Edward Beauvais, schoolboy software genius Bill Gates, manufacturing wizard Jack Stack. Where was the limit? People were making money -- fortunes -- in soft drinks as well as software, telemarketing as well as telecommunications. They even were having a good time doing it. Silicon Valley companies may have pioneered the new "workstyle," a rubric subsuming everything from Friday beer blasts to employee stock ownership plans, but the best new businesses all over the country seemed to be picking up on the valley's we're-all-in-this-together approach to management. They were reshaping the corporation while they reshaped the marketplace.

Not to mention the economy itself. David Birch's first report about the importance of small companies to job generation appeared at the end of 1979. His findings percolated outward over the next few years, and pretty soon both businesspeople and policy-makers were seeing entrepreneurship as a kind of economic salvation for a nation increasingly under siege from foreign competition. Europe and Japan weren't creating jobs, were they? The United States was -- millions of them, mostly from new companies, jobs that provided work for the huge baby-boom generation and for waves of immigrants, who often became entrepreneurs themselves. Smokestack America might be crumbling, the large corporations disintegrating. So what? "We have lived through the age of big industry and the age of the giant corporation," said Ronald Reagan at the decade's midpoint. "But I believe this is the age of the entrepreneur."

What gave entrepreneurship its pizzazz, of course, was growth. Anyone could start a company. But only a growing company could make a lot of money, net the big payoff, and arouse the interest of Wall Street. Only a growing company could have fun -- could provide the parties and the profit sharing, the opportunities and the excitement. And only a growing company could generate jobs. Though Birch's pronouncements on job generation were quickly adopted by small-business advocates, many forgot the fine print. Most small companies, Birch observed, don't grow at all. The jobs come not so much from small business but from the 10% or 15% of new businesses that grow the fastest. Growing companies, not small companies, were America's engine of development.

* * *

Didn't it seem as if that flood of growth would go on forever? Here at Inc. most of us thought so. We plunged into the middle of the entrepreneurial revival, publicizing it and analyzing it and (we hoped) nudging it forward. Our first issue, in April 1979, related the still-unknown story of Apple. ("Born to Grow," the article was called.) Later issues told of Genentech, of People Express and America West airlines, of Mrs. Fields Cookies and Marquette Electronics and Jack Stack's Springfield Remanufacturing Center. Our annual listing of the hottest companies ranked them by percentage of sales growth, pure and simple. We weren't insensitive to the importance of profit and market share and return on equity. But sales growth seemed like a pretty good proxy for all the virtues of the new entrepreneurship. It was the fast-growth companies, after all, that were reshaping the business landscape.

And yet -- we'd better confess it -- we heard plenty of stories suggesting that growth wasn't all it was cracked up to be. We even printed a few.

In 1986, for example, Robert Mulder wrote a first-person article for us about why he deliberately kept his landscaping company small. Who, asked Mulder, wanted to lie awake nights worrying about how much he owed the bank? Who wanted the hassles of managing a lot of employees? Mulder's article hit a nerve with many readers: from then on letter writers periodically chided us for our focus on fast-growth companies and our benign neglect of small businesses like Mulder's.

One reader, Joline Godfrey, was so persuasive on this subject that we asked her back for a Face-to-Face interview. Ostensibly, Godfrey's complaint was that Inc. was sexist, ignoring the many thousands of companies started by women. But she thought we weren't so much piggish as blind -- blinded by our concept of growth. Companies started by men, the kind typically featured in Inc., fit into what she called the Make Money, Get Rich, Grow Fast, Devote Your Whole Life to This Thing model of entrepreneurship. Companies started by women often didn't. Like her, other women who owned businesses might choose to grow more slowly -- or not grow at all -- so that they could pursue other interests.

Along with such voices of sweet reason came tales of terror, of hypergrowth companies and hard-driving entrepreneurs who had crashed and burned. There were bankruptcies and business failures, of course. More personal, and thus more poignant, were stories like Tony Bykerk's.

Bykerk had grown up poor, and when he set out to build a telecommunications company, he wanted to build it big. Before long K&B Engineering Inc. had 450 employees and 16 offices nationwide. It made the Inc. 500 in 1983. Bykerk himself was a rich man. He had a $2-million house, a 53-foot Hatteras yacht, a Porsche, and two Mercedes.

He also had a troubled marriage, a drinking problem that just wouldn't quit, and a mess at the office. Though sales kept rising, profit margins sank. Thievery and foul-ups seemed to be mounting. On one memorable day an employee simply walked off the job at a construction site; Bykerk finally tracked down the unhappy fellow five states away.

Bykerk resolved his crisis before the marketplace forced him to. He dried out. He made up with his wife. He sold the house and the boat and the cars, and bought smaller versions. And -- wonder of wonders -- he shrank the business. From 450 employees he went down to 85, from 16 offices to 4, all of them in California. Growth, he said, was a narcotic. He had been hooked, and he had shaken the addiction just in time.

Most disquieting of all, maybe, were the stories of entrepreneurs who believed they were building better, stronger, more durable companies by avoiding growth. Bykerk himself fit that description -- profit margins in his newly small company were more than double what they had been -- but he, after all, had been forced into it. Other company owners seemed to hear the small-is-beautiful drum from the beginning. Carl Schmitt, founder of University National Bank & Trust Co., was written up as an entrepreneurial exemplar in popular management texts, including Tom Peters's Thriving on Chaos. Yet Schmitt deliberately limited himself to two full-service branches and a relatively small customer base. (See "Small Business," March 1991, [Article link].) Stew Leonard, the grocer, never carried more than 800 items in his famous store -- and he opened up a second store only because his children were clamoring for their own shop to run.

But it was easy, during the 1980s, to discount such tales. So what if Mulder chose to remain small, or if Bykerk couldn't hack it, or if Godfrey sacrificed growth on the altar of other values? They might decide to absent themselves from the action -- but there was no doubt about where the action lay. And sure, maybe business geniuses like Schmitt and Leonard could stay small and prosper. But how many other company owners had been squeezed out by faster-growing, more aggressive competitors? Growth still seemed not only important for America but critical to a business's survival. Look at Apple, which had so far staved off the onslaught of IBM clones only by selling zillions of Apple IIs and Macintoshes. Growth might be risky. Not growing, surely, was riskier still.

* * *

By now you may have divined where this brief retrospective has been heading. We -- meaning the two writers whose names grace this article -- are arguing that company builders had better reexamine the goal of growth.

It isn't that we think Inc. or anyone else was wrong about growth in the '80s. Rather, it's that the United States is beginning a decade that won't look much like the last. Growth served as America's entrepreneurial religion during the '80s because of a particular set of conditions. Those conditions -- demographic, political, and economic -- no longer hold.

So while Apple and its successors may have been your role models for the last decade, it's companies like Schmitt's University National Bank that will be the models for the 1990s. In the coming years all-out, high-speed growth will rarely be possible. It will rarely be desirable. Small will once again be beautiful -- by necessity.

Now, this argument may smack of heresy, printed as it is in what is still the magazine for growing companies. So we'd better consider it one thesis at a time. Together, we believe, they make up a pretty persuasive canon.

Thesis number one revolves around demographics.

During the '80s some 18.5 million people joined the work force. Many of them were baby boomers, the huge generational cohort born between 1946 and 1964. A smaller number were older women returning to the workplace after years in the home, and some were recent immigrants to the United States. In any event, more people were working than ever before -- 63% of the population in 1989, up nearly four percentage points since 1980.

That growth is over. In the '90s, according to the Hudson Institute's "Workforce 2000" study, "the U.S. population will be growing more slowly than at any time in the nation's history, with the exception of the decade of the Great Depression." The work force itself will grow equally slowly. Immigrants may continue to enter the country, but not many more women are likely to seek work outside the home than did during the '80s. (Indeed, work-force participation rates for older women peaked 20 years ago.) Most important, young workers will be startlingly scarce, as a baby-bust generation follows the fabled boomers. By the year 2000 there will be nearly 5 million fewer workers between 16 and 34 than there were in 1985.

It isn't just McDonald's that should be alarmed by those figures; a dearth of employees can put a crimp in any growing business's style. Consider Interstate Telemarketing Inc., an Omaha company founded in 1980 by Joyce McLaughlin. Interstate grew to 60 employees and was on its way, or so McLaughlin thought, to 120. But Omaha's unemployment rate in the late '80s dropped to nearly 3%, and McLaughlin simply couldn't hire the staff she needed for growth. Similar problems have cropped up in other tight labor markets, and pretty soon the market for new workers will be as tight as markets come. Overall, of course, there will still be plenty of middle-aged baby boomers in the labor force. But how many of them will be seeking the entry-level jobs that a new company typically has to offer?

The demographics of the '90s undermine growth in another way, too. A rapidly growing labor force means a rapidly growing consumer market: those new workers spend a lot on clothes, lunches, health insurance, gasoline, and other items. Per capita income (corrected for inflation) rose 20% in the '80s, largely because more people were working. As labor-force growth levels off, however, a dismal economic truism comes into play -- namely, that overall spendable income can rise only as fast as productivity. And productivity gains in recent years have been, on average, only about half of what they were in the 1960s. Conclusion: markets will grow more slowly as well.

Thesis number two has to do with politics.

By politics we don't mean just who's occupying the Oval Office or its statehouse equivalents. Rather, we mean the whole web of policies, regulations, and attitudes that affect how businesses operate. You could call it the business climate, except that the phrase itself has been turned into a political football.

During the '80s the environment for new business could scarcely have been better. Partly that was a matter of specifics: the 1978 cut in capital-gains taxes; the deregulation of transportation, telecommunication, and financial services (which opened up big niches for new companies); and the variety of state and local programs designed to provide entrepreneurs with low-cost funds and technical assistance. Partly, too, it was a matter of attitudes and atmosphere. Job-providing company builders were America's newest luminaries, wooed and feted by political leaders all over the country. You could see both factors at work in the experience of a company such as The Veragon Corp. Entrepreneurs David Pitassi and Walter Klemp had built a successful paper-diaper manufacturing company in the Pacific Northwest, only to find themselves squeezed out by their investors ("The Enemy Within," April 1987). By 1987 they were looking to start another such company and began talking to officials in several cities. The winner: Houston, which provided them with tax abatements and other financial incentives. When Veragon hit it big in the marketplace, its founders promptly became local heroes: they were named Houston's manufacturing entrepreneurs of the year, and Veragon itself was given a Houston 100 award as the city's fastest-growing private company. At the awards luncheon, it was Pitassi who gave the keynote address.

And what will the '90s bring? Well, state and local officials will probably still like to cultivate entrepreneurship -- provided it doesn't get in the way of more pressing concerns. Tax breaks? Forget 'em; there are budgets to balance, and business taxes in many parts of the country are going up, not down. Cutting back on regulations? Not in this environmentally conscious era; even in Washington, D.C., the pendulum of regulation is swinging back. Voters in bellwether regions like California may even have had their fill of growth for a while. A recent Forbes article told of companies that were moving away rather than putting up with the Golden State's high costs and "bewildering array of environmental regulations." Those who stay may not be much happier. Faced with draconian new air-quality regulations, for example, printing companies in the Los Angeles area are installing hugely expensive emission-control equipment -- and they aren't allowed to buy new presses unless they can buy the requisite "air credits," which may or may not be available. The rules "have stopped the growth of the printing industry in southern California," says Neill Taylor, president of Overland Printers Inc.

Make no mistake: we don't favor dirty air, and we don't object to high taxes if they're matched by equally high levels of public services. But every now and then voters and policymakers seem bent on socking business with as many obstacles as they can. That's not a climate conducive to growth.

* * *

Entrepreneurial businesses adapt quickly. Astute company builders probably could find ways around the demographic squeeze and learn to live with (or move away from) the not-so-pro-business attitudes cropping up around the country. Then they could grow their companies anyway -- were it not for thesis number three. According to this proposition, the marketplace in the '90s won't be so conducive to growth, either.

Consider first the macroeconomic picture. Right now we're on the verge of a serious slowdown or maybe already into one. That by itself isn't the end of the world; we were in the same state of affairs in 1980. But at least two factors darken the current prognosis.

One is the size of the federal deficit. Historically, Washington has gotten us out of downturns through massive deficit spending. Indeed, many economists argue that Reagan's debt-financed military buildup during the '80s contributed mightily to the decade's economic boom. But with the current deficit estimated at $250 billion, no politician in his or her right mind will be proposing big new spending programs.

The other is the shakiness of the banking system. What made the Great Depression as bad as it was, most economists believe, was the collapse of so many banks and the resulting shrinkage of the money supply. Today, according to theory, individual banks may fail -- but the government insures depositors, so only the investors lose money. Note that we said, "theory." In late 1990 the Federal Deposit Insurance Corp. had about 44¢ for every $100 in insured deposits, as compared with the $1.25 per $100 thought by economists to be the minimum safe level. Last December three experts told a congressional subcommittee that the FDIC even then was technically insolvent.

Such pronouncements can send a shiver down any optimist's spine. For entrepreneurs -- optimists though they may be -- uncertainty over our financial future has a distinct and unfortunate consequence: it dries up money. Healthy growth companies have already seen themselves turned away by newly cautious bankers. "When things go wrong with banks and the financial markets," one banker told our colleague Bruce G. Posner, "one of the ironies is that good borrowers are punished." Equity capital, too, may be drying up. According to figures compiled by Venture Economics, in Needham, Mass., new capital committed to venture firms fell from a high of nearly $5 billion in 1987 to just over $2 billion in 1989. Granted, the vast majority of growing companies never come within shouting distance of an organized venture capital fund. Even so, the availability of venture money is a good barometer of the ease with which young companies can raise funds. "The market is cutting back capital flow to entrepreneurs," says Alex Sheshunoff, a banking consultant.

The microeconomic picture -- the view from an individual company's front door, so to speak -- should look equally discouraging to the growth-minded company builder. A lot has happened to the business landscape during the past 10 years, after all, and fewer and fewer markets offer the kind of niches in which a new company can take root and blossom.

Back in 1980 U.S. business was coming out of its most tumultuous decade in recent memory. Hard hit by the energy crises, buffeted by inflation, outflanked by the Japanese, and befuddled by new technologies, large corporations were in no mood to expand. Instead they retrenched, thereby opening up huge opportunities for growing companies. Apple came into existence because Hewlett-Packard turned away young Jobs and Wozniak -- and because Xerox hadn't figured out how to capitalize on the pathbreaking microcomputer research done by its own Palo Alto Research Center. To take an example that's more modest but more typical, a young Akron machine shop called S.C. Manufacturing Inc. grew and prospered throughout the '80s, largely because the city's ailing giants were shutting down their own machining facilities and sending more parts out for fabrication. It was a scenario repeated in a hundred different industries.

And today? Well, the big boys are probably as lean and mean as they're going to get, and they're no longer so inclined to pull back and lick their wounds. Big automakers such as Ford, for example, once enjoyed near monopolies on replacement auto-body parts. That dominance disappeared during the '80s; insurance adjusters began specifying less expensive parts made by independent companies. Now the automakers are striking back at their smaller competitors. Ford, for one, has cut prices an average of 14%.

Then too, many newer industries have attracted so many fledgling companies that they're due for a shakeout, not for continued expansion. How many upscale mail-order merchants does the world need? How many chocolate-chip-cookie vendors or video-rental stores or overnight-delivery services? Some companies will grow in the '90s by snapping up less successful competitors. But growth of that sort is a zero-sum game: one entrepreneur's gain is the end of another's company.

Finally, the marketplace is a fickle beast, as susceptible as any other human institution to the fads and fancies of the moment. In the '80s growing companies were hot, the in thing, the place to be. Helpers of all sorts flocked around entrepreneurs, in many cases making the difference between success and failure. Thrislington Cubicles is a case in point ("With a Little Help from His Friends," April 1989, [Article link]). Erstwhile actor Greg Braendel started a company to make high-end bathroom partitions, an unusual but nonetheless promising endeavor. And never mind that Braendel scarcely knew a stock offering from a stockroom -- he had a good idea and a lot of energy, and help was available. Blue-chip accounting and law firms offered their expertise at cut rates. Big manufacturers such as Du Pont and Formica provided marketing assistance. Even small suppliers helped out, stockpiling parts and materials and charging Braendel only for what he used. Eventually -- a short while after Inc.'s article on Thrislington was published -- giant Ingersoll-Rand bought 30% of the company for $3 million.

But what happens as the marketplace cools off, as would-be entrepreneurs find it harder to raise money, to carve out a market, to fend off competitors? The ardor of a company's suitors cools as well. At that point it's back to pre-1980s business as usual. Fancy accountants and lawyers decide that young companies are just a little too risky to deal with. Big customers, suppliers, and potential partners tell entrepreneurs to come back later, say, when they've been in business for five years.

* * *

So growth won't be easy in the coming decade. There won't be the same abundance of money, of people, of markets. There won't be the same climate of support. Companies that pursue the expansive strategies of the '80s will find themselves staring into a black hole of inadequate resources.

But smart entrepreneurs, we believe, won't just hunker down for the duration. Rather, they'll take their cue from small-is-beautiful companies like Schmitt's. They'll find new ways to survive, prosper, and, yes, even grow.

Some will forget about adding new customers and instead will deepen their relationships with existing customers. They'll pursue quality, customer service, and new products -- all in hopes of making themselves essentially indispensable to those who purchase their wares.

Others will restructure their businesses to allow for easy expansion when times are good and easy contraction in a slowdown. Among the methods: outsourcing virtually everything, maintaining the company itself as a tiny core of key employees.

Still others will learn to spread the risks -- and the management headaches -- of growth. They'll spin off subsidiaries. They'll set up joint ventures and other partnership arrangements. Inc. will return to those themes and similar ones in the months to come.

Meanwhile, it may be wise to heed the words of the master, Peter Drucker, who observes that history has seen many go-go decades, times when "growth was everything and everything was supposed to be growing forever."

In Managing in Turbulent Times, Drucker wrote: "Every one of these 'go-go' periods was followed by a massive hang-over during which everybody believed that growth had stopped for good. It never did, and there is no reason to believe it has stopped now.

"But in every such period, growth shifts to new foundations. It then becomes important for a business to think through where the growth areas are for its specific strengths, and to shift its resources out of the areas in which results can no longer be achieved into those areas where the new opportunities can be found."

As with Apple in 1980, the opportunities will be there. They just won't look quite the same.

Last updated: Mar 1, 1991




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