Even when that approach was plausible, it had its limitations. If vertical integration reduces transaction costs and increases efficiency, why shouldn't a single company control the whole economy? And when should a particular skill be brought in-house to avoid production holdups, while other skills are purchased on the open market? No one could answer those questions, and no one could convincingly explain why certain companies got big and others didn't.
Today, with the advent of E-mail and high-speed computer networks, it seems absurd to claim that corporate expansion is still driven by companies' fear of holdups and efforts to avoid transaction costs. As industry observers Peter Huber and Jessica Korn wrote in Forbes magazine, old-style "corporations grew for negative reasons--to eliminate friction and to compensate for poor communication and the prohibitive cost of negotiating with too many outsiders. Andy Grove and Bill Gates grow their companies to exploit economies of scale and scope and to capture the fecundity and elusive value of teamwork culture. The new corporation isn't an assembly line. It's a human beehive, at its best."
Similarly, the idea of bigness as an antidote to "knowledge blackmail" is inconsistent with how large companies actually decide to "make" or "buy" products and services. Older, 1970s-era studies of auto suppliers, for example, suggested that companies like Ford and GM would be more likely to make something in-house--become vertically integrated--when the product involved demanded a greater level of design and engineering skill. That was consistent with the view that companies got bigger to avoid holdups when sophisticated activities are involved.
But now, two decades later, companies still tend to outsource even those projects demanding greater skills, instead of handling them in-house. "Vertically integrated establishments," a team of Columbia University researchers recently concluded, "are no more likely to be engaged in design work...on technically demanding parts than independent firms." Something other than mistrust of other groups' intentions, or friction caused by transaction costs, must explain how companies are organized.
Like Huber and Korn, Columbia University law professor Charles Sabel believes there's a new logic at work that challenges our understanding of how entire industries, not just individual companies, operate. "When you fully articulate any supply chain," he says, "the resulting unit is quite large. And it's completely confusing to many what's going on--it's decentralized but still coordinated."
In contrast to the thinking behind Wall Street's "Big Is Back" campaign, which focuses on the 1950s notion that economies of scale drive corporate earnings, Sabel believes the best modern companies and production networks instead seek "economies of scope": the more they do, the easier it is for them to do something new that builds on past experience. By pooling information and monitoring one another's performance over time, work groups within companies, and even vast production networks, continually increase their ability to understand and solve market problems.
What counts is not size but the ability to learn, apply knowledge to problems other companies face, and convince other prospective team members that a company can hold up its part of the production chain. "In the past," Sabel notes, "the game was being the first in the door with prospective customers or vendors. Now getting a foot in the door is just the first step; not only do you have to qualify, you have to continually show you can solve problems better than others."
The implications Wall Street and others want to draw about a company's prospects on the basis of its capitalization or how many employees it has are particularly misguided. If "big" means having a hierarchy and being efficient when it comes to repetitive tasks, and, on the darker side, engaging in wage, price, and consumer-market exploitation, then being big doesn't guarantee much in today's economy. Solving the riddles of autonomy to stimulate creativity and collaboration so that joint solutions to complex problems can be found is the real key. Size is no indicator of whether a company or an entire supply chain is performing well.
That's the ultimate reason the "Big Is Back" claim is so wrongheaded: it implies that the crude 1950s-era business model is somehow back in vogue. The companies that try to duplicate such practices, no matter how dominant they may appear, will suffer if they disrupt the ongoing development of modern collaboration and coordination approaches. Think of companies like Boeing, which elected to cut back the number of its suppliers and then turned up the heat on product prices for those it continued to do business with.
Aspiring and existing business owners who fear that their dreams will be dashed by a newly merged corporate giant should remember that this is still the age of the entrepreneur. The path to success may be more complicated for a start-up or a growing company than ever before, but bigness has little to do with getting there.
David Friedman's last article for Inc. was " The Smoke-Filled Tomb" (August 1996).
