Hegel predicted that the basic unit of modern society would be the state, Marx that it would be the commune, Lenin and Hitler that it would be the political party. Before that, a succession of saints and sages claimed the same for the parish church, the feudal manor, and the monarchy. The big contention of this book is that they have all been proved wrong. The most important organization in the world is the company: the basis of the prosperity of the West and the best hope for the future of the rest of the world. Indeed, for most of us, the company’s only real rival for our time and energy is the one that is taken for granted — the family.
Companies have proved enormously powerful not just because they improve productivity, but also because they possess most of the legal rights of a human being, without the attendant disadvantages of biology: they are not condemned to die of old age and they can create progeny pretty much at will.
From the beginning of economic life, businesspeople have looked for ways to share the risks and rewards of their activities. One of the fundamental ideas of medieval law was that “bodies corporate” — towns, universities, guilds — had a life beyond that of their members.
The most powerful economic power of the day finally brought together the 3 big ideas behind the modern company: that it could be an “artificial person,” with the same ability do do business as a real person; that it could issue tradable shares to any number of investors; and that those investors could have limited liability (so they could lose only the money they had committed to the firm). Just as important, the Victorians changed the point of companies. It was no longer necessary to seek special sanction from parliament to set one up or to limit its business to a specific worthy aim; now it was possible to set up general-purpose corporations at the drop of a hat.
A century after its foundation, the Minnesota Mining and Manufacturing Company makes Post-it notes. The world’s biggest mobile-phone company, Nokia, used to be in the paper business.
Modern business books may have macho titles such as Barbarians at the Gate and Only the Paranoid Survive, but early businessmen took risks with their lives as well as their fortunes. Send a fleet to the Spice Islands at the beginning of the 17th century, and you might be lucky if a third of the men came back alive. The was a time when competitive advantage meant blowing your opponents out of the water, when marketing meant supplying an English rose for the sultan’s harem, and when your suppliers might put your head on a stick.
Any young Napoleon who yearns for the scent of global conquest would be better off joining a company than running for political office or joining the army.
He argued that the main reason why a company exists (as opposed to individual buyers and sellers making ad hoc deals at every stage of production) is because it minimizes the transaction costs of coordinating a particular economic activity. Bring all the people in-house, and you reduce the costs of “negotiating and concluding a separate contract for each exchange transact.”
But the gains from reducing transaction costs that companies deliver have to be balanced against “hierarchy costs” — the cost of central managers ignoring dispersed information.
Yet, if many of the incidental noises of business are familiar, the environment is not. This was the time of the Black Death, of the revolt of the Florentine weavers against the guilds, of periodic bursts of violent religious fervor that often targeted moneymakers. Datini lived in daily dread of war, pestilence, famine and insurrection, in daily expectation of bad news. He believed neither in the stability of government, nor the honesty of any man. It was these fears that caused him to distribute his fortune in as many places as possible, never trusting too much to any partner, always prepared to cut his losses and begin again.
A guild typically enjoyed a monopoly of the trade within a city’s walls in return for substantial monetary donations to the sovereign. Its officers set standards for quality, trained members, approved notaries and brokers, administered charitable work, built magnificent guildhalls that survive till this day, and imposed punishments.
The guilds were often more like trade unions than companies, more interested in protecting their members’ interests than in pursuing economic innovation. Indeed, once their medieval heyday was behind them, they often descended into Luddism.
The 16th and 17th centuries saw the emergence of some of the most remarkable business organizations the world has seen: “chartered companies” that bore the names of almost every part of the known wold (“East India,” “Muscovy,” “Hudson’s Bay,” “Africa,” “Levant,” “Virginia,” “Massachusetts”) and even of bits that were too obscure to bear names (“The Company of Distant Parts”).
The other idea, which had occasionally surfaced before, was limited liability. Colonization was so risky that the only way to raise large sums of money from investors was to protect them.
The risks of investing in voyages to the spiceries of Indonesia would be akin to the risks of investing in space exploration today.
The Court of Directors also supervised the overseas network of resident “factors” who managed the local trading posts, or factories.
This whole elaborate structure depended on the quality of these factors. They were prey to all sorts of dangers, from warlords, disease, and the climate, and to constant temptations, not least the temptation to enrich themselves rather than their employers. The Company made a point of selecting the sons of its bigger shareholders to fill the jobs. It encouraged loyalty by paying generous salaries and referring to the firm as a “family.” In inculcated diligence by encouraging them to go to church daily, and came down hard on drunkenness, gambling, and extravagance. The head office scrutinized the factors’ performance against statistical averages, and asked their friends and relatives to submit confidential appraisals of their abilities.
It was under Clive and Hastings that the Company transformed itself into a form of government — “an empire within an empire,” as one director admitted. As tax revenues replaced commercial profits, a proliferation of boards, councils, and committees sprang up in both London and India. Its outward-bound ships were more likely to be loaded with soldiers and guns than they were with broadcloth. Even in China and the Far East, where the Company’s remit was more strictly commercial, it faced increasing competition from nimbler private entrepreneurs. The rise of both the Royal Navy and maritime insurance had reduced the risks of foreign trade, in effect eroding the raison d’etre for the chartered monopolies.
In the 19th century, the government use the renewal of the Company’s license, which occurred every 20 years, to bring it under even tighter control. In 1813, the government abolished its monopoly of trade. In 1833, it deprived it of its right to trade altogether, turing it into a sort of governing corporation. In 1853, with the introduction of competitive examinations for its staff, the Company lost its remaining powers of patronage.
Clive based his defense partly on that refuge of all multinational scoundrels: that India was a barbaric, uncivilized place, so anything went there.
And whatever the merits of mercantilism, the northern European model, in which the state subcontracted imperialism to companies, proved much more successful than the southern European model (notably in Spain), where the crown directly sponsored economic imperialism.
As for Smith’s 2nd charge — that the chartered firms were less efficient than owner-managed companies — this, too, is open to dispute. For all its faults, the East India Company demonstrated that when information was scarce and trust at a premium, a company could be more efficient than individual agents trading in the market. The Company’s network of trusted factors compiled information that could never be gathered by any private businessman rooted in one local market (its ledger book took 200 pages just to list the goods purchased in one voyage). And it used this knowledge to build a complex trading system to its own advantage.
It required every joint-stock company to possess a charter from parliament — something that involved huge costs in terms of money, time, and uncertainty. Most British businessmen preferred other sorts of organizations, such as partnerships and various unincorporated companies (partnerships that tried to mimic some of the qualities of companies by making their shares freely transferable and doing something to limit the liability of sleeping partners who were not directly involved in the business).
In the final decade of the 18th century, when one PM guessed that the three-quarters of the country’s overseas earnings were coming from slave-related business, the British shipped some 400K slaves.
Joint-stock companies were also unpopular with early industrialists. To them, partnerships made more sense than joint-storks companies. The amount of capital required for manufacturing ventures was not large. A group of Lancashire mill owners could raise enough capital to build a new factory. As for limited liability, that was viewed, to the extent that it was considered at all, as a weakness rather than a strength, because it would lower the commitment of the partner-owners. “It is impossible for a mill at any distance to be managed unless it is under the direction of a partner or superintendent who has an interest in the success of the business.”
In 1776, they demonstrated Watt’s machine in Birmingham: it rapidly became indispensable to the coal industry and then cotton mills. By the time they retired in 1800, handing the business over to their sons, Boulton and Watt counted among the richest people in the country, and Britain was producing 15M tons of coal a year, about 5 times the total production of continental Europe.
Murdock drew up a plant for a steam locomotive, which Watt dismissed immediately with “small hopes that a wheel carriage would ever become useful.”
The fact that business on both sides of the Atlantic was still rooted in partnerships did not make partnerships perfect. Unlimited liability restricted a firm’s ability to raise capital. The untimely death of a key partner or even an heir often killed the firm with it. Partnerships were fragile creations. Businesspeople stuck to them because they didn’t like bringing the state into their private affairs.
The last prompt was political. Concerned that their states were losing potential business, legislatures, particularly in New England, slowly began to loosen their control over companies. In 1830, the Massachusetts state legislature decided that companies did not need to be engaged in public works to be awarded the privilege of limited liability. In 1837, Connecticut went further and allowed firms in most lines of business to become incorporated without special legislative enactment.
This competition between the states was arguably the first instance of a phenomenon that would later be dubbed “a race to the bottom,” with local politicians offering greater freedom to companies to keep their business (just as they would much later dangle tax incentives in front of car companies to build factories in their states). All the same, it is worth noting that the states gave away these privileges grudgingly, often ignoring the Dartmouth College ruling and often hedging in “their” companies with restrictions, both financial and social.
Limited liability was still anathema to many liberals. Adam Smith had been adamant that the owner-managed firm was a purer economic unit: the only way the joint-stock firm could compete was through the “subsidy” of limited liability. Some of the industrialists who had helped get rid of the Corn Laws were suspicious. Surely entrepreneurs could raise the necessary sums by tapping family savings and plowing back the firm’s earnings? Wouldn’t limited liability just impose the risk of doing business on suppliers, customers, and lenders (a complaint that modern economists later echoed)? And wouldn’t it attract the lowest sort of people into business? The majority of established manufacturers, most of whom were located far from London, were against the new measure. So were the rich, who thought the poor would reap the biggest rewards.
In the early 1850s, some 20 English firms were established in France as commandoes par actions, even though it costs as much as $4K to do this. “So great is the demand for limited liability, that companies are frequently constituted in Paris and the US.”
He once caustically condemned a supporter of universal suffrage as being the sort of person “whose ideal of a joint-stock company is one in which everybody is a director.” He famously promoted educational reform on the grounds that if Britain must have democracy, “we must educate our masters.”
Yet companies now started to appear — and fail — by the thousands. Between the acts of 1856 and 1862, almost 25K limited-liability companies were incorporated. More than 30% of public companies obliged their critics by going bankrupt, many of them in the first 5 years of their existence.
It clearly was an innovation. It was the 1st autonomous institution in hundreds of years, the first to create a power center that was within society yet independent of the central government of the national state.
The company opened a $5M mail-order plant in Chicago, the largest business building in the world. To deal with the growing problem of fulfilling orders, Rosenwald develop a mechanical scheduling system, a sort of assembly line for customer orders. “Miles of railroad tracks run lengthwise through and around this building for the receiving, moving and forwarding of merchandise. Elevators, mechanical conveyors, endless chains, moving sidewalks, gravity chutes, apparatus and conveyors, pneumatic tubes and every known mechanical appliance for reducing labor, for the working out of the economy and dispatch is to be utilized here in our great Works.”
When John Jacob Astor died in 1848, he was the country’s richest man, leaving an estate valued at about $20M. But even at the height of his business career, when he was running the American Fur Company, he never employed more than a handful of people, the most important of whom was his son. His “headquarters” consisted of a few clerks working in a room the size of a hotel suite.
The behemoths that were created in this period helped found modern America. It was their jobs that lured people from all over the world to America’s big cities; their abuses that hastened the development of labor unions and antitrust law; their indifference to the environment that meant that sunlight could hardly penetrate the smoky air of Pittsburgh and Chicago; and their capacity to produce wealth that posed questions about inequality and meritocracy. The robber barons excited awe and disgust in equal measure for their “conspicuous consumption,” in the form of mansions, parties, and art collections.
The railroads were not just enablers for modern business; they were also the first modern businesses. It took gigantic quantities of capital — much of it from Britain — to build 31K miles of railroad, as America had in 1860 (let alone the 240K miles it had by 1910). Railroads had equally little choice about being the first firms to employ large armies of full-time managers. Moving huge amounts of freight around the country without trains crashing into each other required an awful lot of administration.
These managers were new figures in an agrarian society: people who didn’t own the organizations they worked for but nevertheless devoted their entire careers to them. They had a high sense of their calling (some even looked down on the mere amateurs who had founded the companies). And they pioneered many of the tools of the modern corporation. Railroad executives devised the accounting and information systems needed to control the movement of trains and traffic, to account for the funds they handled, and to determine profit and loss for the various operating units.
Meanwhile, the railways’ voracious requirement for capital did more than anything else to create the modern NYSE.
This consolidation meant that by the 1890s, the railways were bigger than the utility companies that brought light, heat, and water to Chicago and NY, and bigger by far than the armies that defended the US. In 1891, the army, navy, and marines employed a total of 39K people. The Pennsylvania Railroad employed over 110K.
The line production was perfected by Henry Ford. Ford’s engineers borrowed particularly from the “stopwatch” ideas fo the 1st great management guru, Frederick Taylor, whose Principles of Scientific Management was published in 1911. They designed improved machinery, such as conveyors, tollways, and gravity slides, to assume the regular flow of materials. Their stroke of genius was to introduce conveyor belts to move parts past the workers on the assembly line. This reduced the time it took to make a Model T from 12 hours to 2.5 hours. By the spring of 1914, Ford’s Highland Park plant had reduced the time to 1.5 hours, and it was turning out 1K cars a day.
Ford’s success was not just about building cars more swiftly, but also about bringing both mass production and mass distribution under the roof of a single organization. An “integrated” industrial firm could find economies of scale in everything from purchasing to advertising — and thus pump an endless supply of cigarettes, matches, breakfast cereals, film, cameras, canned milk, and soup around the country. The key was to own as much of the process as possible. Ford even owned the land on which grazed the sheep that produced the wool that went into his seat covers.
Duke, who had a tobacco business in Durham, decided to get into the cigarette business — at the time regarded as something of a dead end. But Duke found a secret weapon — the Bonsack cigarette machine, which could turn out 125K cigarettes a day, at a time when the fastest worker could produce no more than 3K. Duke’s machines were soon producing far more cigarettes than the then-undeveloped market could absorb, so he created a huge marketing organization to pump up demand.
But the most distinctive feature of all the integrated firms was a desire to grow as big as possible. That inevitably led to mergers.
Trusts, which separate the holding and control of assets from the beneficial ownership, were an old legal concept dating back to the Crusades (when knights left their possessions in the “trust” of others, to be administered on their behalf in their absence). For the robber barons, they were a way of getting around primitive antitrust laws prohibiting companies from owning shares in each other. Shareholders in a number of competing companies gave their voting shares to a central trust company in return for tradable trust certificates bearing the right to receive income but not to vote. This gave the central body the ability to determine common prices for the entire group.
In 1882, the Standard Oil alliance, a loose federation of 40 companies, each with its own legal and administrative identity (to satisfy individual state laws), metamorphosed into the Standard Oil Trust. The new trust acquired a single headquarters and immediately set about rationalizing the oil industry. The company’s costs fell dramatically, from 1.5 cents for refining a gallon of oil to 0.5 cents. “The Standard was an angel of mercy,” Rockefeller argued, “reaching down from the sky, and saying, ‘Get into the ark. Put in your old junk. We’ll take all the risks!’” Soon a quarter of the world’s production of kerosene came from just 3 giant refineries.
In 1899, after a number of legal feints, Standard Oil of NJ became the oil giant’s formal holding company, controlling stock in 19 large and 21 smaller companies. Big companies have used this device ever since (indeed, lawyers with doubtless pint out that many of the huge companies that we mention henceforth are technically no more than legal shells).
Standard was one of many trusts and big businesses to move to NJ. By 1901, two-thirds of all American firms with $10M or more of capital were incorporated in the state, allowing NJ to run a budget surplus of almost $3M by 1905 and paying for a rash of new public works. Inevitably, other states fought back. But the big winner of this particular “race to the bottom” would be Delaware. By the time the Great Depression struck, the state had become home to more than a this of the industrial corporations on the NYSE: 12K companies claimed legal residence in a single office in downtown Wilmington.
Most of the other industrial trusts converted to holding companies, too. They, unlike Rockefeller, often did so at the instigation of the most powerful trust of them all, the “money trust,” as Congressman Charles Lindbergh dubbed the masters of Wall Street. Since the US had no central bank, JP Morgan and a few other bankers wielded enormous power. The bankers made us of the new holding companies themselves to get around rules preventing them from investing in shares.
Equity trading remained a clubbish affair until at least the end of WW1. Most investors still found it difficult to value shares, often focusing on dividend yields: even relatively sophisticated people talked about buying 5% shares till WW2. Auditing was also lax: in 1914, an attempt to force all industrial companies to produce uniform accounts was defeated in Congress.
Were these new companies making America a better place? The robber barons themselves found heartwarming justification for their doings in the Social Darwinism of Herbert Spencer, an English thinker who won a huge following in America for his doctrine of “the survival of the fittest” and his opposition to state intervention of all sorts, from tariffs to public education. “Light came in as a flood, and all was clear” was Carnegie’s reaction to Spencer. Rockefeller likened laissez-fair capitalism to breeding an American Beauty rose “by sacrificing the early buds which grew up around it. This is not an evil tendency in business. It is merely the working out of a law of nature and a law of God.”
The bloodiest standoff came at Carnegie’s steel plant in Pennsylvania. Carnegie claimed to be a friend of workingmen, even encouraging his employees to call him “Andy.” But in 1892, he hand his plant manager engineered a confrontation with the Amalgamated Association of Iron, Steel and Tin Workers, then the strongest union in the American Federation of Labor, with 24K members across the country. In the past, the union had served Carnegie’s purpose by imposing equal labor costs on his competitors. Now that those competitors had been beaten, it was an inconvenience. Carnegie cut the men’s wages — a decision that precipitated a strike and then a lockout.
The next year, Morgan was summoned to the hearings into the money trust convened by Congress. The Pujo committee concluded that the money trust held 341 directorships in 112 companies with assets of $22B. In 1913, after Morgan died, his directors quietly resigned at 40 of the companies. America also set up a central bank in 1913, making the money trust lest powerful.
Most Americans were ambivalent about business. They disliked concentrations of corporate power — the US, after all, is based on the division of power — but they admired the sheer might of business. They disliked the wealth of businessmen, but they admired the fact that so many of them came from nothing. America lacked the intense class consciousness of Europe. “The social line between the laborer and the capitalist here is very faintly drawn. Most successful employers of labor have begun by being laborers themselves; most laborers hope to become employers.” Strikes were a matter of business, not sentiment.
Three things kept ambivalence about the corporation from tipping into hostility. The first was that the big companies wised up to politics. The Senate became known as the “millionaires’ club,” more representative of different economic interests than the individual states.
The second thing was the growth of what would now be called corporate social responsibility. Rosenwald thought it was good business to set up a pension fund for Sears workers. Many other big companies made positive efforts to cement the bond between capital and labor.
The third and most important thing that provided a bedrock of support for the company came down to a simple proposition: The company was making America richer. In his essay “Why is there no socialism in the US,” Werner Sombart argued that “on the reefs of roast beef and apple pie socialist utopias of every sort are sent to their doom.” The new companies plainly improved the living standards of millions of ordinary people, putting the luxury of the rich within the reach of the man in the street.
Britain, despite its wholehearted enthusiasm for laissez-faire, was a reluctant convert to companies. Germany and Japan embraced the idea much more warmly, but tried to twist it to rather different ends, such as workers’ welfare and the quest for national greatness. Companies in Germany and Japan were there to serve “society,” while their Anglo-Saxon competitors chased profits. The much-ballyhooed gulf between shareholder capitalism and stakeholder capitalism had already opened up.
There are plenty of reasons for Britain’s failure to capitalize on its head start. As a pioneer of industrialization, it was tempted to cling to earlier forms of capitalism; as a compact island, it was under less pressure to produce corporate giants (though the empire constituted a “domestic” market as big as America). Two things stand: the country’s strong preference for family firms and personal management; and the British prejudice against industrial capitalism.
This reflected a difference in philosophy. For American industrialists, companies were almost an end in themselves. They were to be tended and grown. For British industrialists, they were a means to a higher end: a civilized existence. They were there to be harvested.
This points to the 2nd British problem with companies: a fatal snobbish distaste for business. The elite public schools steered their most talented students into conspicuously useless subjects like the classics and poured scorn on anything that smacked of commerce.
To British intellectuals, a career in business was a despicable way of life, pursued only by the stupid and unimaginative. “Successful business was devastatingly uninteresting.” Almost everyone blamed industry for polluting the countryside, debasing the culture, and shattering their peace and quiet.
Lever decimated his domestic rivals by doing such ungentlemanly things as advertising his products.
Germany’s companies were similar to America’s in their focus on the new economy: almost two-thirds of the top 200 dealt with metals, chemicals, and machinery. But they embodied a rather different sort of capitalism — one that emphasized cooperation rather than competition and that gave a leading role to the state.
“Communities of interest” were coalitions of firms that pooled profits and coordinated policies on everything from patents to technical standards. Members of such “Its” were also frequently tied together by cross-shareholding.
The huge upheavals of the first half of the 20th century only increase the suspicion that Germany got something big right: its companies had to endure, among other things, defeat in two WW, several chronic recessions, Nazism, and partition. Our suspicion is that Germany’s success owed less to stakeholder capitalism than to 2 rather more practical things.
The first was the cult of education — particularly scientific and vocational education. Universities happily acted as both research agencies and recruiting grounds for local industries. By 1872, the University of Munich alone had more graduate research chemists than the whole of England. The Berlin Institute offered 2-year course in how to establish and manage factories. Germany began to found business schools at about the same time as the US. German firms also pioneered the development of internal labs, and invested heavily in R&D even in such basic industries as coal, iron, and steel.
The second related area was the respect accorded to managers, who enjoyed the sam high status as public-sector bureaucrats. Germany companies also made a point of giving technicians managerial responsibility rather than just relying on generalists, as Americans tended to.
They invited more than 2400 foreigners from 23 different countries to provide instruction in Western methods. Employment of foreign experts accounted for about 2% of government expenditure.
The government undoubtedly played a leading role in Japan’s Great Leap Forward. The Ministry of Industry regarded its role as making up for “Japan’s deficiencies by swiftly seizing upon the strengths of the western industrial arts.” It did so in all sorts of ways — by pouring money into infrastructure, establishing universities, directing business and credit toward companies, and establishing public companies as recipients of Western technology and models of Western business. Government investment usually exceeded private-sector investment until WW1. It was a government official who introduced a VC to a university teacher who had the wild dream of building a power station. The result was the Tokyo Electric Light Company, the ancestor of Toshiba.
Mitsubishi was the model for the zaibatsu — the Japanese conglomerates (literally, “financial cliques”) that dominated business in the country until WW2 (and were subsequently reborn as keiretsu). These conglomerates were a strange mixture of feudal dynasties, old-fashioned trading companies, government agencies, and modern corporations. At the heart of each zaibatsu sat a family-owned holding company that controlled a cluster of other firms through cross-shareholdings and interlocking directorates. Each cluster typically included at least one bank and insurance company as a conduit for public savings. Managers were typically recruited into the holding company from university. Thereafter, they spent the whole of their lives within this extended family of companies.
The zaibatsu were particularly successful in mixing family ownership with meritocratic management. The founding families were understandably nervous about the joint-stock concept, initially trying to keep control through special classes of shares, and then after those were banned in the 1890s, making arrangements so that groups of descendants could hold shares together (and banning them from selling them). Control of Mitsubishi alternated between 2 branches of the Iwasaki family. The founder’s brother insisted that “although this enterprise calls itself a company and has a company structure, in reality it is entirely a family enterprise.” At Mitsui, ownership was split among 5 branches of the same family.
Yet, the same families were notably better than, say, the British at handing over day-to-day management to professionals.
The multidivisional firm was an important innovation by itself, because it professionalized the big company and set its dominant structure. But it was also important because it became the template for “managerialism.” If the archetypical figure of the Gilded Age was the robber baron, his successor was the professional manager — a more tedious character, perhaps, but one who turned out to be surprisingly controversial. In the 1940s, left-wing writers argued that a new managerial ruling class had stealthily obliterated the difference between capitalism and socialism; in the 1980s, corporate raiders said much the same thing.
Yet, if Sloanism was built on decentralization, it was controlled decentralization. The divisions were marshaled together to use their joint-buying clout to secure cheaper prices for everything from steel to stationery. And Sloan and Du Point created a powerful general office, packed full of numbers men, to oversee this elaborate structure, making sure, for example, that the divisions treated franchised salesmen correctly. Divisional managers looked after market share; the general executives monitored their performance, allocating more resources to the highest achievers. At the top, a 10-man executive committee, headed by Du Poet and Sloan, set a centralized corporate strategy.
The beauty of Sloanism was that the structure of a company could be expanded easily: if research came up with a new product, a new division could be set up. “I do not regard size as a barrier,” Sloan wrote. “To me it is only a problem of management.” Above all, the multidivisional firm was designed “as an objective organization, as distinguished from the type that get lost in the subjectivity of personalities.” In other words, it was not Henry Ford.
There was an irony in the inventor of the assembly line being himself out-organized. What Ford did for physical machines, Sloan did for human beings.
Du Point also illustrated another advantage of Sloan’s system: it institutionalized innovation by making it the responsibility of specific people. Du Point poured money into research, supporting not just specialized labs in its various divisions but also a central lab known as “Purity Hall,” which concentrated on fundamental research. By 1947, 58% of Du Pont’s sales came from products that had been introduced during the previous 20 years.
Similar scientific studies led not just to bottled Coke being sold in garages, but to strict rules about the color of trucks (red) and the sort of girls to put in ads (a brunette if there was only one girl in the picture). Sales duly soared.
In 1931, an uppity P&G recruit named Neil McElroy broke the in-house prohibition on memos of more than 1 page, producing a 3-page suggestion for the company to appoint a specific team to manage each particular brand. “Brand management” provided a way for consumer-goods firms to mimic Sloan’s multidivisional structure.
As early as 1920, Company Man’s character had been formed by 2 things: professional standards and corporate loyalty. Company Man was defined by his credentials rather than by his lineage (like the upper classes) or his collective muscle (like the workers). He was part of a professional caste that adopted Frederick Taylor’s motto that there was “the one best way” for organizing work and sneered at rough-hewn entrepreneurs for not knowing it.
Coast published his ideas in a paper called “The Nature of the Firm.” Coast tried to explain why the economy had moved beyond individuals selling goods and services to each other. The answer, he argued, had to do with the imperfections of the market and particularly to do with transaction costs — the costs sole traders might incur in getting the best deal and coordinating processes such as manufacturing and marketing.
Robertson talked about the relationship between “conscious” firms to the “unconscious” market as being like “lumps of butter coagulating in a pail of buttermilk.” GM might have been a huge chunk of butter, but it was still within a liquid churn.
Henceforth, rather than worrying about monopolistic entrepreneurs squeezing out smaller businesses, the authorities increasingly looked for ways to protect small investors from the power of unfettered managers. In 1933, the NYSE finally required proper accounts for listed companies. The Securities Acts of 1933 and 1934 placed the fiduciary responsibility for reporting accurate information firmly with directors. Roosevelt created the SEC in part as a weapon against the bankers who he thought bore much of the blame for the recession. (He also established a flotilla of regulatory agencies to regulate companies, bringing trucking firms, airlines, and utilities under federal direction.)
In America, big government remained an important ally of big business, frequently drafting businesspeople (US SecDef included Neil McElroy from P&G, Charles Wilson from GM and Bob McNamara from Ford).
The prophets of nationalization shared the Sloanist belief in managerialism and gigantism. Politicians like Morrison claimed that they could manage things better than the anarchic market, with stricter controls and forward planning. Family firms were too small to survive in a world dominated by the economies of scale and scope. Nationalized companies would be big enough to capture economies of scale, to mobilize resources, and adopt new technology. They would be run by trained professionals rather than bumbling amateurs. Instead of just making their new fiefdoms into government departments, most nationalizers stuck to the corporate model.
European and Asian governments poured resources into “national champions” — companies that were either owned by the state or closely aligned to it. Heavy government regulation and intervention made it hard for newcomers to break into the status quo. Many countries saw the creation of a revolving door between big companies and big government.
By the 1960s, GE had amassed 190 separate departments, each with its own budget, and 43 strategic business units. The ubiquitous Peter Drucker temporarily shelved all his humanistic ideas about empowering workers to invent “management by objectives,” an approach that dominated “strategic thinking” for decades to come. He emphasized that both companies and managers needed clear objectives, and that the best way to achieve those objectives was to translate long-term strategy into short-term goals. In particular, he believed that a firm should have an elite group of general managers determining strategy and setting objectives for more specialized managers.
In 1982 and 1984, the government privatized its share in North Sea oil and gas; this was soon followed by British Telecom, British Gas, British Airways, and British Steel. Even the water supply and the electricity grid were handed over to private companies. By 1992, two-thirds of state-owned industries had been pushed into the private sector. Privatization was invariably followed by the downsizing of the workforce (sometimes by as much as 40%) and the upsizing of executive salaries, both of which raised the public’s hackles. But in general the new companies improved the services on offer.
Far from being a source of comfort, bigness became a code for inflexibility, the antithesis of the new credo, entrepreneurialism.
The big firms that survived this maelstrom only ddi so by dint to bloody internal revolutions. In the first 5 years of the 1990s, IBM, a company once so stable that it refused to sack people during the Depression, laid off 122K of its workers, roughly a quarter of the total. Jack Welch’s 2-decade reign at GE began in the 1980s with a period of shocking corporate brutality.
By the turn of the millennium, it no longer seemed odd that, at least for a time, the biggest challenge to the world’s richest man, Bill Gates, should suddenly spring up in a Finnish university dorm or that its product should be given away for free. Such uncertainty proved too much for the Sloanist idea of a company. It was too slow, too methodical, too hierarchical, too reliant on economies of scale that were withering away. It also proved too cumbersome when it came to husbanding knowledge.
GM boasted net-book assets (tangible things like factories, cars, and even cash) of $52B, but its market value of $30B was only a fifth of that of Merck, a drug firm that could muster a balance sheet value of $7, but had a far more valuable trove of knowledge. In 1999, America’s most valuable export was intellectual capital: the country racked in $37B in licensing fees and royalties, compared with $29B for its main physical export, aircraft.
The story of the company in the last quarter of the 20th century is of a structure being unbundled. Companies were gradually forced to focus on their “core competencies.” Coase’s requirement of the company — it had to do things more efficiently than the open market — was being much more sorely tested.
At first, the main attraction of Honda, Yamaha, Kawasaki, and Suzuki was price. But the 4 Japanese firms soon became the industry’s pioneers, introducing electric starters, 4-cylinder engines, and 5-speed transmissions, and launching new models every year. By 1981, Harley-Davidson had been forced to seek government protection, and the British motorcycle industry was to all intents and purposes dead.
This story seemed emblematic. In 1980, Chrysler, obliterated by better Japanese cars, lost $1.7B and had to be bailed out by the government. Sony and Matsushita had sewn up the consumer-electronics industry, and the Japanese had SV on the run.
In Europe, the myth of the unstoppable Japanese company neatly replaced the 1960s myth of the unstoppable American company.
Toyota treated all the different parts of the production system — development, purchasing, manufacturing — as a seamless process, rather than a series of separate departments. It brought together several important ideas, such as total quality management (putting every worker in charge of the quality of the products), continuous improvement (getting those workers to suggest improvements), and JIT manufacturing (making sure that parts get to factories only when they are needed). Workers were put in to self-governing teams, and there was far more contact with suppliers.
While Western companies tended to be accountable to short-term investors, Japanese firms financed their expansion with loans from their keiretsu banks. As for profits, these were deemed less important than market share. Japanese firms were prepared to tolerate very low ROI. And they had the firm support of the Japanese government, which protected some of the weaker keiretsu industries, and also turned a blind eye to corporate-governance questions and to antitrust considerations.
In the late 1980s, this “long-term” stakeholder capitalism represented a real challenge to shareholder capitalism — not least because critics could also point to other apparent successes. South Korea’s chaebol, which had broadly copied the keiretsu system, were seen as the next threat. German companies were outperforming their Anglo-American peer in some high-profile industries, notably luxury cars. They, too, were protected from the distractions of short-term capitalism by their 2-tier board systems, the argument went; they, too, ruled through consensus and works councils rather than through strikes and layoffs; they, too, enjoyed government support, rather than being left to sink or swim.
In the 1990s, admiration gave way to doubt. There were several reasons why Japan stagnated, not least macroeconomic mismanagement, but the stakeholder ideal was one of them. Consensus management often became an excuse for paralysis; lifetime employment not only proved impossible to maintain but also was a formidable barrier to promoting young talent. Clever young Japanese bankers and businesspeople migrated to Western firms that were prepared to give them more responsibility, not to mention money. Keiretsu firms tended to overproduce and over invest when compared with independent firms. Even in the boom years of 1971 and 1982, they derived significantly lower returns on assets. In the 1990s, they drifted from one disaster to another.
Meanwhile, the investment world became infinitely more complex, as markets deregulated and computers popped up in dealing rooms. The development in the 1960s of the offshore “Euromarket” in London prompted more flexible rules in NY, which in turn prompted more flexible rules everywhere else. By the early 1980s, the Western world had an integrated foreign exchange market and, for big firms at least, a global bond market. Soon mathematicians were dreaming up ever more ingenious forms of swaps, options, and other derivatives. The first hedge funds appeared, while other phrases such as “off balance sheet liabilities” acquired new meanings.
Companies had to ask hard questions about their scope. Investors, with a few prominent exceptions, wanted companies to be good at one thing: diversification was something they could do themselves. And they were remorseless about punishing bureaucratic flab.
It also tolerated failure and even treachery to an unusual degree. Many would argue that its real birth date was not 1938 but the moment in 1957 when the so-called “traitorous eight” walked out of Shockley Laboratories to found Fairchild Semiconductor, which in turn spawned Intel and another 36 firms. Virtually every big firm in SV was a spin-off from another one.
Nothing better symbolized the loss of confidence than the rise of the management-theory industry. As companies rushed to outsource everything in sight, many even outsourced their thinking to a growing number of “witch doctors.”
As the company jumped through these hoops, its relationship with the rest of society changed again. By the 1990s, companies had begun to move their headquarters out of city centers. Rather than displaying their might to the world, they preferred to retreat into low-slung business campuses in the suburbs. The cult of the bottom line was forcing companies to do away with what their bosses deemed to be unnecessary expenditure, even if it meant abandoning their old civic responsibilities.
For Company Man, the period was brutal. All his basic values were under assault — loyalty, malleability, and willingness to put in face time. The new hero of the business world was the tieless entrepreneur rather than the man in the gray-flannel suit.
The biggest change was psychological: even if people were continuing to work at companies, the old certainties of employment and position had patently gone. People talked about employability, not lifetime employment.
The American government also increased its grip on the company through laws governing health, safety, the environment, employee and consumer rights, and affirmative action. Often the effect was not just more red tape but also more lawsuits.
Unfortunately, the energy trading company took its penchant for innovation just a little too far. Its managers used highly complicated financial engineering — convoluted partnerships, off-the-book debt, and exotic hedging techniques — to hide huge losses.
Nobody was particularly surprised when a survey showed that 82% of CEOs admitted to cheating at golf. Meanwhile, investors fumed when they discovered that Wall Street analysts had been misleading them with Orwellian doublespeak: a “buy” recommendation meant “hold” and “hold” meant “run like hell.”
Those of the “rotten roots” school argued that the problems went much deeper. They argued that the 1990s had seen a dramatic weakening of proper checks and balances. Outside directors had compromised themselves by having questionable financial relationships with the firms that they were supposed to oversee. Too many government regulators had been recruited from the ranks of the industries that they were supposed to police. Above all, auditors had come to see themselves as corporate advisers, not the shareholders’ scorekeepers. In short, the agency problem — the quest of how to align the interests of those who ran companies with the interest of those who owned them — had returned.
There is more to this prejudice than xenophobia. Nation-states like to think of themselves as masters of their own domains; multinationals have loyalties that transcend national boundaries. In poorer parts of the world, the political power, real or imagined, of rich-world companies can seem particularly intrusive. In Asia, Latin America, and Africa, foreign companies built much of the local infrastructure, and uncovered much of the wealth. Even in rich countries, where the threat to the state is nonexistent, multinationals arouse suspicion.
The only reason why a multinational thrives in a foreign country is that, through fair means or foul, it is better at selling its goods and services than its local competitors. That is seldom a popular proposition.
The first businesses to coordinate their activities across borders on a large scale were banks. In the Middle Ages, Italian bankers representing the papacy collected part of the English wool crop in Church taxes, transferred it overseas, and took their cut from the transaction. In the 16th century, German bankers built up multinational networks whose core business was lending money to cash-hungry rulers — most notably the Holy Roman Emperor and the king of Spain; they then sprawled into other businesses such as mining.
One country after another raised protective tariffs in a bid to stimulate its native industries, starting with America in 1883 and Germany in 1887. By WW1, Britain and the Netherlands were the only important countries that still flew the free-trade flag. This forced companies that might have preferred to be exporters to become multinationals.
After WW1, the Americans became more methodical. Even Britain, the last free-trading nation, introduced tariffs on some goods, including cars, in 1916, before fully surrendering to protectionism in 1932. Yet none of the tariff barriers were proof against Yankee ingenuity. In the 1920s, GM bought Britain’s Vauxhall car company and Germany’s Opel to get around the new tariffs. “We had to devise some methods of living with restrictive regulations and duties. We had to work out a special form of organization that would be suitable overseas.”
America’s superior ability to manage big companies over wide geographical areas was making it impossible for European companies to compete. The Americans had mastered the tools of organization that held the key to prosperity; the Europeans, on the other hand, were held back by their commitment to family firms and their cult of flair rather than science.
The idea that the American would sweep all before them collapsed in the 1970s. The devaluation of the dollar in 1971 made foreign assets look more costly to American firms and American ones cheaper to foreigners. The oil-price hikes in the middle of the decade and the subsequent rise in commodity prices boosted the demand for energy-saving devices that Americans had little experience in producing. Inflation and recession further dented their self-confidence. By the early 1980s, the Americans were on the defensive, pinned back by German multinationals and humiliated by the Japanese.
That was overstating it. Geography did still matter. In 1995, the top 100 companies by market valuation included 43 from the US, 27 from Japan, 11 from Great Britain, and 5 from Germany. Countries as big as Russia, China, India, Canada, Indonesia, and Brazil could not claim any. Yet, this was the period when multinationals could appear from anywhere. Two of the world’s most successful mobile-telephone companies, Nokia and Ericsson, sprang up on the edge of the Arctic Circle. Acer, the 3rd largest computer company in the world by 2000, was founded in Taiwan, a place that was once synonymous with cheap radios.
Smaller companies did as much to drive globalization in this period as bigger ones. The lowering of trade barriers, the spread of deregulation, the plummeting cost of transport and communication: all made it possible for Davids to challenge Goliaths. Freer trade made it possible for young companies, including Microsoft, to reach overseas markets, without having to build huge foreign offices. The deregulation of the capital markets allowed smaller companies to borrow serious money, while innovative management techniques, such as JIT production, allowed them to mimic the efficiencies of bigger competitors. Small companies also encountered fewer political prejudices than big ones.
Wealth is not the same as power. In 2000, Wal-Mart might have been richer than Peru, but set beside the government of even that dysfunctional country, it looked pretty feeble. Wal-Mart had no powers of coercion: it could not tax, raise armies, or imprison people. In each of the countries where it operated, it had to bow down to local government. Previous giants such as ITT or the East India Company could muster real political power; Wal-Mart was simply rather good at retailing.
What about the objection that multinationals paid abysmal wages? Here the vital question is whether the wages were “abysmal” by Western or local standards. In 1994, the average wage at the foreign affiliates of multinationals was 1.5 times the local average; in case of low-income countries the figure was double the local domestic manufacturing wage. Multinationals have usually abided by higher labor standards than their local rivals. The key to their success is not usually that they pay low ages. It is that they bring superior capital, skills, and ideas (which push up living standards and increase the choices open to local consumers).
For much of the 20th century, the British Left fumed about foreign investment on the grounds that it was robbing an English workman somewhere of his livelihood, an argument that Hobson (and later Lenin) worked up into an entire theory of imperialism. Years later, Pat Buchanan and Ross Perot were singing from the same hymnbook.
It would be easy to pass these off as examples of economic illiteracy, political opportunism, and xenophobia. But multinationals clearly arouse fears that are too deep-rooted to be dug up with a few statistics. There is something worrying about the idea that your job is dependent on the decisions of managers who live in faraway places. Thus, multinationals will continue to represent much of what is best about companies: their capacity to improve productivity and therefore the living standards of ordinary people. But they will also continue to embody what is most worrying — perhaps most alienating — about companies as well.
Company Man turned the organization into a smooth-running bureaucratic machine, but when conditions changed, he, too, was jettisoned; now the company presents itself to the world as a lean, flattened entrepreneurial creation.
The trouble with all these economic forecasts is that they ignore a decisive variable: politics. A persistent theme of this book has been the jostling for power between the company and government.
Since the mid-19th century, there has been a battle between 2 different conceptions of the company: the stakeholder ideal that holds that companies are responsible for a wide range of social groups and the shareholder ideal that holds that they are primarily responsible for their shareholders.
Trust gives companies the benefit of the doubt when dealing with customers, workers, and even regulators. The value of acting in a responsible way during a crisis has now been drummed into capitalists.
These achievements are real, but drawing up long lists of when companies have acted responsibly (and when they have not) risks missing the biggest point. Henry Ford’s $5 wage was a force for good; but his cheap cars helped change the lives of the poor in ways that socialists could only dream about. Boeing has spent millions of dollars financing good works in Seattle, but the real boost to the region has been the jobs that it has provided. The central good of the joint-stock company is that it is the key to productivity growth in the private: the best and easiest structure for individuals to pool capital, to refine skills, and to pass them on. We are all richer as a result.