Never has the cult of gigantism gone so far. But what are the real advantages to scale?
Size and Scale
In the last few weeks, it has seemed that it could not be long before the whole of British industry was merged into a single company. The new Glaxo Wellcome Smithkline Beecham Barclays NatWest would be advised by Deutsche SBC Warburg Dillon Reed Morgan Merrill and audited by KPMG Coopers Price Waterhouse Ernst and Young and its share price would drift gently towards the stratosphere.
Never has the cult of gigantism gone so far. Two themes keep recurring. One is that the modern business environment favours large firms. “We need critical mass”. The other is that most industries are going through, or need to go through, a process of rationalisation. “There will only be a few global players in this industry and we intend to be one of them”.
These arguments, although similar, are distinct. It may be true that the financial services industry has too many firms, and the process of reducing that number will inevitably mean that existing firms get larger. But that does not necessarily imply that the largest firms, either now or in the future, will do best. Lloyds Bank has been both a beneficiary and a successful promoter of rationalisation, not because it is the biggest British bank, but because it has been the best performing. And there are industries – of which banking is one – which have always been dominated by large firms but there have been changes in the ranking of these large firms.
Today, I focus on the first of these issues: are large firms more likely to survive? Tomorrow I raise the second: is there is a general tendency for industries to become focused around fewer and fewer players? On (xx) I consider why these beliefs are so widespread despite the absence of much evidence of support them.
As the twentieth century reaches its close, it is a timely moment to look back at those companies which were largest when the century began. In 1912, US Steel was the largest industrial firm in the world. The arguments that its promoters used then are entirely familiar today. US Steel had achieved leadership through a combination of success in the marketplace and strategic acquisitions. It was well placed to achieve cost reductions through rationalisation and had established the size to dominate what was to become a major international industry.
Top 12 Global Industrials by Market Capitalisation 1912
Rank Company Industry HQ Country Equity Capitalisation($M)
1 USX* steel US 741
2 Exxon* oil US 390
3 J & P Coats textiles UK 287
4 Pullman railcars US 200
5. Royal Dutch Shell oil UK/N 187
6 Anaconda copper US 178
7 General Electric electricals US 174
8 Singer machinery US 173
9 American Brands* cigarettes UK 159
10 Navistar* machinery US 160
11 BAT Industries* cigarettes UK 159
12 De Beers diamonds SA 158
Source: L. Hannah “Marshall’s ‘Trees’ and the Global ‘Forest’: were ‘Giant Redwoods’ Different?” in N. Lamoureaux, D. Raff and P. Temins, eds., Learning by Doing in Markets, Firms and Nations, NBER and University of Chicago Press, forthcoming 1998.
*the modern names of these corporations have been sub substituted for their original 1912 ones: US Steel, Jersey Standard, American Tobacco, International Harvest and British-American Tobacco.
Top 12 Global Industrials by Market Capitalisation today
Rank Company Industry HQ Country Equity Capitalisation($bn)
1 General Electric electricals US 223
2 Royal Dutch Shell oil UK/N 191
3 Exxon oil US 158
4 Coca-Cola brands US 151
5 Intel chips US 151
6 Merck pharmaceuticals US 121
7 Toyota Motor cars J 117
8 Novartis pharmaceuticals Sw 104
9 IBM computers US 104
10 Philip Morris brands US 101
11 Procter & Gamble brands US 93
12 British Petroleum oil UK 86
USX (as US Steel became when it misguidedly sought salvation by buying an oil company twice its own size) is now a shadow of its former self. Its market capitalisation is now less than one twentieth of the largest corporation of today, General Electric.
General Electric itself, with Exxon and Shell, is one of the three companies to have remained in the top dozen throughout the century. Of the other leaders of 1912, several have disappeared and the others shrunk. This is broadly par for the course. One third of the top companies of 1912 are, or are part of successor companies, which have grown over the course of the century: the remaining two thirds are relatively smaller now than they were then. In the long run, most large companies fail.
Being in the right industry clearly helps. The oil business was a good one to be in as the twentieth century dawned and Exxon and Shell prospered accordingly. Other firms, like Coats (textiles), Pullman (railcars), Singer (sewing machines), Anaconda (copper), American Brands (cigarettes) and Navistar (agricultural machinery) were big players in major industries that declined in relative importance.
But this is only a small part of the explanation. It is not just that USX is no longer the largest company in the world: it is no longer even the largest steel company in the world. American Brands and BAT were perhaps unlucky to be in tobacco, and perhaps wise to diversify out of it. But there is still one tobacco company among the top dozen today. Philip Morris, which no-one had heard of in 1912, outclassed American Brands and BAT in their core business.
And General Electric itself is a complex story. While the electrical business was a good industry to be in, the company failed or performed poorly in the principal new electrical industries (computers, consumer electronics, nuclear power) and is best known today for its successes outside its apparent core (aero engines, financial services).
The view that scale is an insurance against decline is not a complete misconception. Great corporations rarely go bust. But their normal fate is ultimately to disappear from the scene when, after a period of attrition, they are acquired by more vibrant successors. That was the story of Distillers – formed in the 1920’s by a merger between all the major Scotch whisky producers, finally absorbed into Guinness in 1986 after a sixty year history of decline. And for those which have reached the size of the average quoted company and above, the evidence across the century is that larger scale has virtually no effect on the chances of long term survival.
For every long term success story, like GE, Exxon or Shell there is a counter example – like Austin Morris in Britain, Ling-Temco-Vought in the USA, Aikawa in Japan, Reemtsma in Germany. Each of these firms sought success from scale through acquisition and temporarily entered the global top 100, only to leave it again. The merger of several poorly performing companies served only to create poorly performing large companies.