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From Shareholder Primacy to Scale Insurgency

Regular readers of our blogs on the Founder’s Mentality® and the firm of the future will note that we frequently discuss the idea that we are in the midst of a transition to a new era in business—the era of scale insurgency. What do we mean by this concept of eras and transitions, and what are the implications of such a shift for business leaders today?

First, a brief recap is in order. Our research around the evolution of the firm has identified six distinct eras since the Industrial Revolution: periods when particular strategies, corporate forms and styles of manage­ment became the norm. Starting with the era of trading empires and moving to scale apprenticeships, early industrialists, trusts, and professional management, firms grew and became more sophisticated. Each era was shaped by the prevailing technology, demographics and political trends of the day and is often represented by an iconic company and/or CEO (John D. Rockefeller with Standard Oil, Alfred P. Sloan with General Motors, Jack Welch with General Electric).

We describe the current era, which began in the mid-1970s, as the shareholder primacy era. Its defining characteristic has been the focus on delivering shareholder value above all else. During this period, shareholders have demanded returns over shorter and shorter time frames. To satisfy them, firms have shed noncore assets, rolled up their core businesses through M&A, outsourced noncore activities, worked their existing assets harder, and increased returns on capital as well as distributions to shareholders (more than 100% of profits in recent years).

Transitions between eras are messy and disruptive, but some transitions are more disruptive than others. Roughly 100 years ago, the trust era gave way to the professional management era. The shift was a watershed for American business, with the government’s 80% win rate in antitrust cases leading to a mass extinction of trusts over 20 years. The new era was marked by the rise of a professional management system, which created many of the leading global institutions that still shape our world today. For the first time, management became a career path for millions of workers, separate from both capital and labor.

The subsequent rise of the shareholder primacy era was also disruptive—60% of the Fortune 500 turned over during the transition—but many of the core innovations and business practices of the professional management era endured. Most notably, professional managers remained at the heart of the firm, despite the repeated critiques of corporate bureaucracy (from Peter Drucker and Tom Peters, among many others). Businesses continued to scale and globalize, supported by favorable macroeconomic and political conditions such as deregulation, the end of the Cold War, falling interest rates, and the opening of new markets around the world, especially in Asia.

As we explored in our blog post on professional management, this system is starting to erode due to its rigidity and a failure to translate innovation into true business building. The shareholder primacy era is being replaced by the era of scale insurgency, as a new kind of company evolves that is faster, nimbler and customer-centric. Interestingly, the new era is harkening back to earlier eras in several ways. For example, some scale insurgents echo the audacity of trust era leaders, who at their best, acted as curators for their entire industry, with an intense focus on customer benefits a key part of their legacies. (More controversially, many are also pursuing the industry dominance and monopoly power that also characterized the trust era.) We see echoes of early 19th century scale apprenticeships, as well, with their focus on “mastery of the craft,” built on deep expertise and lifelong learning. Google, with its emphasis on “elegant coding,” is a good example. The language of tribes and guilds, so prevalent in the world of Agile, also captures the spirit of this earlier era.

But why is the shareholder primacy era, with its focus on incremental growth rather than business building, breaking down now? Partly it is due to macroeconomic issues such as the maturation of emerging economies (including the rise of formidable home-grown competitors in markets around the world, especially in China and India), the retreat from globalization, and a secular growth slowdown in the developed world due to labor scarcity and rising inequality. M&A is also becoming more challenging as regulators globally focus concern on market concentration (witness the recent attacks on Big Tech from across the political spectrum).

Large incumbents that grew up during the shareholder primacy era face at least four other key challenges at the company level. The most obvious is technology, which throughout all previous eras has steadily increased the economic returns to scale. This remains true today, but digital technology now also increases the returns to speed, with insurgent companies able to threaten incumbents by scaling faster than ever. At the same time, the historic trade-off between scale and customer intimacy is disappearing as digital and data become pervasive. The general biases of the late-stage shareholder primacy companies favor scale at the expense of speed and intimacy, but business building requires all three.

Another critical challenge involves talent. It is no secret that workers are demanding more—more purpose, more rewards, more learning, more flexibility. And in a world of labor scarcity, particularly for high-value capabilities, they are more likely to get it. These shifts will be magnified by the rise of millennials and centennials in the workforce, as well as the increasing use of part-time and alternative work models by older workers.

Capital is a third challenge; public markets appear broken. On the one hand, short-term demands for steady earnings growth and return on capital are increasingly seen as disruptive at best and destructive at worst. Public capital is also struggling to compete with deep pools of private capital that are backing companies with long and slow paths to profitability. The number of US public companies has declined by 46% since the 1990s, while private capital pools have grown rapidly. Access to plentiful and cheap funding should be a big advantage for scale incumbents, but not in a world where the capital is impatient and insurgents can tap into a growing variety of flexible capital sources (project-based equity financing, crowdfunding, peer-to-peer lending, green bonds).

Finally, complexity has gone from chronic to critical in many large institutions. The proliferation of spans and layers under the professional management system has slowed the speed of decision making just when speed and agility are most needed. Organizational units trap resources and lock in a mindset of incremental planning based on the previous year’s revenues. The inward focus required to manage and deliver “alignment” distracts from the firm’s insurgent mission.

The CEOs we talk to feel these changes acutely, but they often struggle to mobilize as aggressively as they want to. The habits and routines honed over 100 years of professional management thinking are hard to slough off. While some industries and markets are at the forefront of the change—retail, technology, China, banking—others seem more protected and slower to change.

Given the differing rates of change across industries, the transition to scale insurgency may take 10 to 20 years. But it won’t be gentle. We expect the current transition to be more like the shift from the trust era to professional management than the shift from professional management to shareholder primacy—in other words, another “big one.” In the new era, size will be more important than ever, but which aspect of size really matters and how companies acquire it will be very different. The professional management system, ascendant for nearly a century, will finally see its influence wane. In its place, a new operating model for scale insurgents is taking shape, one that will help renew the benefits of professional management at its best, while correcting the biases that have worked against business building.

We will explore these changes in future posts.

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