Stanford Business

August 2002, Volume 70, Number 4

Change, Easier Said than Done

What makes some businesses sprout, grow, adapt, and succeed, while most never get off the ground? Researchers in the growing field of organizational ecology say it is not enough to study the companies that thrive. Answers lie in the stories of failure.

ILLUSTRATION BY GENE GRIEF

BY CHERIAN GEORGE

BITTEN BY THE TECHNOLOGY BUG and drawn by the scent of riches, 10 men got together in a garage on Alma Street, Palo Alto, to launch a start-up company. They never made it. The venture collapsed before any sustained manufacture of their dream product.

The year was 1908, and the new, new thing that drew these entrepreneurs was the internal combustion engine. Their firm, the Stanford Automobile and Manufacturing Co., shared the same fate as the Divine Motor Car Co. of Chicago, McHardy of Detroit, and more than 1,600 others that entered the industry between 1900 and 1920, only to fade into oblivion.

For one group of scholars, however, the very existence and varied fates of these myriad enterprises do matter. With the dogged determination of census takers, these researchers enumerate whole populations of organizations—not just the Fords and Chevrolets of an industry, but also the lesser-known and short-lived businesses that make up the majority of firms.

They call their approach “organizational ecology.” This perspective tries to capture the full range and diversity of corporations, through their birth, growth, transformation, and mortality. Organizational ecology yields insights into how industries develop and change over time. Many of the findings in the field have challenged conventional wisdom about competition, demanding the attention of policy makers and business leaders alike.

OLD ASSUMPTIONS CHALLENGED

1. Organizations change easily and often. Actually, the research shows inertia reigns.

2. The relevant players in an industry are companies that have opened for business. Industries are also shaped by ideas from companies that are aborted or stillborn.

3. Companies without competitors have the best chance of survival. Companies with enduring competition are better survivors.

4. New organizations are the most likely to fail. It is not their youth but their small size that is the biggest risk factor.

5. Personnel changes at the top of a company are disruptive. It is more disruptive for existing executives to change the company blueprint.

THIS DECEMBER, proponents of organizational ecology will celebrate the discipline’s 25th anniversary at a conference to be held at the Stanford Graduate School of Business. The Farm has provided a particularly fertile ground for scholars working within this research tradition. Organizational ecology can trace its birth to a 1977 paper coauthored by Stanford sociologist Michael Hannan, who is now the StrataCom Professor of Management at the Business School.

One of Hannan’s students, Glenn Carroll, has been prolific in adding to the organizational ecology literature. Carroll, who is the School’s Lane Professor of Organizations, in turn taught William Barnett, now a colleague in strategic management and organizational behavior—creating, so far, a three-generation chain of organizational ecology scholars under one roof at the Business School’s Knight Building. “They’re calling me the grandfather of the conference. They joke that it’s my retirement event,” says Hannan, hastily adding that he is not quitting anytime soon.

The research program grew out of a mounting unease with organizational studies’ prevailing focus on large, dominant firms. Hannan’s intuition was that there is a lot of diversity within industries, with hundreds of firms that people don’t notice. He also took issue with the assumption that organizations are plastic and changeable—if so, why is failure so common? Organizations are characterized by inertia, he felt, and there are good reasons for this. Reliability and accountability are valued attributes of organizations. These qualities are strengthened by predictable routines and structures, which create inertia as a byproduct.

Hannan was looking around for conceptual models for working out these kinds of arguments when he came across exciting new work in what seemed a totally unrelated field: population ecology. Ecologists in the early 1970s were exploring several new approaches. “That had a big impact on me,” Hannan says. With John Freeman of the University of California, Berkeley, he wrote the seminal paper “The Population Ecology of Organizations.”

The research tradition’s name tends to provoke suspicion. Business people might say that it’s a jungle out there, but surely serious scholars shouldn’t confuse man-made organizations with the world of plants and animals. The academics stress that, indeed, their approach is not about turning organizational studies into a natural science. “Ecology was used as a source of inspiration,” Carroll says, “but not as a source for understanding organizations.” The ecological twist to organizational studies includes an emphasis on the fact that each organization’s environment is made up of other organizations. It also shifts the analysis up from a single organization to the level of whole populations of organizations.

The ecological twist to organizational studies includes an emphasis on the fact that each organization’s environment is made up of other organizations.

Most industry studies would define the relevant players as companies that have opened for business. This doesn’t satisfy the organizational ecologists. They note that before an organization is formally launched, the founders have to work hard developing their plans and assembling resources. Some of these activities culminate in successful births, but others are aborted or stillborn. Studies that begin at the organization’s legal incorporation or commencement of production thus underestimate mortality rates and the degree of difficulty involved in entrepreneurial activity.

The automobile industry is a case in point. In a 1994 study, Carroll, Hannan, and their collaborators looked at producers and preproducers—defined as firms that had begun some form of organizing effort but had not reached production—for almost a century since 1886. They found that historians and economists have tended to overlook the astonishing number of hopeful producers, especially in the industry’s early years. They count 3,845 preproduction organizing attempts in the United States, of which only 11 percent succeeded in transitioning to the production stage.

Collecting data of this kind is no walk in the park. It usually involves hundreds of hours of interviews and archival research. Tracking down members of a population and recording their characteristics requires the tenacity of a detective on a chase and the attention to detail of an archaeologist on a dig. Clues come from unlikely sources. For the auto industry study, researchers relied partly on the 1,568-page Standard Catalog of American Cars 1805–1942 published for vintage car hobbyists and collectors. Carroll’s study on the microbrewery movement drew on collectors of beer mats.

Organizational ecologists suggest that the failure to appreciate the full diversity of organizations within an industry may translate into weak policy. “For example, in current policy debates concerning the competitiveness of a nation’s firms in the international marketplace, this issue often gets analyzed on the basis of a few anecdotes or highly publicized cases,” Carroll and Hannan write in their book, The Demography of Corporations and Industries. Similarly, discussions about the ability of Western nations and Japan to meet the pension burden of baby-boomers tend to focus on national social security systems and large old corporations, when in fact the greatest needs are generated by small new firms lacking private pension coverage.

Today, there is an international network of some 100 scholars working through an organizational ecology perspective. The approach has merited an entry in the forthcoming International Encyclopaedia of the Social Sciences (2002) and is recognized as a core specialty in organizational studies textbooks. A growing number of industries have been scrutinized through this lens, ranging from disk drive manufacturing to wineries and from airlines to auditing.

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Make Mine a Microbrew

The Story of Change in the Life Cycle of the American Beer Industry

ILLUSTRATION BY GENE GREIF

TWENTY YEARS AGO, the number of brewing firms in the United States was only around 40. It looked like an open-and-shut case of industry concentration. Management guru Michael Porter, in his classic book Competitive Strategy, cited beer brewing as a typical case of an industry in which economies of scale created high barriers to entry. Then, a funny thing happened. More and more firms entered the market. They were seemingly undeterred by the dominance of Anheuser-Busch, Miller, and the like. From 43 firms in 1983, the number of breweries operating in the United States rose to more than 1,400 by mid-2000.

For Glenn Carroll, the story of brewing is no aberration. The life cycles of various industries—ranging from airlines and auditing to music recording and newspaper publishing—tell the same paradoxical tale. Increased dominance of large firms actually creates an environment that is hospitable to the entry of smaller, specialist organizations. In the case of brewing, almost all the new entrants in the last two decades have been “microbreweries”: small firms that concern themselves with craftsmanship and taste.

With Anand Swaminathan of the University of California, Davis, Carroll has studied the emergence of the microbrewery movement to try to understand its dynamics. Carroll and Swaminathan use the idea of “resource partitioning,” which looks at how organizations target different segments within a market. Generalist companies tend to go for the market center, where resources—namely customers—are most abundant and which promises increasing returns to scale. Competition is fiercest there, and in line with conventional wisdom, the larger firms tend to kill off the smaller ones. However, the winning firms may not take over the entire market segments of the losers. This is because their target areas may not have been identical in the first place. Although all had an eye on the market center, some may have been slightly more downmarket, and some more upmarket, for example. The surviving firms may find it too costly to spread their efforts to cover the segments freed up by the death of their competitors. These spaces become available for smaller specialist firms to colonize.

Thus, concentration in the brewing business was associated with what some called pejoratively “industrial beer”—brands with virtually indistinguishable taste. Small, craft brewers moved in to provide consumers with a greater variety in taste, color, foam, alcohol level, and serving temperature. “The people behind the microbrewery movement, in an almost moralistic and evangelical way, thought that beer had become disgusting,” Carroll says. The movement has given the U.S. industry more firms and more product diversity than even Germany, which has a strong reputation for beer quality and is one of the world’s highest per-capita consumers of the beverage.

In their study, Carroll and Swaminathan introduce a twist to the resource partitioning theory. The market space cannot be thought of in terms of entirely objective product characteristics, they say. Instead, the appeal of microbreweries can be fully understood only by referring to cultural factors. They note that after observing the specialist market double annually while the overall beer market remained fairly flat, major breweries tried to develop their own specialty beers. Some of these products were as good as the microbrews and sometimes more consistently so. Yet the large breweries were unable to stem the tide of small firms. The microbreweries’ very identity as small-scale, underdog producers seems to give them a competitive edge in the specialty market. Catching on to this, major breweries have gone so far as to conceal their links to their specialty labels or to use contract manufacturers. On the other side, the microbrewery movement tries to expose these corporate links and guide consumers toward the genuine craft brews.

The researchers have found that fans of microbreweries react strongly against the mass producers and value the “authentic” quality of craft beers, which are perceived as standing for values other than just profit. Consumption of little-known craft brews also is associated with expertise and thus a certain social status—the parallel of being an aficionado of wine, cheese, or music.

This identity factor does not work the same way in all industries. In the airline industry, for example, small affiliates have found it beneficial to flaunt their ties with the giants (such as American Eagle with American Airlines). Even within the beer industry, the preference for handcrafted brews is not universal. In Hong Kong, the researchers found, traditional production is not romanticized as it is in the United States. Instead, home brewing is remembered by the locals as a source of irregularity in quality and even hygiene.

—CHERIAN GEORGE