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Lijit Search

It's a fact of business life that companies become extinct.  Eric Beinhocker, author of The Origin of Wealth, notes:

Foster and Kaplan...looked at the five hundred companies that started in the Standard & Poor's (S&P) 500 when it was formed in 1957, and found that only seventy-four survived until 1997.

That is, over a span of 40 years, 85% of the original S&P 500 had disappeared as independent entities.  Clearly, size and historical success don't guarantee survival.  As Paul Ormerod, author of Why Most Things Fail, observes:

...the probability of failure, or extinction, is known to be highest when the company is first formed.  It then falls away rapidly.  After a short period of time, just two or three years, the probability of failure in any period of time is then unrelated to the age of the firm...Perhaps more surprisingly, there seems to be very little connection between the size of a firm...and it's probability of survival in any given period.

Beinhocker concludes,

The evidence...shows that while there is a tremendous amount of innovation and change in the economy at the level of markets, there is much less change at the level of individual companies.

Oremerud is more blunt in his assessment:

In short, despite the ability of humans and human institutions to act with intent, in reality it is as if they operate close to the paradim of the agent with zero cognitive ability...The clear implication...is that agents, firms, individuals, governments have very limited capacity to acquire knowledge about the true impact either of their strategies on others or of others on them...These limits can no more be overcome by smarter analysis than we are able to break binding physical constraints, such as our inability to travel faster than the speed of light.

Oremerud and Beinhocker are well-versed in traditional economics, and they find it lacking in many key respects.  Both are spokesmen for the nascent field of evolutionary economics, which hypothesizes that the economy is an evolutionary system, not just like an evolutionary system.  That is, the character of the economy is best understood in terms of the dynamics of iterated variation, selection, and amplification of business plans that bring together physical technologies and social technologies through the implementation of strategy.  In the evolutionary economics framework, all of these elements evolve and co-evolve in an effort to identify and climb peaks on a rugged and ever-changing fitness landscape.  Firms, which are composed of one more more commonly controlled businesses, fail because they fail to adapt as quickly as markets.

Beinhocker suggests a number of factors that might explain why:

• Human mental models are biased toward optimism, which dulls are sensitivity to the need for a change in our behavior.
• A bias toward loss aversion causes us to underinvest in experimentation.
• We rightfully value experience in a stable environment, but at the price of reduced flexibility in our thinking.
• The challenges of executing complex business plans encourages organizations to develop deep, densely connected hierarchies that are not well-suited to the tasks of exploration and creation of variety through "deductive tinkering."
• Path dependence in resources (capabilities) limits the ability and speed with which an organization can shift to a new business plan.

Nevertheless, Beinhocker believes that an organization may be able to influence its capability to adapt:

Taken together, norms from each of (the folowing) three categories can help an organization minimize the rigidity of the "hardware" side of things and substitute the "software" of culture for hierarchy and process.

Performing Norms

• Performance Orientation.  Always do your best, go the extra mile, take initiative, and continuously improve yourself.
• Honesty.  Be honest with others; be honest with yourself; be transparent and face reality.
• Meritocracy.  Reward people on the basis of merit.

Cooperating Norms

• Mutual Trust. Trust your colleagues' motivation, and trust in their skills to get the job done.
• Reciprocity.  Live the golden rule; do unto others as you would have them do unto you.
• Shared Purpose.  Put the organization's interests ahead of your own, and behave as if everyone is in it together.

Innovating Norms

• Nonhierarchical.  Junior people are expected to challenge senior people, and what matters is the quality of an idea, not the title of the person saying it.
• Openness.  Be curious, open to outside thinking, and willing to experiment; seek the best, wherever it is.
• Fact-Based.  Find out the facts; it is facts, not opinions, that ultimately count.
• Challenge.  Feel a sense of competitive urgency; it is a race without a finish line.

Beinhocker admits, "these norms have a somewhat motherhood-and-apple-pie quality to them."  Nevertheless, he reluctantly admits that most organizations, "truly live few, if any, of these norms."

I'm not a big fan of lists, but this is one that I'll keep.  And, while the emerging body of work on evolutionary economics may not have many fans in the economics and business consulting establishments, I agree with The Economist when it says that Beinhocker's book "is good enough and scholarly enough" to warrant attention.

1:07:32 PM