Hollywood could be a role model for industry

  • @TheIndyBusiness
So evidently there is only room in the world for two manufacturers of large civil aircraft. Had it not been for European government subsidies for the Airbus consortium we might have been down to one. The Boeing takeover of McDonnell Douglas seems the demonstration of one powerful trend in international business taken nearly to its ultimate conclusion: concentration of an industry into a global duopoly.

If this is the most extreme example there are many other industries heading in the same direction of cross-border mergers. In international airlines there is the proposed code-sharing, or joint marketing agreement, between British Airways and American Airlines. That is a concentration of power rather than of ownership, but cross-border mergers seem close. Just yesterday a possible merger between Lufthansa and SAS was reported. In telecommunications there is the proposed takeover of MCI by BT; in pharmaceuticals the merger between SmithKline and Beecham; and in finance most of the London merchant banks have been taken over by large commercial banks, usually continental.

But parallel to this is another, equally pervasive trend: downsizing. In just about every industry in the developed world large companies are shedding labour. They are outsourcing an increasing proportion of their activities, farming large amounts of management out to consultancies, getting rid of non-core activities, and all the while driving down the costs of their core business by sacking people.

Boeing and McDonnell Douglas are good examples, too, of this second trend, for both downsized their workforces through the early 1990s, although Boeing has recently been hiring again. MCI is one of America's most enthusiastic downsizers and, in actual numbers of jobs shed, BT is probably the largest downsizer in the UK.

Vast screeds have been written by the management gurus about the rights and wrongs of downsizing, with some of the early enthusiasts now recanting; other management scribes have examined the process of concentration. But it is hard to find a synthesis: something that pulls together these apparently conflicting aspects of global business into a coherent explanation.

I suspect we will have to wait a few more years before we really understand what has happened and why, but it is worth setting out some ideas at this stage, for the twin trends seem to have some way to run.

There is, for a start, the blunt explanation offered by a colleague: concentration stems from the fact that companies that can establish something approaching a global monopoly will go out and do so; everyone else has to cut costs to stay in business.

It is a perceptive comment. You can see the twin trends clearly in a company such as BT, for it faces increasing competition at home and hence has to cut costs here, but would like to establish dominance (or at least parity with AT&T) globally, hence the merger with MCI.

But that does not really explain what has changed, or rather how change interacts with the existing situation of a company to force it to behave in these ways. There are at least three big changes taking place which alter the optimal size of a company.

One is the rise in the scale of risk. However hard companies work to try to lay off the risk, they often end up having to take larger and larger ones themselves. Thus the oil companies now almost always explore for oil in consortia; they hunt in a pack. Yet when exploring, these enormous companies - Shell is currently the most profitable group in the world - still can only run a small handful of big "bets" at any one time.

Very much the same applies in pharmaceuticals or in civil aircraft. But here, and more obviously in computer software, management consultancy or investment banking, a second force seems also to be evident. This is the need for a concentration of clever people, a critical mass of intellectual capital, which you have, as a company, to "own". You cannot get by in, say, investment banking, by hiring in subcontractors every time you need an international takeover specialist: you have to build a team and keep it together even when there is not enough business to support it, because if you don't you won't get the business in the first place.

There may not be the need for quite the same degree of commercial concentration in investment banking as in civil aircraft manufacturing, but in both cases the size and quality of the team is vital to success. So you have to be big.

There seems to be a third reason for growing concentration, which is marketing. Consumers the world over are so bombarded with information that they have very little spare space of mind to take on board a large number of alternative suppliers. So any organisation offering a one-stop shop, like a code-sharing airline, or a transatlantic telecommunications tie-up, will gain at the expense of a fragmented competitor. A brilliant marketer, a Richard Branson for example, can challenge global giants, but such challengers are few. The result: a handful of global brands.

Against this trend is a fall in start-up costs of small businesses, and clearly a comparative advantage in the cost of management. Personal computers have made it possible to start, promote and developbusinesses at much lower entry costs and it is also cheaper to manage a specialist provider. So in many areas, the optimal size for a business has come down. As a result, comparative advantage in management is increasingly achieved by better handling of relations with sub-contractors, rather than running a more efficient factory. The more complicated the products and services the commercial world offers, the more the big producers have to buy in specialist services.

Is there a synthesis? One academic who has examined the importance of intellectual capital in the business world is Professor Keith Bradley of the Open University. He argues that the best model that we have at the moment is Hollywood. The big studios are needed because of the enormous risks involved in each production. But they rely entirely on sub-contractors - actors, directors, specialist service providers - to manufacture their product. And they rely on agencies to assemble these together. Sure, Hollywood is an extreme model. But expect other industries to look more like it, in structure, if not in output.