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Why do companies exist?
The question rears its head again with the recent Business Roundtable (BRT) re-statement of corporate purpose, although it used different terms. The accepted view, following Ronald Coase, is that companies exist because of market imperfections. Markets are the best way of organising economic activity. But in the face of uncertainty, complexity and unscrupulous human behaviour, entrepreneurs can find it cheaper and less risky to build a business inside an organisation than contract in the open market. This ‘market-failure view’ of the firm leads directly to the traditional structure of the company as hierarchical authority system to control costs and prevent opportunism on the one side, and to a preoccupation with efficiency on the other (what could we outsource more cheaply to the market?).
Drucker Forum 2019
A travesty of the real situation?
Yet viewed through an ecological and ecosystem lens, a startlingly different, more dynamic and creative configuration emerges.
As the late Sumantra Ghoshal emphasized, companies are not a second-best alternative to markets. They and markets are interdependent parts of the same larger system, each distinct and complementary. A well-functioning market ecology requires both ‘intensely competitive markets and healthy companies co-existing in a constant state of vigorous but creative tension,’ Ghoshal wrote. The role of companies is to innovate, creating new value from society’s resources, whereas markets commodify and compete most of that value away to the benefit of consumers. Companies are thereby compelled to begin the innovation cycle again. This is Schumpeter’s ‘gale of creative destruction’ that propels the economy forward. The repeating cycle of innovation and commoditization in the semiconductor industry illustrates the process in action.
As Ghoshal pointed out, this argues for a very different type of organisation, and means of managing it, than those emerging from the Coasian analysis. Companies should be managed not to ape the efficiency of markets by wringing the most out of existing resources, as now. Instead they should maximise their ‘company-ness’: their capacity for purposeful future-oriented inventiveness. This is something that markets can’t provide because they incapable of intention or the ability to strategize.
Ecosystems and purpose
Now factor in today’s burgeoning ecosystems. Ecosystems represent a historic evolutionary shift in the ecology of business which offers vast potential for new kinds of value creation. But making the most of it requires an equal evolutionary advance in thinking about the form and functioning of the organisations that animate those ecosystems. The first law of systems is that everything is connected to everything else. The second law, obvious when you think about it, is that you can’t optimize a system by optimizing the parts. As Charles Hampden-Turner put it: ‘Maximising anything is fatal to the balance of the whole system.’
Thriving in ecosystems (see David Hurst, Julia Culen and Vlatka Hlupic in this series), means that management has to move up a level. From value capture to value creation, from winner-takes-all to give and take, from controlling events to identifying emergence and patterns. And from narrow shareholder obsession to big-picture concern with the health of the ecosystem as a whole.
This doesn’t make companies easier to manage, but it does clear up the vexed issue of purpose. It is no longer possible to ignore an ecological principle we have pushed aside for too long. No individual firm can flourish in a wider ecosystem that is failing. Every company is responsible for its health. Companies exist to contribute their best to the ecosystem by doing what only companies can do. That’s what they are for.
About the Author:
Simon Caulkin is a UK business journalist and writer. He is senior editor for the Global Peter Drucker Forum
This article is one in the Drucker Forum “shape the debate” series relating to the 11th Global Peter Drucker Forum, under the theme “The Power of Ecosystems”, taking place on November 21-22, 2019 in Vienna, Austria #GPDF19 #ecosystems
This is great stimulation, Simon. Thank you. I especially love your notion of “company-ness” as something that companies should maximise. It fits well with notions of sustainable value.
I also like your very smart point about markets being unable to do this, having neither intention nor ability to strategize, and I wonder how you would view Mariana Mazzucato’s view of the entrepreneurial state in that context.
He shared amazing insights and said it best that management has to move up a level.