In 2001 the list of companies with the highest market caps was dominated by blue chips. GE, Microsoft, ExxonMobil, Walmart, and Citigroup—all were businesses led by managers who had mastered efficiency and optimization and who grew their businesses by making them work better than they had previously. Fast-forward to the present, and the list looks strikingly different. As of this writing, Apple, Amazon, Alphabet, Microsoft, and Facebook now top the list, with Tencent and Alibaba close behind. They are, for the most part, young firms led by founders and their teams, driven by bold, first-generation leaders who continually prioritize new growth over efficiencies in their core businesses.
Many things have happened in the intervening years to contribute to this shift, but the signal is undeniable. The market now rewards these pioneering enterprises and supports their vision and continual investment in new growth. Large enterprises have been attempting to respond to these developments for some time, mainly by applying the methods of startups, such as lean experimentation, design thinking, and agile development. But the focus on entrepreneurial tactics without a shift in our leadership mind-set is merely a Band-Aid on the problem.
Before we can dive into better ways to address new growth, we have to understand how the efficiency mind-set came to rule the business world—and how it was neither inevitable nor all that effective.
Privately held corporations of the late 1800s were run by the families that founded them. Back when Carnegies and Rockefellers dominated the earth, legacy sons, regardless of their interest levels or skill sets, nearly always inherited moneymaking empires from their fathers. Lower-ranking employees were hired in, but the top brass was all family.
Although it may sound positively quaint now, back then both family-run and civic-minded corporations were expected to build their businesses in ways that supported their communities. Since the American government created a fertile environment for corporate growth and prosperity, organizations benefiting from that environment were advised to behave with grace and gratitude.1 These companies were designed to care for employees, customers, and stockholders in almost equal measure.
This attitude remained fairly ubiquitous, even as the families who owned large corporations began to hand off their oversight to professional managers. But by the early 1930s, economists began saying that keeping management separate from ownership was essential to long-term success. The era that followed is often referred to as “managerial capitalism,” a time in which the piloting of behemoth organizations shifted from owner-founders to hired guns.2
Many of these newly minted CEOs and executives took it upon themselves to streamline the organizations they ran. Between the 1930s and the 1950s, the American economy had very limited available capital, which meant corporate leaders tried to squeeze the maximum amount of profit from every dollar spent. Business school had taught them it was perfectly fine to freely use resources that were abundant and cheap, but rare and costly resources needed to be meticulously stewarded. Liquid cash was scarce at the time, so only investments that paid off handsomely were considered successful. And success was no longer measured as straight profit in dollars, but instead as ratios like RONA (return on net assets), ROCE (return on capital employed), and IRR (internal rate of return).3 Waste became the ultimate enemy, and efficiency the ultimate goal.
Yet even as leadership structures and organizational priorities changed, core values remained rock-solid. Well into the 1950s and ’60s, corporations built factories on their home turf, invested in real innovation that churned out life-changing products, created millions of jobs that fueled the middle class, paid billions in taxes, and enthusiastically worked to fortify the American economy in virtually every way.4 Early CEOs championed this philosophy.
Then economists began to grumble. And their grumblings changed everything.
In 1967, economist John Kenneth Galbraith catalyzed a business-world shake-up by publishing The New Industrial State. In this book, he posits that American mega-corporations had grown too powerful and were no longer truly serving public or consumer needs. He said these companies fabricated markets through manipulative advertising, and focused on accumulating cash instead of fixing customer problems.5 Galbraith sowed the seeds of mistrust in corporate America, but what sprouted from them was surprising.
Economists Michael C. Jensen and William H. Meckling also became outraged, but on behalf of a different population. Where Galbraith wanted executives to answer to customers and the American public, Jensen and Meckling believed they should answer to stockholders. To understand why, we need to rewind a few decades.
The American economy had experienced a much-needed economic boom in the years following World War II. During this “golden” age, many corporations were raking in profits so huge that they never had to concern themselves with choosing whom to please; there was enough to go around, and stakeholders, employees, and communities were all happy and handsomely paid. But by the late 1960s, globalization and deregulation began to have huge impacts on the American economic landscape. Increased competition meant smaller profit margins, and executives could no longer spread company wealth around so freely. Ultimately, they determined it was better to disappoint shareholders than to give short shrift to workers or customers.6
By the mid-’70s—after a decade of unremarkable profits and negative returns—shareholder disappointment turned into indignation. Investors were weary of seeing stocks that had long been profitable suddenly lose value, and incensed that companies seemed to be doing little to rectify the situation. Sensing growing unrest, powerful economists began to demand a change in business priorities.
In 1976, Jensen and Meckling led the charge by publishing an incendiary paper titled “Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure” in the Journal of Financial Economics. This now legendary piece served as an angry rebuke to the entire philosophy of managerial capitalism. These two venerable economists claimed that any corporations built to serve customer needs and reward professional managers were wrecking the economy. They further asserted that these organizations were shirking their responsibility to produce returns for their shareholders.7
And the accusations didn’t stop there. Jensen and Meckling claimed that CEOs and managers could not be trusted to work on behalf of shareholders, since they were far too consumed with padding their own bank accounts. Galbraith’s ideas in The New Industrial State supported this supposition by pointing out that most companies concentrated on the gradual refinement of their products, not on boosting their stock prices. A company that built cars or produced cheese or manufactured circuit boards wasn’t designed to devise tactics that yielded more money for shareholders. The people working inside those companies aimed their efforts at producing more and better cars, cheeses, and circuit boards.8 Which meant that, in essence, no one was looking out for shareholder profits.
The battle cry resonated, and soon more and more corporations were hearing from incensed stockholders demanding better market performance. CEOs recognized that they needed to “maximize shareholder value” or risk losing their jobs. Executives became convinced that they answered to and worked for their shareholders. And as we moved into the 1980s, corporate boards took on the task of getting managerial and shareholder interests into alignment, often by rewarding executives with stock-based bonuses as motivators.9 Shareholders, once an afterthought, were now a vocal and powerful economic force.
As Cornell Law professor Lynn Stout points out in her 2012 book, The Shareholder Value Myth, there were no laws in place that forced executives to fulfill shareholders’ fiduciary expectations. Executives pledged allegiance to the corporation itself, and were expected to act in its best interests. Shareholders were contractually entitled to the “residual value” of the corporation after its other financial obligations had been fulfilled, but nowhere did any doctrine state that corporate leadership must actively work to boost that residual value.10 This was not an encoded shift, but instead a tacit agreement between CEOs and investors. And it was an agreement that persists to this day.
This sea change transformed both the economy and the stock market. In the 1960s, 10 percent of households controlled 90 percent of US corporate stocks. By the 1980s—after the shift toward shareholder appeasement—pension funds, mutual funds, and institutional investors controlled 60 percent of stocks. Additionally, hedge fund managers craving hefty quarterly returns changed the very nature of investing. Through the 1960s, people tended to buy stock and hold on to it. The number of shares bought and sold on the New York Stock Exchange—a phenomenon called “turnover”—averaged a mere 20 percent per year.11 With the new focus on fast-turn profits and obsession with quarterly numbers, the 1980s saw turnover rates climb above 70 percent. An average stock was held by fund managers for just twelve months.12 If a stock wasn’t performing on a quarterly basis, fund managers dumped it without a second thought. (And dumping stocks continues to be a popular activity: In 2015, turnover rates hovered around 150 percent.13)
This meant that within company walls, leaders were driven to generate short-term wins that brought incremental shareholder returns. Delivering the best solutions to consumers and upholding responsibilities to employees, suppliers, and communities dropped off their collective radar. Any activity that failed to nudge stock prices ever upward was deprioritized and abandoned.
Leadership teams still relied on efficiency-focused ratios to measure success, but they found clever ways to manipulate those ratios to their advantage. Since RONA, ROIC, and IRR are fractions, they can be tweaked by making changes to either the numerator or the denominator. Generating more profit would add to the numerator, driving RONA or ROIC up. But new growth is harder than cutting costs, so naturally, more executives turned to cost cutting to reduce the denominator, which had the same net effect of increasing the overall ratio. IRR could be boosted by adding profit to the numerator, or by championing projects that paid off quickly and reduced the denominator.14 This system of (perfectly legal) cleverness meant that companies didn’t have to grow real-world profits in order to satisfy shareholders’ collective hunger for returns. They just had to reduce expenditures and boost their ratios.
Then efficiency went from a priority to a craze with the birth of Six Sigma. With roots in German mathematics15 and refinements made during the rebuilding of Japan after World War II,16 this set of ideals was distilled by Motorola leadership in 1986 and transformed into a wildly popular management method. Executives who followed Six Sigma were urged to focus on statistical analysis and measurable process improvements instead of driving innovation or conquering new markets. As the 1980s rolled into the early 1990s, more and more corporations began adopting these tactics, fueling a bona fide efficiency epidemic. Companies looked inward more and more, determined to save costs and boost shareholder value without actually making anything new or addressing consumer pain points.
Initially, economists believed this new era of efficiency-obsessed leadership would lead to nonstop innovation. But with quarterly returns constantly looming, all innovative energies were directed toward tweaking existing systems to make them more efficient and more profitable. The result was that leaders, shareholders, and fund managers began to view corporations as bundles of financial assets instead of groups of people generating ideas and meeting customer needs. And when a company’s value is boiled down to its assets, there’s no reason to prioritize customer satisfaction or product management. It’s all about the balance sheets.17 Why pour cash into investigating a new market when you can just wring profits from your existing market?
Eventually, it became clear that shareholder pressure didn’t just encourage consistent quarterly results, it actively discouraged R&D, new growth efforts, innovation, and exploration. Not only that, but the focus on boosting stocks didn’t actually yield the desired results for shareholders; stock returns during this period were statistically worse than they’d been before “shareholder value” became the top priority.18
Corporations of every stripe bent over backward to increase shareholder returns, overhauling processes and eradicating creativity along the way, and still couldn’t deliver. Which brings us to the digital age, when the internet fundamentally changed the ability of small companies to reach customers and new business models would eventually shatter long-held beliefs about success, profitability, and growth. Business cycles were speeding up at a dizzying rate and enterprises began to see the risk of not keeping up.
Now we’re edging toward more familiar territory, including events that many of us witnessed firsthand. But let’s do a quick recap so we’re all on the same page.
Starting in the late 1990s, internet and tech companies began to proliferate and flourish. Online commerce became a driver of massive growth, spawning retailers who hawked everything from books to shoes to food to consumer services over the internet. Investors were thrilled by this emerging market and ravenously snapped up stocks from frequent and lucrative IPOs. The NASDAQ soared, and many people got very, very rich.19 But in March 2000, the bubble burst, and dozens of companies that had been Wall Street darlings folded overnight. This happened for a number of reasons, but the main one was that many of these companies didn’t have sound business models.20 Investors were betting on the startups’ ability to get into the black eventually, but the market reached critical mass and crashed before many of them could even begin to earn.
Despite its disastrous repercussions, the Dot-Com Boom also laid some important groundwork. Over the next ten to fifteen years, entrepreneurs learned how to build and scale businesses quickly and to take ideas from whiteboard to market faster than their predecessors ever dreamed possible. They focused on identifying a customer need or friction point and devising a service or product that solved the problem in a way that was radically new. They eschewed shareholder returns in favor of utility and innovation. They plunged fearlessly into new markets and made big waves with small amounts of capital. Tech and online startups changed the game. And for the most part, they changed it for the better.
As we mentioned at the beginning of this chapter, 2001’s top five companies by market capitalization were GE, Microsoft, ExxonMobil, Citigroup, and Walmart. By mid-2018, they were Apple, Amazon, Alphabet, Microsoft, and Facebook. It’s not hard to see the trend in those lineups. Traditional big enterprise tumbled right off the list, and all the top spots now belong to technology companies who are obsessed with solving customer problems rather than delivering shareholder value.
You’ve probably noticed that Microsoft made it onto the Market Cap Honor Roll in both 2001 and 2018. It’s worth noting that it actually dropped off the list in the intervening years, but is currently in a rather spectacular state of reemergence. And that all comes down to leadership.
Microsoft lost its mojo when cofounder Bill Gates stepped down in 2000 and staid executive Steve Ballmer took over the CEO role. While other tech firms were on a tear, Microsoft languished with a series of “me-too” product launches and a protectionist view of their cash cows, Windows and Microsoft Office.21 But in 2014, a new CEO was appointed, one who behaved with the conviction and passion of a startup founder while piloting an industry giant. And in just a few years, Satya Nadella has made remarkable progress toward righting the ship.22 What’s he bringing to the table that his predecessor couldn’t? A mind-set shift.
In a 2015 interview with The Verge about the future of Microsoft, Nadella said, “We no longer talk about the lagging indicators of success—revenue, profit. What are the leading indicators of success? Customer love.”23 In his book Hit Refresh: The Quest to Rediscover Microsoft’s Soul and Imagine a Better Future for Everyone, he outlines a very startup-reminiscent philosophy of promoting exciting new ideas, creating spaces for employees to try and fail, and keeping an eye on long-term goals instead of fretting over quarterly returns. Nadella has taken over a company that began as a startup, grew into an entrenched behemoth, and is now on its way toward a successful hybridization of established corporate structure with entrepreneurial business tactics. And with double-digit profit margin growth every quarter since 2017, it’s clear his tactics are working.24 You could credibly claim that Nadella has refounded Microsoft.
More CEOs will need to follow suit. Growth leaders must stop focusing their energies on incremental growth through endless optimization, and instead leverage their companies’ assets to build new offerings, move into new markets, and create next-generation solutions. When a CEO with that growth mind-set takes the wheel at a legacy company, dazzling change suddenly becomes possible.
Every year, BlackRock founder Larry Fink pens a letter to all the CEOs who head companies in which his clients have invested. In 2016, he used this letter to inform all five hundred of them that he was no longer interested in investing in companies who were gamifying their share prices through stock buybacks (illegal until the early 1980s) and short-term fixes. Instead, he said, he wanted to use his then $5.1 trillion in assets under management to invest in companies that had a genuine obsession with customer value.25
Then Fink stepped it up a notch: His 2018 annual shareholder letter insisted that financial performance, no matter how exceptional, was no longer enough to warrant his capital. He wanted to invest in companies that were serving a social purpose. Yet he insisted he wasn’t abandoning capitalism. Rather—given the shifting mood of the country, and outside forces like policy changes in taxes, immigration, and LGBTQ rights—companies without a sense of purpose “will ultimately lose the license to operate from key stakeholders.” (Research conducted by Julie Battilana, founder and faculty chair of the Social Innovation and Change Initiative at Harvard Kennedy School, shows that when companies heed social issues, they actually outperform companies that focus solely on boosting stock prices.26)
So now enterprises need to focus not only on customer value, but also on showcasing how they are contributing to society, all while staring down Wall Street’s pressure for quarterly performance. It’s no wonder they’re desperate for a new way to work.
These new mandates breed new questions: How do you plan ten to fifteen years into the future? How do you discover new problems and needs your enterprise is uniquely positioned to address? How do you break the incremental growth cycle and reignite innovation? Our answer? By deploying a new form of management that is specifically designed to deal with the unknowable and is built around customer needs.
In The Startup Way, Lean Startup champion Eric Ries called startups an “atomic unit of work for highly uncertain terrain.”27 At their core, startups are a way of working that discovers and validates solutions to customer problems. And that’s the vital first piece of the puzzle, but startups can’t exist in a vacuum. They require a funding mechanism, which is where venture capital comes in. We’ve realized that, together, they form a powerful ecosystem for discovering new solutions and nurturing them into big businesses.
At Bionic, we believe that enterprises can deploy entrepreneurship and venture capital as a form of growth management.
We understand why some corporate leaders are at first hesitant to adopt this methodology. They often point out that startups have very little at risk, since they’re so small and so new. Big companies have processes that were refined over decades of work, via thousands of employees, and on behalf of millions of customers. A radical shift from tweaking existing products and streamlining proven processes to exploring new markets is more than uncomfortable—it’s terrifying. But the startup mentality isn’t meant to replace existing business functions, it’s meant to complement them.
At Bionic we created the Growth OS to function like a smaller, New to Big machine that runs in tandem alongside the gargantuan, Big to Bigger machine. This is important: The Growth OS feeds the primary enterprise, but doesn’t replace it. Instead this (metaphorical) operating system leverages the mind-sets, mechanics, and tools of the startup ecosystem to ignite growth revolutions inside enterprises.
The competitive advantages that big companies have over startups are experience and scale. When C-level execs at a Fortune 500 company pick up on a trend or identify a ripe new customer need, they’ve already got the means to pursue and accelerate. They have customers, distribution, supply chain, and a trustworthy brand already lined up. Because of this, they can make or break fringe ideas and experimental products. If J.P.Morgan decides to get on board with Bitcoin, that will give this emerging currency instant legitimacy. They have the scale and relationships to do that. They have the necessary gravitas.
The competitive advantages that startups have over big companies are greater speed and lower cost of learning. A decision that takes Unilever six months to solidify via committee discussions and executive sign-offs may take Brandless six days.
The Growth OS combines the best of both worlds. It takes the agility and creativity of startups and weaves them with the expertise and clout of corporate legacy. Following our blueprint, established companies can recapture their growth skills. They already know how to grow from Big to Bigger. What we teach is a new and necessary skill set: how to foster growth from New to Big.
So now that we all understand how we got here, let’s get going.