Leadership economics and the benefits of scale

I have just returned from a week in India talking to business leaders about Founder’s MentalitySM and discussing the key challenge facing insurgent companies: As they grow, the leadership team implicitly trades the benefits of Founder’s Mentality for the benefits of scale.

The CEO and founder of one successful consumer goods company gave a sober laugh as he pointed out an even more troubling reality: “I certainly feel like we’re losing our sense of the original founding mission, but I’m also not sure we’re actually benefiting from scale.”

He went on to explain what has happened as his business has grown. “I’ve worked very hard to grow our company by developing strong business leaders. And as we grew, I divided the company into key product lines and put a strong leader at the top of each.” Along with a few functional heads, those business unit leaders now comprise his executive team, with each responsible for the growth of their unit.

“It is a good team with a good track record,” the CEO explained to me. “But it has become increasingly difficult to allocate resources in the right way. Choosing one product line over another inevitably feels like a decision to choose one business leader over another. So despite our attempts to be strategic, we more or less allocate democratically.

“But the problem is that the polite discussions among our team and our even distribution of resources to the team are killing us. We’re starving some product lines where we’re leader. And we’re pouring good resources after bad in new high-growth segments of the market where we all know we won’t become a leader. All our businesses are growing, but not all of them are leaders. As a poor No. 3 or No. 4 in some of our product lines, I’m certainly not benefiting from relative scale. I feel I’m always playing catch-up, even as we grow.”

All companies can benefit from scale. They get better at manufacturing and supply chain, gain power over suppliers, buy better machine tools or organize their manufacturing lines more effectively. They improve their distribution networks and have more leverage when negotiating with their channel partners. They have more investment resources to improve the consumer proposition.

But strategically, companies primarily benefit from relative scale. A company can grow and improve, but if its competitors are growing at a faster rate, it will not gain competitive advantage. If a company remains a distinct follower, it will not benefit from leadership economics. The data here is pretty stunning. In an internal study of leadership economics involving almost 200 companies, we found that leaders enjoy three times the return on net assets as distant followers. Leadership, not just scale, matters.founders-mentality-blog-chart-6-26-13

That means that as insurgents grow, they have to back winning businesses. And that involves tough choices about where to invest: They can’t just back growth, they have to back leadership. As the CEO told me, “What I have to do now is make choices between businesses with very different market leadership potential. And I have to make clear with my business leaders that it’s not personal.”

For insurgents this is hard. Paradoxically, that is where elements of the Founder’s Mentality can hamper tough strategic choice. The team has grown together. Each leader feels like an owner and is absolutely committed to growing their part of the business. They have transferred the passion they used to feel for the whole company to a real passion and commitment for their piece of the business. Telling these leaders that resources need to go elsewhere is never easy. But it is necessary if the company is to gain the benefits of scale and leadership economics without losing its Founder’s Mentality.

This entry was posted in Net benefits of scale and scope, The westward winds by James Allen. Bookmark the permalink.

About James Allen

James Allen is a senior partner in Bain & Company's London office and recognized as a leading expert in developing global corporate and business unit strategy. He is co-head of Bain’s Global Strategy practice and a member of Bain & Company's European Consumer Products practice. He is co-author, with Chris Zook, of Repeatability (HBR Press, March 2012) and Profit from the Core (HBR Press, 2001 and 2010).

One thought on “Leadership economics and the benefits of scale

  1. The Founder/CEO built and grew the company way too fast.
    The quality of his employees outgrew the quality of his products and services.
    He should have restructured, instead he let the business dilute.

    The lack of resources to allocate properly would suggest that the margins are not where they should be.
    Which means with the current ratios of : employees, expenses to manufacture, and market share.
    The products and services are not priced correctly or being produced in the correct numbers, which also would explain why they are not achieving the desired results in the new categories that they are pursuing.
    It also suggests that the numbers may be inflated in the categories that they are leading.
    Are they leading because they are giving the product away at a deeply discounted price when compared to the rest of the market ?

    They are experiencing success though.
    And in times of success, it can be difficult to ascertain an underlying systematic failure.

    I’m not a big fan of leadership economics. The charts and graphs say you get a nice little profit jump if you make it to the number 1 spot.
    It is a great bonus if you can make it there and it’s still there by the time you make it there.
    But to plan a companies’s economical model around it is incredibly reckless.

    Same thing with the benefits of scale.

    Proctor and Gamble was founded in 1837.
    As of May 2014 they have 121,000 employees.
    You can’t hire all 121,000 employees all the way back in 1837, and then wait till 2014 when you can comfortably scale into them.
    The company would have been massively crippled by surplus employees.

    If you have the ability to produce 10 product lines, but only the resources to produce 2 product lines. Your resources are going to dictate your abilities.

    Don’t dilute your product.
    Restructure.
    The majority of successfull founders concentrate on just 1 or 2 product lines.
    They become the market leader and then very slowly and strategically expand with the profits that are being generated , never loosing focus of their core business.

    The Founder’s Mentality is to stay hungry, be aggressive and make strong moves.
    Identify problems and then find a solution to fix them.
    Listen with your EARS.

    Everything always runs smoothly.

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