In his new book “Too Small to Fail: Why Some Small Nations Outperform Larger Ones and How They are Reshaping the World”, James Breiding argues that smaller nations often do better than their larger counterparts. His hypothesis is based on his analysis of some of the world’s relatively small countries, including the Nordics.
In my opinion, many arguments Breiding puts forward regarding smaller countries’ success also bear relevance when it comes to why smaller companies often outperform larger ones. In this review, I shall discuss how three of Breiding’s findings on the countries’ performance can be used to understand why many smaller firms tend to do so well.
As I will show below, smaller firms have “less bureaucracy”, “more flexibility and a strong innovation orientation”, and “ownership by management ensuring “skin in the game””. It should be noted that Breiding calls these “success factors” differently. I took the principles behind Breiding’s analysis and applied them to private enterprises, based on my own experience as an investor. Nonetheless, there is consistency between Breiding’s views and mine.
Bureaucracy
Both large countries and large firms are characterized by bureaucracy - they depend on established routines, standardized modes of communication, formal guidelines for decision-making, and delegation of responsibilities. As a result, large size entities, countries as well as firms, experience a lack of drive that undermines their initiatives, dynamism, and speed!
In such an environment a particular behavioral style often develops: “play it safe”. It is more important to avoid mistakes than to take initiative and get things done. There is no incentive to take risks. Risk taking can have devastating results for the individual and their careers.
Let me provide three examples, one from the corporate sector two from the public sector:
Example 1: A large, diversified firm, headquartered in the US, was making a significant acquisition in Europe. The acquisition was led by the SVP Europe, who was located in Paris and had more than 10,000 persons reporting to him in the European division. There was a lot of media attention surrounding the acquisition and the SVP found himself on TV several times per day, as well as in the press even more frequently. When the SVP wanted to hire someone to assist him with these activities it took a staggering nine months before he got the green light for the hire from the US headquarters. An abundance of staff entities and others with partial responsibilities within the firm’s complex organization had to give their consent. The result was that the dynamic European manager gave up. Even worse, he quit his job. He felt that all of this bureaucracy was simply too demotivating for him. He is now in charge of a small, but highly successful investment bank.
Example 2:
There is a small town on the border between France and Switzerland, with about one half of the town being on each side of the border. Each side of the town has its own mayor. There is a mayor for the Swiss part and another for the French part. When an issue came up concerning the town on both sides of the border, the Swiss mayor was able to make a decision on the matter swiftly and assertively. The French mayor, in contrast, was obliged to consult with Paris. In the end he came to the same conclusion as his Swiss counterpart, but it took excessively longer to reach a decision. This illustrates how bureaucracy disrupts action. It is also evident that there is more bureaucracy in large countries such as France versus smaller countries such as Switzerland.
Example 3:
In 2016, President Trump won the national election in part based on his “cleaning up the swamp” slogan, i.e. the established mode of doing business in Washington, D.C. The routines in Washington were well set, and, perhaps even more so, the decision-making bureaucrats, elected politicians as well as career professionals, seemed to be quite comfortable within the culture of relative inaction. Regrettably, entrenched bureaucracies frequently make up the central governing bodies in countries and large firms alike.
Innovation and Flexibility
To some extent, the underlying factors entailing innovation and flexibility have already been discussed. Bureaucracy does not go well with innovation and flexibility. But there is more to it. When you are small, being innovative and flexible is a matter of survival. On the positive side, new opportunities can be explored. An applicable analogy is the distinction between small, agile, motor-torpedo boats and large, slow-turning super-tankers: the former is able to maneuver in a much faster way and opportunities can more readily be grasped.
There is, also an opposing side to this. Smaller entities have to come up with innovative solutions to thwart threats. If they are not fast and flexible, they run the risk of extinction.
In his case studies of smaller countries, Mr. Breiding demonstrates this in a couple of ways: for example, how the educational system in Finland was relatively rapidly overhauled to allow the small country to develop a significant competitive advantage, or how the small nation of Singapore was able to implement an effective health care system in record time, while the debate regarding how to deal with this issue in larger countries, such as in the US, seem to go on forever.
A good example of a small company that has demonstrated its innovative capabilities and extraordinary flexibility is the Geneva-based stationary manufacturer, Caran D’Ache. According to Breiding, Caran D’Ache has been “first” to innovate in its area of business consequently setting the company up for success.
Responsible Ownership
Another important factor in determining performance is the alignment of interests between the individual who makes up the leadership and the entity itself. This alignment is generally easier in smaller entities.
The individuals who take up a leadership position at a small firm or country often tend to take a long-term point of view. These individuals tend to invest in research and development. They build new infrastructure in their communities, even though a more short-term focus might have entailed lower taxes thus making it easier for the politicians to be re-elected.
In a large firm often a “short-term” view is taken. Most senior management know that they will hold their positions for a relatively short periods of time. At large firms the incentives are bonuses and/or stock options, which values are driven by increased profits and/or sales. To increase profits, senior management may cut spending in research and development or marketing. Furthermore, rather than fixing the businesses that are dampening down performance, they might simply sell under-performing businesses. Short-term profits will thereby increase.
To further boost growth at large firms, senior management look at increasing the rate of acquisitions. Sometimes this is financed through increased borrowing. Such excessive acquisition behavior is highly counterproductive in the long-run.
Responsible ownership is typically more feasible in relatively smaller business entities. When it comes to larger firms it may be hard for management to own significant parts. The capital needs may be too high. The positive effect from having significant “skin in the game” may simply not be there.
We also see a similar pattern that applies to firms in communities. In smaller communities the leaders in charge typically know that they shall remain part of this particular context for a long time. As a result, they usually take a long-term point of view. On the other hand, in larger communities there tends to be a much weaker link, if any at all, to public opinion. It is easier for leaders to cut corners and those responsible know that they will not “get caught” by their irresponsible short-termness
Breiding’s view that smaller countries out-perform bigger ones holds true for firms as well: often times, smaller firms outperform larger ones. Indeed, we are dealing with a paradigm shift. Size, growth, profitability and scale may no longer be central to success, whether we are talking about countries or firms. Instead, today we may rather say: “small is beautiful!”
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