The oldest company in the world is, Kongō Gumi, a construction company in Japan that has been in operation for over 1,400 years. While this is really impressive, the oldest city in the world is believed to be Jericho, that dates back 11,000 years. In general, over time cities tend to grow while companies tend to decline. A recent study by McKinsey found that the average life-span of companies listed in Standard & Poor's 500 was 61 years in 1958 but today it is less than 18 years. So, why do companies tend to decline while cities tend to grow in perpetuity?
E. F. Schumacher, an English economist, asked this question in 1973 in his book Small is Beautiful and answered by highlighting the inefficiency of large enterprises. He maintained, “What characterizes modern industry is its enormous consumption to produce so little … It is inefficient to a degree that goes beyond imagination!” Schumacher’s approach to answer this question was from a consumption of energy and resources perspective. Given that this book was written during the 1973 energy crisis, this approach is understandable. However, as we’ve seen with the Malthusian trap, humans are incredibly innovative and resource constraints cannot explain the almost universal decline of companies over time.
A different perspective on why cities grow and companies decline comes from the study of scale. Recall from my previous writing that linear scale, where we add one unit and get one unit of value out, is an ideal state. However, in organizations we tend to find sub-linear scale, where the addition of one more employee doesn’t yield a full employee’s worth of work. This is caused by a number of factors including communication overhead. Cities, however, are different. Cities don’t scale sub-linearly, in fact they don’t even scale linearly. Cities are believed to scale super-linearly. The addition of one more person increases the value of the city by more than one. By most productivity metrics - wages, patents, colleges, etc. - a city’s productivity increases to size by a ratio of 1.2 to 1 at least in the US and Germany.
How is this possible? As a city grows in size, both static and dynamic factors work to increase productivity. An example of a static factor is skill set specialization. A larger city population allows for more specialization which brings about an increase in productivity. An example of a dynamic factor is idea generation. In an urban concentration of people, information flow is faster and new ideas are likely to occur. If you’d like to read more about these static and dynamic factors, the book Regional Advantage by AnnaLee Saxenian does an excellent job of explaining these types of factors and how they differentiate cities (Boston’s Route 128 vs. Silicon Valley).
So what about companies? Unfortunately, according to research by Geoffrey West, companies scale sub-linearly with regard to their size at an exponent of about 0.9, which makes them much more similar to organisms with a scale exponent of 0.75 than to cities at 1.2. West states, “As they grow companies tend to become more and more unidimensional, driven partially by market forces but also by the inevitable ossification of the top-down administrative and bureaucratic needs perceived as necessary for operating a traditional company in the modern era. Change, adaptation, and reinvention become increasingly difficult to effect, especially as the external socioeconomic clock is continually accelerating and conditions change at a faster and faster rate” (emphasis added).
While it’s a little depressing to think about the demise of companies that we love, ignoring this doesn’t make it go away. In fact, knowing this and understanding the factors that tend to accelerate a company’s decline is a good way to start working on remediating them. I also believe that understanding the static and dynamic factors that help cities scale super-linearly can provide insights into our future of work.