Books Mathematics Society

Recent Read: Geoffrey West’s “Scale” and the Physics of Corporate Life and Death

Recently, a colleague of mine recommended I read Scale, the new book by Santa Fe Institute physicist, Geoffrey West. At 448 pages, West’s book certainly does its subject credit, and it will reward anyone who completes it with a wide-ranging and very interesting analysis of how systems as diverse as a human body and a giant city change as they grow, mature, decay and eventually die.

Jonathan Knee, writing in the New York Times, provides a handy summary of West’s major points:

First, the networks are “space filling” — that is, they service the entire organism. Second, the terminal units are largely identical, whether they are the capillaries in our bodies or the faucets and electrical outlets in our homes. Third, a kind of natural selection process operates within these networks so that they are optimized.

These shared network qualities explain why when an organism doubles in size, an astonishing range of characteristics, from food consumption to general metabolic rate, grow something less than twice as fast — they scale “sublinearly.” What’s more, “Scale” shows why the precise mathematical factor by which these efficiencies manifest themselves almost always relate to “the magic No. 4.”

Mr. West also provides an elegant explanation of why living organisms have a natural limit to growth and life span following a predictable curve, as an increasing proportion of energy consumed is required for maintenance and less is available to fuel further expansion.

A short blog post can hardly do this book justice, so I won’t try to recap the very interesting chapters on mathematical, biological and urban scaling. Instead, I will focus on Dr. West’s attempt, in Chapter 9, to apply his theories of scaling to the world of business. It’s easy to understand the attraction of corporate ecosystems to Dr. West. As he notes, “companies, like people and households, are fundamental elements of the socioeconomic life of cities and states.” Indeed, “given this observation,” he adds, “it is natural to ask, as did for cities and organisms, whether companies scale in terms of their measurable metrics such as their sales, assets, expenses and profits. Do companies manifest systematic regularities that transcend their size, individuality, and business sector?”

The book then presents the results of two analyses of all 28,853 companies traded on U.S. markets since 1950, with special emphasis on an analysis of those that ceased to exist in some way between 1950 and 2009. Dr. West makes an attempt to connect his findings to the three broad principles of scale he presented earlier in the book:

In the language of the framework developed in previous chapters these can be expressed as follows: (1) Minimizing transaction costs reflects economies of scale driven by an optimization principle, such as maximizing profits. (2) Organizational structure is the network system within a company that conveys information, resources, and capital to support, sustain and grow the enterprise. (3) Competition results in the evolutionary pressures and selection process inherent in the ecology of the marketplace.

The author also reaches some interesting conclusions, though none of them is particularly surprising in the larger sense. In other words, while it’s interesting to note that only 5% of companies survive 30 years and that most companies die within 50 years of founding, regardless of sector or market, this is not startling news to any entrepreneur. It may be to Dr. West, however, who seems surprised by his own conclusion: “It’s tough being a company!”

The author clearly notes all of the challenges inherent in the assumptions and data sets he uses; however, that does not save him from reaching largely insignificant conclusions about corporations. We know sticking around for a long time in business is hard. We know companies struggle to innovate as they get larger. We also know the pace of change is accelerating in business because of technology. While relating these aspects of corporate life to the mathematical principles of scaling may be interesting to a physicist, they don’t say much to an executive or innovator that she did not already know.

The chapter, then, is the weakest in an otherwise, excellent book. That said, it’s important not to let the superficial nature of his conclusions detract from the value of the chapters, for Dr. West’s basic questions are fascinating: Is there a quantitative science of companies? Are the principles of evolution as applicable to apples as to Apple? Even more interesting, what do we make of the Methuselahs of the corporate world  tiny companies that have survived hundreds of years not by “innovating” but, like the Eduard Meier Company in Germany (Est. 1596), by focusing on only one function? What is the lesson of the longest-lived company of all, Japan’s Kongo Gumi, which was started in 578 and lasted almost 1,500 years until it was acquired in 2006?

In thinking about these questions, I was reminded of a good friend of mine in Europe who once told me that one-hundred years ago two companies dominated his industry. In the century since, his company had focused exclusively on its “core competency,” avoiding distractions and striving to do one thing better than anyone else  an accomplishment for which they were regularly praised by analysts and customers. “After one-hundred-plus years of laser-like focus,” he said, ” we are still the highest quality supplier in the business. But, do you know what happened to the other company?” I replied that I did not. “It became GE,” he answered with a smile.

So, both companies lived different lives. One scaled and one did not. Scaling should have killed GE in Dr. West’s model, and yet it did not. After all, as West explained early in the book:

Because networks determine the rates at which energy and resources are delivered to cells, they set the pace of all physiological processes. Because cells are constrained to operate systematically slower in larger organisms relative their smaller ones, the pace of life systematically decreased with increasing size.

So, if Dr. West is correct, scaling should have killed not just GE but also IBM, Ford, Daimler and many others.  Perhaps in the end it will. But what does it mean that scaling did not kill them and what if it doesn’t in the future? The management books that have tried to explain these exceptions have not reached any common conclusions. Maybe that’s because we are looking at these companies through the wrong lens. Perhaps the right approach would be to build on Dr. West’s ideas and to look at these survivors through a biophysical model, thereby testing his hypothesis that companies observe the same mathematical and biological properties of scale as people, animals, and cities. West wonders as much early on in the book:

The open-ended exponential growth of cities stands in marked contrast to what we see in biology: most organisms, like us, grow rapidly when young but then slow down, cease growing, and eventually die. Most companies follow a similar pattern, with almost all of them eventually disappearing, whereas most cities don’t. Nevertheless, biological imagery is routinely used when writing about cities as well as companies. Typical phrases include “the DNA of the company,” “the metabolism of the city,” “the ecology of the marketplace,” and so on. Are these just metaphors or do they encode something of real scientific substance? To what extent, if any, are cities and companies very large organisms?

It’s an intriguing question and it’s why Dr. West’s chapter on corporations, however preliminary, hopefully will inspire other researchers to take up the challenge it presents.

I anticipate that a lot of people will react that companies can’t be modeled in such a way, and that companies live and die by a different set of rules or even by just the random movement of  markets. That may be true; however, people would have said much the same thing about cities or even weather a hundred years ago.

In sum, as a primer into the scaling principles of human-centric growth and decay, Scale is an excellent place to start. But for business theorists and innovators, Scale is a puzzle  a stimulating read that leaves us with few answers but with a great list of intriguing questions.

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