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Given the significant pressures on firms in the real world, what do we know about the traits, characteristics, or management approaches that help ensure that a firm can and will survive within its environment? Some might think this is a difficult, if not an impossible task, given all of the variables at play. Nonetheless, we will look at three approaches to survival and the mechanisms at play, which can be listed as: (1) survival of the paranoid, (2) survival of the fittest, and (3) survival of the effective.

1. Survival of the Paranoid

Andy Grove, the former CEO of Intel was the author of a 1996 book entitled, “Only the Paranoid Survive,” which tells about his experiences at Intel. Granted, this is a book written for a mass audience but stay with me for a minute. Formed in 1968, Intel first made memory chips, but moved primarily into microprocessors after 1981, once the IBM personal computer arrived.  In thinking about survival, Grove says, “sooner or later something fundamental in your business will change.” He emphasized the concept of strategic inflection points where change and adaptation to the environment can be critical, and where a firm needs to act with conviction once a revised course had been set.  Grove listed a number of different directions from which threats can arise, including competition, technology, customers, suppliers, flaws in the business model, and regulation.  Any of these could lead to what he called a 10x change.

In Andy Grove’s world, a strong dose of paranoia was a competitive advantage.  It was about never being sure what signal to trust, yet all the while surveying the environment for incipient change and trying to separate signal from noise. The fact that Intel was on the forefront for supplying technology to the next generation of computers put the company at risk for costly missteps, due to the large capital infusions needed to build and maintain chip technologies. Every transition was important. If Intel were to lose the leadership position, it would have been very difficult to recover. The company was remarkedly successful and remains an important technology company today. Despite the obvious risks, Intel rode a technology wave and won; however, survival of the paranoid seems unlikely to provide a general model for firm survival going forward.

2. Survival of the Fittest

Sometimes lessons for firm survival are drawn from other disciplines. For instance, the survival of firms over time is sometimes compared to the survival of species in the natural environment. Here, we often see references to Charles Darwin’s work in biology and population ecology in the 1800s, where natural selection was believed to be important for the survival of natural systems. This is commonly referred to as Survival of the Fittest (a term coined by naturalist Herbert Spencer to refer to a species’ reproductive success). Darwin believed that survival is most likely among those species that are best suited to their natural environment.  Survival over time in natural systems is primarily about which species are able to successfully pass the most genes on to the next generation.

Darwin’s mechanism of “natural selection” was at the time contrasted with “artificial selection,” which was the process used by breeders of domestic livestock animals (preferentially selecting desirable traits for continuation in the line, while reducing others). In the mid-1800s, the theory of genetics was not well developed. DNA had not been discovered, and electron microscopes were not available to study cell material directly.  Darwin developed his theory of evolution based on the observable characteristics of a species, known as its phenotype. Darwin’s theory of natural selection was controversial and did not receive wide acceptance during his own time. It went against the creation story and many other teachings of the Christian church. It was not until the 1930s and 1940s, as Gregor Mendel’s ideas on genetics were combined with Darwin’s views that natural selection experienced something of a resurgence, and the scientific community came to a modern understanding of evolution through natural selection.

There are some similarities, but also considerable differences, between firms living within their chosen environment and organisms living in a natural environment. Perhaps the greatest difference is that organisms live for a relatively short time and pass on their genes through reproduction. Organizations, on the other hand, can theoretically live forever but must capture energy flows and benefit streams to continue their existence. Survival of the fittest provides a way for organizations to think about competition in their environment (often characterized as a ‘Red Ocean’ view of the world), but the mechanisms involved for success in the biological sphere are considerably different than those that firms need to adopt for their own success.

3. Survival of the Effective

Our last approach to firm survival is called “Survival of the Effective,” which comes from my 2017 book, Become Truly Great. From first principles, we know that firms must exchange benefits with their environment to survive and thrive.  In a real sense, a firm must serve its environment, else it receives no benefits in return. A firm and its environment form an open system, and there are many different kinds of benefits that can be exchanged. Benefit exchanges with the environment should not be considered casually, however, since a Darwinian-style imperative is at work behind the scenes to enforce a culling of the ineffective. Over time, ineffective firms are marginalized or eliminated in the absence of adequate benefit exchanges with their environment. Effective firms, alternatively, are selectively retained to survive and thrive. Firms that are highly effective for a period (e.g., Apple or Google) can experience rapid growth, and appear to enjoy an effectiveness premium through preferential benefit exchanges with actors in the environment. Effectiveness thus confers a significant advantage when facing many present and future challenges.

While it may be clear that ineffective firms can be marginalized or culled by the environment, there are usually internal early warning signs before this fully plays out. Often, instability arises from inappropriate objectives driving the organization. Consider that the traditional approach to organizing the work internally is for management to set up a particular organizational form (organizational chart), program the units with a series of goals and objectives, then lead and direct the staff to fulfill them. This is the basic idea behind Management by Objectives, and variations thereof, that utilizes the goal model for effectiveness. The problem with this approach is that the goal model will accept almost any goal that management wishes to throw at it, and not all goals have any relation to improvements in effectiveness. It is difficult to know whether the right goal has been specified, and even if the goal is achieved, it may not mean that the organization is effective. Selecting a new executive team with a new set of goals can be a risky strategy with unpredictable results. In 1974, Peter Drucker wrote in response to a rash of reorganizations in large American organizations, “the main causes of instability are changes in the objective task, in the kind of business and institution to be organized. This is at the root of the crisis of organization practice.”

It seems that the more single-minded a firm becomes in focusing on a narrow financial objective (such as maximization of profit or shareholder value) at the expense of everything else, the more likely it is that dysfunction will emerge. The situation can even lead to a national crisis if an entire sector is doing the same thing. For example, the financial debacle of 2006-2008 and beyond in the USA was precipitated by investment banks that were focused on generating financial profits from complex investment vehicles in the housing market, without the vehicles being sufficiently supported by underlying assets on their books — thus increasing market risks and increasing environmental instability over time (eventually leading to a crisis). The rise of instability in organizational systems may explain why the risk of exit for public companies traded in the US now stands at 32 percent over 5 years, compared with the 5 percent risk that they would have faced 50 years ago. For individual public companies, these exits are mostly unintended and are likely associated with managerial failure.

A traditional view of a firm often describes one as a conventional entity focused on specific goals and organized somewhat like a factory to achieve them. When the firm is threatened, it is anticipated that staff will react with one accord to counter the threat. But this model does not work reliably, especially when the environment in which the firm lives is changing rapidly. It would be useful if its employees could react quickly like a flock of birds, each following its wingman in a coordinated turn. Humans don’t seem to be able to execute this maneuver easily. During periods of rapid transition, individuals, and social grouping within the organization can enter a state of uncertainty.

In reality, firms should be viewed as complex adaptive systems (CAS). The CAS perspective is a valuable one for examining firm performance because it reveals hidden patterns that can be found beneath the surface. In the CAS perspective, firms (and their environment) compose complex systems made up of individuals that can act on their own, both internally or externally. These individuals are called agents, and typically include a firm’s management and employees (internal agents), and their customers and other stakeholders (external agents). In such systems, despite efforts at top-down management control, order often emerges from below based on the interaction of the agents with each other, producing observable internal phenomena as a firm’s “culture,” and a general sense of “how we do things around here,” or external customer demand. Complex adaptive systems often react in unpredictable ways. When the system is in crisis and far from equilibrium, individual employees may adapt to a new reality by either cooperating to fix the problem or, alternatively, display a non-cooperative or competitive attitude by rejecting the storyline that management offers.

The complexity theory of organizations rejects the metaphor of firms as well-oiled machines made up of replaceable parts. Instead, a firm’s collection of internal agents has been brought together for a specific period, where they exhibit aspects of self-organization, emergence, and interdependency. During transition periods, so-called ‘attractor’ regimes can emerge. For example, when confronted with a zero-sum game, such as outsourcing some jobs overseas, employees seldom cooperate. On the other hand, the positive-sum game presented by the expansion of a firm into a new segment of the market readily gains employee acceptance.

My favorite approach to management, which I have discussed before on this podcast, is called Management by Positive Organizational Effectiveness (M+OE). It discards the goal model that has is commonly used to gauge effectiveness because it does not provide a way to discriminate between useful and non-useful goals. Within M + OE, by contrast, the goal of every firm is fixed, that is, to be effective within its environment. Firms that consider their goals to be the maximization of profit, shareholder value, or other such goals driven primarily by financial or economic gain are not using M+OE. They are still living in the present age of ‘efficiencyism,’ where improvements in efficiency have been elevated to the prime directive without understanding the assumptions and consequences. Dysfunction is an emergent phenomenon under efficiencyism, due to potential instability within a firm’s complex adaptive systems.

It is likely to be more rewarding and stabilizing over the mid- to long-term to entertain the creation of social capital, psychological capital, spiritual capital, and environmental capital among stakeholders –- thus encouraging the emergence of attractor narratives (e.g., in social media and elsewhere) based on real benefit exchanges. Evolutionary processes operate on the population of organizations, while adaptive pressures act on individual organizations, to enforce “survival of the effective” over time.

Let’s consider a story about social capital building among employees and management. In 2001, in the aftermath of 9/11, the airline industry was reeling. Planes were grounded for three days throughout the country. Once they started to fly again, people were afraid to fly, and passenger traffic dropped precipitously. It wasn’t clear that the domestic airline industry would survive. In the weeks following the event, many airlines laid off employees. Only Southwest Airlines and Alaska Airlines did not, among major US carriers. James F. Parker, who had been CEO of Southwest for only a few months, faced some tough decisions in September 2001. “We just had to make a gut decision based on what we thought was important,” he said. The decision was to give customers refunds if they wanted them, no strings attached. It was a risky policy for the company. If customers flooded the company with requests for refunds, the company could quickly exhaust the cash required to remain solvent. Fortunately, few customers requested a refund; instead, they generally opted for credit on future flights. Some even sent in small amounts of cash to the airline to show their support.

Despite the uncertainty, Southwest went ahead and made a $ 179 million payment to the employee pension fund on time. Employees experienced no layoffs or reductions in pay. In the three years after 9/11, researchers followed the performance of the 10 largest US airlines. It was Southwest and Alaska that recovered most strongly and quickly, and those were the only two that had not resorted to layoffs. Before the event, they had the strongest cash reserves and the lowest debt and engaged in a no-layoff policy. US Airways and United Airlines, who laid off 20-25% of employees and had high debt and relatively low cash positions prior to 9/11, recovered more slowly. Southwest Airlines was the only airline to show a profit in every quarter studied, while US Airways showed a loss in every corresponding quarter. No doubt, strong performance prior to 9/11 was important in building financial reserves, but so were decisions immediately afterward in terms of resisting employee layoffs. Crisis events lay bare the real values of a company and its management. In Southwest’s case, grateful employees went out of their way to make the difference in company performance, while other airlines imposed layoffs. This story highlights the positive aspects of building social capital between management and employees of Southwest, and conversely the destruction of social capital among employees following layoffs at other airlines. Today, Southwest remains one of the strongest airlines in the country.

Examples such as this reflect a broader reality. Consider a September 2014 article entitled “Profits without prosperity” that appeared in the Harvard Business Review. The author notes that the period after World War II until the late 1970s was characterized by a “retain-and-reinvest” approach to resource allocation in major U.S. corporations. During this period, firms tended to retain earnings and reinvest them to increase the firms’ capabilities. The approach served to benefit the employees who had helped make the firms more competitive and provided workers with higher incomes and greater job security. The “retain-and-invest” pattern gave way in the late-1970s to a “downsize-and-distribute” regime where short-term efficiencies were implemented involving layoffs, asset sales, and other cost reduction approaches, followed by the distribution of freed-up cash to financial interests, particularly shareholders.

It is doubtful that history will be kind to the downsize-and-distribute regime. It tends to strip value from a firm and contributes to employment instability and income inequality inside the firm because the firm’s ability to be productive in the future is weakened. It also tends to destroy social capital inside the firm rather than build it.

In summary, the keys to firm survival (what we have been talking about today) can be summarized as follows:

1. Adopt an objective function where the goal of the firm is to be effective within its environment (using the Survival of the Effective approach);
2. Adopt a “retain and invest” mentality which builds social capital between employees and management and positions the firm to survive and thrive for the long term;
3. Become a Truly Great firm. (For more information, grab a copy of my book Become Truly Great at Amazon.com or on Barnes and Noble’s website.)

[The above content originally aired as podcast episode 089, in March 2018]

Charles G. Chandler, Ph.D.

Reference:

Chandler, Charles G. 2017. Become Truly Great: Serve the common good through Management by Positive Organizational Effectiveness. Powell, OH: AAE.