Why Great Businesses Die

Great businesses die. Over the last few years, we have seen the fall of General Electric — the company co-founded by Thomas Edison in 1892. Companies like General Electric became known as American icons due to their stature in society. They became a staple of our culture, and embedded into a variety of different technologies that we used each day. Where is General Electric today? They have had to consistently downsize, sell entire divisions of their company, and are now facing allegations of fraud. If I were to say that General Electric was going to fall 50 years ago, very few people would likely believe me; if I said the same about Sears 50 years ago, nobody would believe me.

Sears thought that they could dominate any new market in which they entered. They had captured American retail and revolutionized the way we shop. They continued to expand and with every new market they entered, they appeared to gain more power. Sears became the largest retailer in the world and diversified into a variety of different businesses. Then, as most of us know, Sears fell apart. The company was once dominating retail, and is now in a very bad position. We know what went wrong with Sears, just as we know what is going wrong with General Electric. But when I think about the death of these American icons, it makes me consider exactly why great businesses die. These may seem like isolated incidents, but in actuality, a large number of public companies lose almost all of their value. When we think about the power these institutions once had and what they have today, we know that something has gone terribly wrong somewhere down the line.

What makes great businesses die? Of course, there are thousands of answers to this question. Enron fell because of fraud; Friendster fell due to a lack of innovation. I am therefore only going to focus in on a few common reasons why great businesses die — the ones that have caused icons and institutions to fall, and will continue to make businesses fail in the future. Getting a competitive advantage is hard enough, but it is even harder to maintain that advantage. Google is in the position they are in today because after they captured the world’s attention with search technologies, they continued to innovate and develop new technologies that helped them retain their competitive advantage. But most companies end up losing their edge — the thing that sets them apart from the rest of the market. Indeed, many companies fail because of competition, money problems, a lack of innovation, et cetera. But there are more reasons that I think we should talk about more.

Many great companies have died because of a lack of humility. There have been many once-great businesses that have refused to launch risky new ventures because they are afraid of losing their standing in the world. They have already accumulated so much wealth and power, and they do not want to waste both actual capital and reputation capital on something that could fail and affect their core businesses. Great businesses have often been afraid to be wrong. This is ironic because most great businesses succeeded because a small group of people came together and tried to challenge the status quo. But the truth is that a lot of great businesses fail because they are not willing to fail — ironic again, right?

Google has continued to innovate because they have not been afraid to fail. Google have launched some products that are now considered a failure, such as Google Plus. But they have also launched some products that are now some of the most successful in the history of the internet age, such as Gmail. Amazon has adopted a similar culture. Great businesses that continue to succeed are those that create an environment and culture conductive of taking risks and accepting failure. I firmly believe that businesses like Amazon and Google are so successful because they are willing to fail more than any other company. They launch dozens of new experiments — some fail, but some, evidently, succeed.

Many great companies have also died because of complacency. Great businesses die because they think they are always right. They think that because they have made a series of great decisions in the past, they will continue to do so in the future. The company thinks that it has accumulated so much wealth that it cannot possibly fail — that it is too big to fail. Therefore, they stop taking new risks and stop innovating. They think that every decision they make will allow the business to continue to thrive, because it has done so in the past. This is an incredibly dangerous idea. So many companies die because they think they know everything. But, in actual fact, companies are only organizations of people, and people don’t know everything.

Luck is part of success. Great businesses die because they forget this rule. As much as we like to avoid talking about it, most successful people have reached a certain level of success because of luck. If you ask a successful founder to name a time when they were lucky, they will likely have dozens of stories to tell. Businesses that die forget this rule and think that what they have done in the past has been a result of hard work and skill. Therefore, they continue in the same direction as they were going in before — they think that past success is indicative of future performance. Businesses that die try to create the same circumstances in which they succeeded before. This is rational — we all want to succeed — but is also ignorant. Companies need to accept the fact that sometimes things just work out in their favor, and sometimes they don’t. If they do not account for the fact that luck plays a major role in success, then they will likely die sooner or later.

Things change. Great businesses die because they think that things will stay the same. Sears thought the future of retail was brick-and-mortar. They were wrong. They did not evolve as new technologies became common and stuck to their roots — noble indeed, but it ultimately played a role in their demise. Many great businesses that have died have thought that things will go on the same way forever. These businesses exploit every opportunity when it comes to them and continue to think that opportunity will still be around in the future in the same form.

Blockbuster exploited the rise of technology in video and allowed anyone to lend a movie. At the time, it was a great business model. But the company thought that things would stay the same forever — we would always want to lend movies. They did not consider the fact that technology could evolve to the point where people no longer needed to rent movies. Indeed, the invention of the internet was almost impossible to forecast. Blockbuster should have realized that things were going to change, though. Great businesses die because they think that things will stay the same, or that things will change very slowly. The truth is though that things change very quickly, and so when most fallen companies look back and ask “What happened?” they realize that it was due to their failing to recognize one change that stormed the world quickly.

Reputation can make or break a business. If you have created a successful business, that will in turn generate more businesses. The company is seen as reliable and provides a high quality good or service to their customers. If you have a bad reputation, though, people will not want to be associated with your business. A low-level employee at a company that messes up can move on to their next gig without any major troubles. Companies cannot do this — they have to live with the damage to their reputation. Every time a company makes a mistake, it tarnishes their reputation. And as they make more mistakes, people — customers, employees, communities — start to lose faith in their ability to execute. As people started to see the scandals with Wells Fargo, there were undoubtably many people that asked themselves “Should I really be banking with this company because they are so unreliable?”. Wells Fargo did not fail — yet, at least — but they had to completely reinvent themselves and work hard to regain the trust of their customers.

Great businesses also fail to recognize the social aspects of being associated with a company. If you said that you worked at Enron during the time at hundreds of employees were indicted for fraud, even if you did nothing wrong, people would look at you differently. If you are buy clothes from a company that is under investigation for using slave labor to manufacture their products, people will start to see you in a different light. Even though you have not done anything wrong — you are just a consumer — the reputation of a company can reflect on you, too. Therefore, when a company does something wrong, people want to detach themselves from the company as much as possible — they don’t want to suffer any harm to their reputation. Employees leave. Investors sell their stakes in the business. Customers go somewhere else. And it is so easy for customers to go somewhere else that even one minor scandal could push people away.

Many great businesses have failed to look ahead into the future. Most public companies generate more value in the private markets than in the public markets. The reason for this is due to short-termism and shareholder activism in the public markets. Shareholders are always thinking about how they can maximize their returns, and directors have a fiduciary duty to those shareholders to assist in their realizing those returns. Companies are tasked with focusing on how to meet quarterly earnings targets and meet expectations for growth. Most shareholders are not going to hold their investment for 10 years, and so they apply pressure on companies to generate returns as soon as possible.

However, this mindset means that many great companies become beholden to quarterly reports, rather than long-term innovation. These companies fail to ask themselves “Where will this company be in 10 years?’, and even if they do, very few enact any changes because long-term improvements are to the detriment of short-term returns. Why would a shareholder with a short-term mindset authorize the company to make an action that will have a small — or negative — impact on their returns? And so the company continues as if everything is fine, and 10 years later they realize that something has gone wrong. They have been so focused on the short-term that they have not addressed the systemic issues which would have allowed them to continue to succeed. Short-termism kills great companies because sustainability is forced to take a back seat in favor of short-term gains. Ultimately, the company makes a series of patchwork decisions that do not allow the company to thrive over the long-term, and so they die.

Another reason why great businesses die is because they become more focused on returns than innovation. This ties into the aforementioned short-term mindsets that companies often adopt. Many shareholders and employees become used to the quarterly dividends that they will realize if the company is successful. But continued success does not mean the company has continued to innovate — it may just be realizing the gains from past success. Companies become very focused on earning returns to the detriment of their innovation. Sears was so big that shareholders had great expectations for their returns. Sure, if they opened a new internet-powered division they may have been around longer. But that would have been expensive in the short-term and would likely not have satisfied shareholders’ short-term mindsets. This is also very ironic because it was innovation that allowed the business to succeed in the first place. But after you make money, you don’t want to stop. And businesses die because they want to make more money, not innovate.

I could name dozens of other reasons why businesses fail. Some businesses act too early before society is ready for their product; others fail because they are too late in the market. Suffice to say that great companies fail very easily. We often think that big companies will be around forever and that they will continue to succeed and innovate. But most companies that are successful end up failing for one or more of the aforementioned reasons. I was recently discussing how empires and great businesses fail with a friend of mine and one of the common themes we discovered was that many great businesses die because of ignorance. They become ignorant of innovation, or what got them to where they are today, or changes that are happening in the market. They fail to evolve when they need to, and some new and better business takes its place.

Great businesses will always die because that is how capitalism works — that is why we call it a “free market”. Indeed, there have been companies that have lasted hundreds or, in rare cases, thousands of years (Kongo Gumi, a Japanese construction company, operated for over 1,400 years). But most of those companies failed. And many of the companies that may seem like they will live forever that exist today will also fail. In 500 years, do you really think that Facebook will still be around? Companies, like humans, are imperfect. Great businesses die.

James Gallagher