• by Gord Hotchkiss , Featured Contributor, August 8, 2017

One week ago today, John Flannery took over as the new CEO of General Electric. He’s only the third person in the past 36 years to have held the role. He takes over from Jeff Immelt, who in turn inherited the post from the iconic Jack Welch in 2001. Welch started his reign in 1981.

GE has been around for a long time. It actually predates the Dow Jones Index by four years (having been founded in 1892) and is the only one of the 12 original companies listed that still exists. It -- perhaps more than any other company -- serves as a case study for the evolution of the multinational mega corporation.

But GE is in trouble. Share prices are down. It’s struggling to retain its considerable grip on the industries in which it competes. Flannery has his hands full.

The GE story is also interesting because Jack Welch was the first rock star CEO. When the Welch reign began, we were still very much in the era where sheer bulk equaled success. Size bestowed a considerable advantage on companies like GE. Welch recognized this and introduced the now-famous "Number One or Number Two" strategy, where he pared GE’s portfolio down to just the industries where they could be either first or second in the world.

Ironically, given that he was lionized as one of the great corporate strategists of his era, Welch was relatively unimpressed with the classic interpretation of strategy, noting, “Forget the scenario planning, yearlong studies, and 100-plus page reports that 'gurus' suggest. They’re time-consuming and expensive, and you just don’t need them. In real life, strategy is very straightforward. You pick a general direction and implement like hell.”

It was this embracing of flexibility in planning that eventually led Welch to rethink the rigidity of his “One or Two” dictum. Jeff Immelt followed the same playbook, shutting down portfolios like finance and placing a heavy bet on high-tech infrastructure.

But despite Immelt’s best efforts, GE’s market cap dramatically eroded, shedding almost 30% and $150 billion in value over his 16-year stint as CEO. When you stack it up against Welch’s numbers -- a 2790% increase in market cap in the 20 years his hand was on the steering wheel -- it’s hard not to come to the conclusion that Immelt was a horrible CEO and Welch was a superstar.

But as logical as this seems, it’s based on faulty logic -- what Phil Rosenzweig calls the Halo Effect. That fact was, the world of Immelt’s GE was a vastly different place than was the world of Welch’s GE, even setting aside mega events like 9/11 and the financial meltdown of 2008.

In those 16 years, many of economist Ronald Coase’s original reasons why a corporation exists disappeared. Most of them had to do with the market friction that came from a rapidly expanding physical marketplace.

If you want an exhaustive analysis of this theory, go ahead and plow your way through the 600-plus pages of Alfred Chandler’s seminal work, "The Visible Hand." But to pare that down to the barest essentials: It was much more efficient to actually build physical things and distribute them to a geographically dispersed market when you had a vertically integrated corporation where you could manage every step of the process. This was the world in which Jack Welch became the CEO of GE.

That’s not the world we live in today. Because transactional friction has been ruthlessly eliminated by technology, the efficiencies of the open market usually equal -- and sometimes exceed -- that of a corporation.

Need a massive international transactional platform? The emerging blockchain commons can provide that. Need marketing capabilities that weren’t even dreamt of by even the biggest multinationals just a decade ago? Take your pick of almost 5,000 martech vendors.  Your start-up office grown too big for your garage? You can even rent a corporate headquarters, complete with all the bells and whistles.

So the biggest question facing Flannery in 2017 is this: Are mega corporations -- and, by extension, GE -- even relevant any more?  If we stick to Coase’s strict definition, the answer is probably no. But perhaps there’s another reason for corporations to exist: the critical mass of innovation.

Although she was vilified for it, I believe Marissa Mayer was on to this when she herded all of Yahoo’s teleworkers into the same physical location. In the infamous memo, Yahoo’s HR Director, Jackie Reses, said, “Some of the best decisions and insights come from hallway and cafeteria discussions, meeting new people, and impromptu team meetings. Speed and quality are often sacrificed when we work from home. We need to be one Yahoo!, and that starts with physically being together.”

Mayer defended her decision by first acknowledging that "people are more productive when they're alone," and then stressing "but they're more collaborative and innovative when they're together."

Researchers have found that when the population of a city grows, the amount of productivity scales supralinearly. If you double the population of a city, you don’t just get a 100% boost in productivity, you also get a 30% bonus. Cities are the most effective innovation engines ever devised.

The reason for this is simple. When you pack a bunch of intellectually diverse people into the same space, magic happens. Mayer understood this. Unfortunately, the realization was “too little, too late” to save Yahoo, but that doesn’t mean her logic was faulty.

As John Flannery steps into the CEO role, he may run full-speed into the realization that the benefits once bestowed by being massive have turned into liabilities. What once made GE great now threatens to drown it. But there are still 300,000 different minds that work for GE.

Frankly, I’m not sure mega corporations can ever be relevant again in a friction-free marketplace. But if they can, the answer lies in the innovation potential of all those minds.