Navigating a Path to Smart Growth

Not all growth is good. An analysis of Fortune Global 500 companies shows that the businesses that grew within the limits of their growth corridors performed far better than others — even those that grew faster.

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How fast should a company grow? This question is fundamental to managerial practice, and it is difficult to answer. On the one hand, companies need to grow to remain vital and competitive. On the other hand, growth creates a number of managerial challenges — and too much growth can lead to crises or even bankruptcy. Some researchers have suggested that growth is beneficial only up to a certain point, beyond which it destroys shareholder value.1 This raises a set of questions: Do companies have optimal growth rates? Can healthy growth be defined? And if so, how can managers determine the ideal growth rate for their organizations?

We have developed a model of a “growth corridor” that allows managers to determine how quickly their companies can safely grow. We tested this model using a large-scale empirical study of the growth paths of the Fortune Global 500 between 1995 and 2004.2 (See “About the Research”) The results confirm the growth corridor’s relevance for managerial practice: Companies that grew within the limits set by their growth corridor outperformed their peers that did not. So-called “smart growers” delivered an average return to shareholders of nearly double the rate of slower- or faster-growing companies. These companies, including Dell, General Electric, Microsoft, Nestlé, Toyota and Wal-Mart, operated within the limits of their growth corridors. However, more than 75% of the overall group failed to operate within this zone and paid a price one way or another — in rising debt, declining profit margins or falling share prices. Drawing lessons from the smart growers, we have developed guidelines for how managers can use the growth corridor model in strategic planning.

About the Research »

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1. See E. Penrose, “The Theory of the Growth of the Firm” (Oxford: Oxford University Press, 1959); C.A. Ramezani, L. Soenen and A. Jung, “Growth, Corporate Profitability, and Value Creation,” Financial Analysts Journal 58, no. 6 (2002): 56–67; and D.A. Whetten, “Organizational Growth and Decline Processes,” Annual Review of Sociology 13 (1987): 335–358.

2. The Fortune Global 500 is a ranking of the top 500 corporations in the world as measured by revenue. It differs from the Fortune 500 in that the latter only lists the top U.S. corporations. The list is compiled and published annually byFortune magazine. We used the list published in the July 25, 2005, issue.

3. For recent publications on corporate growth, please refer to J. Canals, “Managing Corporate Growth” (Oxford: Oxford University Press, 2000); C.M. Christensen and M. Raynor, “The Innovator’s Solution: Creating and Sustaining Successful Growth” (Boston: Harvard Business School Press, 2003); and J. McGrath, F. Kroeger, M. Traem and J. Rockenhaeuser, “The Value Growers: Achieving Competitive Advantage Through Long-Term Growth and Profits” (New York: McGraw-Hill, 2001).

4. Two interesting studies on competitive rivalry effects on company performance are W.J. Ferrier, K.G. Smith and C.M. Grimm, “The Role of Competitive Action in Market Share Erosion and Industry Dethronement: A Study of Industry Leaders and Challengers,” Academy of Management Journal 42, no. 4 (1999): 372–388; and G. Young, K.G. Smith and C.M. Grimm, “ ‘Austrian’ and Industrial Organization Perspectives on Firm-Level Competitive Activity and Performance,” Organization Science 7, no. 3 (1996): 243–254.

5. Similarly, management consultant Peter F. Drucker stated: “A company needs a viable market standing. If the market expands ... a company has to grow with the market to maintain its viability.” See P.F. Drucker, “Management: Tasks, Responsibilities, and Practices” (New York: Harper & Row, 1973), 774.

6. See E. Bartov, D. Givoly and C. Hayn, “The Rewards to Meeting Or Beating Earnings Expectations,” Journal of Accounting and Economics 33, no. 2 (2002): 173–204; R. Kasznik and M.F. McNichols, “Does Meeting Earnings Expectations Matter? Evidence From Analyst Forecast Revisions and Share Prices,” Journal of Accounting Research 40, no. 3 (2002): 727–759; and D. Skinner and R. Sloan, “Earnings Surprises, Growth Expectations, and Stock Returns Or Don’t Let an Earnings Torpedo Sink Your Portfolio,” Review of Accounting Studies 7, no. 2–3 (2002): 289–312.

7. Currently, the legacy costs from downsizing add $2,000 to the cost of every vehicle, explaining GM’s failure to produce cars at a competitive level; see A. Sloan, “Against Toyota, GM Needs to Mind the Gap,” Washington Post, Feb. 28, 2006, p. D.02.

8. For an overview of the literature on downsizing effects on firm performance, see W. Cascio, “Downsizing: What Do We Know? What Have We Learned?” Academy of Management Executive 7 (1993): 95–104; and C. Chadwick, L.W. Hunter and S.L. Walston, “Effects of Downsizing Practices On the Performance of Hospitals,” Strategic Management Journal 25, no. 5 (2004): 405–427.

9. Firms whose sales growth exceeded productivity growth achieved an average return to shareholders of 13.8% compared to an average of 7.3% for firms whose sales growth lagged behind productivity growth. Similarly, firms exceeding shareholders’ growth expectations showed an average return of 15.4%, clearly outperforming firms that failed to meet expectations (average return of 8.7%). Finally, firms that grew faster than the competition realized an average return of 14.4% — almost twice the average return of 7.8% achieved by firms that grew more slowly than the competition.

10. This observation is in line with earlier studies that found growth expectations to be occasionally biased by irrational investor behavior. See, for example, W.F. De Bondt and R. Thaler, “Does the Stock Market Overreact?” Journal of Finance 40 (July 1985): 793–805.

11. For additional insights on the risks related to rapid growth, see J.P. Gander, “Managerial Intensity, Firm Size and Growth,” Managerial and Decision Economics 12 (1991): 261–266; D.C. Hambrick and L.M. Crozier, “Stumblers and Stars in the Management of Rapid Growth,” Journal of Business Venturing 1, no. 1 (1985): 31–45; and M. Slater, “The Managerial Limitations to the Growth of Firms,” Economic Journal 90 (September 1980): 520–528.

12. The sustainable growth model has been well established in prior research. The most relevant studies include J. Clark, T. Chiang and G.T. Olson, “Sustainable Corporate Growth: A Model and Management Planning Tool” (Westport, Connecticut: Quorum Books, 1989); R.C. Higgins, “How Much Growth Can a Firm Afford?” Financial Management (fall 1977): 7–16; and P. Varadarajan, “The Sustainable Growth Model: A Tool For Evaluating the Financial Feasibility of Market Share Strategies,” Strategic Management Journal 4, no. 4 (1983): 353–367.

13. Two interesting studies on the subject are T. Opler and S. Titman, “Financial Distress and Corporate Performance,” Journal of Finance 49, no. 3 (1994): 1015–1040; and G. Probst and S. Raisch, “Organizational Crisis: The Logic of Failure,” Academy of Management Executive 19, no. 1 (2005): 90–105.

14. The managerial limitation on growth is well described in the literature, and empirical studies have confirmed that a firm’s growth is constrained by “managerial capacity.” Please see J.P. Gander, “Managerial Intensity, Firm Size, and Growth,” Managerial and Decision Economics 12 (1991): 261–266; M. Slater, “The Managerial Limitation to the Growth of Firms,” Economic Journal 90 (September 1980): 520–528; and D. Tan, “The Limits to the Growth of Multinational Firms in a Foreign Market,” Managerial and Decision Economics 24 (2003): 569–582.

15. See C.A. Montgomery and B. Wernerfelt, “Sources of Superior Performance: Market Share Versus Industry Effects in the U.S. Brewing Industry,” Management Science 37, no. 8 (1991): 954–959; and K.G. Smith, W.J. Ferrier, and C.M. Grimm, “King of the Hill: Dethroning the Industry Leader,” Academy of Management Executive 15, no. 2 (2001): 59–70.

16. Along the same lines, Drucker argues: “Growth that exceeds the optimum, that is, growth that purchases market position at the price of lower productivity ... is basically unsound and cannot be sustained.” “Management,” 775.

17. Nestlé’s growth strategy is described in detail in S. Raisch and F. Ferlic, “Nestlé: Sustaining Growth in Maturing Markets,” University of St. Gallen case no. 306-615-1 (Bedfordshire, United Kingdom: ECCH, 2007).

18. Studies have shown that higher sustainable growth rates are linked to higher long-term performance. See, for example, R.C. Higgins, “Sustainable Growth Under Inflation,” Financial Management (autumn 1981): 36–40.

19. See also G. von Krogh and M. Cusumano, “Three Strategies for Managing Fast Growth,” MIT Sloan Management Review 42, no. 2 (winter 2001): 53–61.

20. For a detailed account of BMW’s growth, see S. Raisch and A. Zimmermann, “Changing Fortunes: Corporate Growth at DaimlerChrysler and BMW,” University of St. Gallen case no. 306-192-1 (Bedfordshire, United Kingdom: ECCH, 2006).

21. Studies on corporate restructuring suggest a similar two-phased approach. See K. Arogyaswamy, V.L. Barker and M. Yasai-Ardekani, “Firm Turnarounds: An Integrative Two-Stage Model,” Journal of Management Studies 32 (1995): 493–525.

22. A number of prior studies on corporate decline pointed to the fact that organizations tend to get trapped in their previous success patterns and lose their flexibility to change and adapt (the so-called “success breeds failure” phenomenon). Readers interested in this topic are referred to D. Miller, “The Icarus Paradox: How Exceptional Companies Bring About Their Own Downfall” (New York: Harper Collins, 1992).

23. For more information, see J. Bevan, “The Rise and Fall of Marks & Spencer” (London: Profile Books, 2001).

24. For a detailed account of Marks & Spencer’s revitalization program, also see Probst and Raisch, “Organizational Crisis,” 98, 101–102.

25. Empirical studies have shown that bureaucratic and risk-averse cultures are linked to a low degree of innovativeness. See R. Deshpandé, J.U. Farley and F.E. Webster, Jr., “Corporate Culture, Customer Orientation, and Innovativeness in Japanese Firms: A Quadrad Analysis,” Journal of Marketing 57, no. 1 (1993): 23–37.

26. Cendant, formerly a real estate and travel conglomerate, was split into four independent companies. It is now comprised principally of its vehicle rental operations. Following stockholder approval on August 29, 2006, the company changed its name to Avis Budget Group Inc.

27. See also M. McNeil Hamilton, “AES’s New Power Center: Struggling Utility Overhauls Corporate (Lack of) Structure,” Washington Post, June 2, 2003, p. E.01.


The authors gratefully acknowledge the support of ETH Zurich and the Center of Organizational Excellence at the University of St. Gallen. We would also like to thank Flora Ferlic for her contributions to this article.

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