Too Big

Abstract

As managers pursue market share, they find that the boundaries of their markets keep expanding at the same time. They see in The Magic Mirror that they can approach, but never reach, 100% market share. This is the reason why their appetite for growth is insatiable and why their firms become too big. In this chapter, I demonstrate their relentless pursuit of size. I show that managers prefer buying capacity (through mergers and acquisitions) to making capacity (through internal growth). Either way, their firms become big.

Appendix: Make or Buy an Empire

I have suggested that you can grow your market share faster if you buy competitor’s capacity than if you make new capacity. Let’s see if we can render the suggestion in math.

Market share s is defined as your capacity k as a fraction of your market M:

$$ s=\frac{k}{M} $$

(5.2)

Furthermore, M is the sum of k and competing capacity C:

$$ M=k+C(s) $$

(5.3)

We assume that C is a positive function of s: Your market share attracts competitive attention.

MAKE

Suppose that you make new capacity. To see how your new capacity changes your market share, take the total derivative of market share:

$$ \frac{ds}{dk}=\frac{1-s}{M+s\frac{dC}{ds}}>0 $$

(5.4)

This derivative has a positive sign given that dC/ds is positive. The positive sign means that while you can increase your market share by new capacity, you can never make it equal to 100%: You can never become a true monopolist by building new capacity.

BUY

To increase market share , you may buy capacity from a competitor. When you do that, your firm’s capacity goes up and the competitor’s capacity goes down by the same amount. To see how it works, take the total derivative of market share again. This time, recognize that the competing capacity goes down when your capacity goes up by equal amount:

$$ \frac{ds}{dk}=\frac{1}{M+s\frac{dC}{ds}}>0 $$

(5.5)

This derivative also has a positive sign. That is, buying capacity from competitors increases your market share but it never gets your market share to 100%. Again, you find that you cannot become a monopolist by buying competitors’ capacity.

That said, growth rate in Eq. 5.5 is always greater than growth rate in Eq. 5.4: Your firm’s market share goes up at a higher rate when you buy a competitor’s capacity than when you build that same capacity from scratch.