The Gap Between Large and Small Companies Is Growing. Why?

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Post Reply
Topic Author
Dave55
Posts: 567
Joined: Tue Sep 03, 2013 2:51 pm

The Gap Between Large and Small Companies Is Growing. Why?

Post by Dave55 » Mon Oct 28, 2019 12:39 pm

Interesting read from Harvard Business Review.

https://hbr.org/2019/08/the-gap-between ... rowing-why


Dave

User avatar
NeoNeo
Posts: 11
Joined: Mon Jan 29, 2018 12:50 am
Location: Washington, DC

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by NeoNeo » Mon Oct 28, 2019 12:51 pm

Interesting read. If this trend is true, or continues, does that have implications on the performance of small cap STOCKS (which, in turn, would suggest no benefits in tilting toward small caps in the future)?

alex_686
Posts: 5097
Joined: Mon Feb 09, 2015 2:39 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by alex_686 » Mon Oct 28, 2019 1:04 pm

NeoNeo wrote:
Mon Oct 28, 2019 12:51 pm
Interesting read. If this trend is true, or continues, does that have implications on the performance of small cap STOCKS (which, in turn, would suggest no benefits in tilting toward small caps in the future)?
I have been saying this for the past few years here. There was nothing magical about the performance of small cap stocks - it was tied to specific economic structures. Those structures have changed. As for the future? I am going to guess the structures will shift again. However, for now, I think large caps have the edge.

columbia
Posts: 1987
Joined: Tue Aug 27, 2013 5:30 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by columbia » Mon Oct 28, 2019 1:27 pm

So they’re saying that a stodgy large cap blend is ok? 😀

bgf
Posts: 1100
Joined: Fri Nov 10, 2017 9:35 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by bgf » Mon Oct 28, 2019 2:27 pm

unregulated, unrestricted capitalism will tend towards monopoly. it is an unusual time in history that our current monopolies sell "free" services, eg. facebook/instagram, google (alphabet), linkedin (microsoft). hard to bust up the 'trusts' when they give stuff away for free (or do they!!!!?). some have been calling for breaking up facebook, amazon, google for awhile now, and i imagine the voices will only grow louder. not sure if they'll ever grow loud enough.

its crazy to think that the largest companies have the best growth prospects, but when it comes to companies like amazon and facebook, you cant think of them like the old railroads, sugar companies, or oil companies.
“TE OCCIDERE POSSUNT SED TE EDERE NON POSSUNT NEFAS EST"

Elysium
Posts: 1829
Joined: Mon Apr 02, 2007 6:22 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by Elysium » Mon Oct 28, 2019 2:42 pm

Small companies can still grow fast to become large companies, they just need to be offering services and products not offered by anyone else, that are appealing to the consumers. There lies the trick, as no one really knows what disrupts the market place. Many of these large companies of today were small once, and they moved into the space that was vacant and/or offered an innovative new idea to solve existing problems. For instance, Facebook, Netflix, and Amazon opened up new ways of doing things for the consumer which caught up. I don't see any structural problems in economy today that will prevent some small company with a new solution to an existing problem to become the leader in that space quickly. Perhaps, what we are missing is ideas coming forth. But, it will happen, as change is inevitable.

alex_686
Posts: 5097
Joined: Mon Feb 09, 2015 2:39 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by alex_686 » Mon Oct 28, 2019 2:44 pm

bgf wrote:
Mon Oct 28, 2019 2:27 pm
its crazy to think that the largest companies have the best growth prospects, but when it comes to companies like amazon and facebook, you cant think of them like the old railroads, sugar companies, or oil companies.
I am a bit more kind to large companies, so let me unpack a few things here. So the old thinking was that you would first get economies of scale, then diseconomies of scale. As you ramp up, your per unit cost get cheaper. But at some point you hit the maximum amount of savings. Then bloat kicks in.

For railroads, there really was no upper limit. They have a network effect. They are a natural monopoly. However, most companies are not natural monopolies. Today, we are kind of going in reverse. The network effect means many niches are now "a winner takes all". One Google, facebook, linkedIn, etc.

Also, in the 90s things changed with the networked desktop PC. Communication became clearer, Diseconomies of scale either vanished or were vastly pushed upwards.

The result is that the natural size of a company his increased.

alex_686
Posts: 5097
Joined: Mon Feb 09, 2015 2:39 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by alex_686 » Mon Oct 28, 2019 2:48 pm

Elysium wrote:
Mon Oct 28, 2019 2:42 pm
Small companies can still grow fast to become large companies, ... For instance, Facebook, Netflix, and Amazon opened up new ways of doing things for the consumer which caught up. I don't see any structural problems in economy today that will prevent some small company with a new solution to an existing problem to become the leader in that space quickly.
So, a few points here.

I will point out that facebook never was a small cap stock. It by-passed that stage. In part this is because of the rise of private equity. In part this is because of things like Sarbanes Oxley. This is a fixed cost of becoming a public company, large companies can handle this cost better than small ones.

I will also point out that facebook and Google just love buying up small start ups. So yeah, promising technology - but it never hits the small cap space.

columbia
Posts: 1987
Joined: Tue Aug 27, 2013 5:30 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by columbia » Mon Oct 28, 2019 2:51 pm

alex_686 wrote:
Mon Oct 28, 2019 2:48 pm
Elysium wrote:
Mon Oct 28, 2019 2:42 pm
Small companies can still grow fast to become large companies, ... For instance, Facebook, Netflix, and Amazon opened up new ways of doing things for the consumer which caught up. I don't see any structural problems in economy today that will prevent some small company with a new solution to an existing problem to become the leader in that space quickly.
So, a few points here.

I will point out that facebook never was a small cap stock. It by-passed that stage. In part this is because of the rise of private equity. In part this is because of things like Sarbanes Oxley. This is a fixed cost of becoming a public company, large companies can handle this cost better than small ones.

I will also point out that facebook and Google just love buying up small start ups. So yeah, promising technology - but it never hits the small cap space.
It’s probably easier (and more personally lucrative) for startups to just get gobbled up than to bother with the considerable hassles of becoming a public company.

Elysium
Posts: 1829
Joined: Mon Apr 02, 2007 6:22 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by Elysium » Mon Oct 28, 2019 2:55 pm

alex_686 wrote:
Mon Oct 28, 2019 2:48 pm
Elysium wrote:
Mon Oct 28, 2019 2:42 pm
Small companies can still grow fast to become large companies, ... For instance, Facebook, Netflix, and Amazon opened up new ways of doing things for the consumer which caught up. I don't see any structural problems in economy today that will prevent some small company with a new solution to an existing problem to become the leader in that space quickly.
So, a few points here.

I will point out that facebook never was a small cap stock. It by-passed that stage. In part this is because of the rise of private equity. In part this is because of things like Sarbanes Oxley. This is a fixed cost of becoming a public company, large companies can handle this cost better than small ones.

I will also point out that facebook and Google just love buying up small start ups. So yeah, promising technology - but it never hits the small cap space.
Right, I forgot we are discussing small public traded companies becoming large. That probably is very hard these days, unlike Microsoft, Oracle, Cisco at one point. It's likely that small startup gets funded privately, the idea catches on, they become nearly a leader in the space before going public. I do remember when Netflix started they used to mail DVDs home in those red mail packets and you send it back, it was a new idea and fun, then they went to streaming and became a leader in the space before anyone had got into it because they had already built up the content and licensing, more importantly they established the brand and customer base, so the mailing list became streaming. By the time they went public they were already the leader in the space.

Scooter57
Posts: 1067
Joined: Thu Jan 24, 2013 9:20 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by Scooter57 » Mon Oct 28, 2019 4:04 pm

Not only do small start ups get bought up by the bigs, but far more small companies stay off the market, and are owned by private equity in their dramatic growth phase and only go public when they are successful enough to offere IPOs at inflated values. So many public small companies are those that didn't attract takeovers or private equity, I.e. lower quality ones.

There are far fewer stocks on the market now than there were 20 years ago.

beehivehave
Posts: 84
Joined: Thu Aug 08, 2019 1:21 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by beehivehave » Mon Oct 28, 2019 4:14 pm

Control of technology is more critical than ever for growth.
And when was the last time anti-trust laws were enforced?
Ask Google, Amazon, Apple, Facebook, etc.

BigJohn
Posts: 1801
Joined: Wed Apr 02, 2014 11:27 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by BigJohn » Mon Oct 28, 2019 4:42 pm

I never thought of this but the role of private equity certainly fits the bill as another system change that could make the historical small value statistics invalid going forward. Just another reason to add to my list of why I don’t tilt.

User avatar
305pelusa
Posts: 1006
Joined: Fri Nov 16, 2018 10:20 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by 305pelusa » Mon Oct 28, 2019 4:50 pm

NeoNeo wrote:
Mon Oct 28, 2019 12:51 pm
Interesting read. If this trend is true, or continues, does that have implications on the performance of small cap STOCKS (which, in turn, would suggest no benefits in tilting toward small caps in the future)?
I read it the other way. Evidently, small companies are much riskier investments (if you believe this kind of news has been factored into the price, which I do). So if anything, the size premium should remain or increase.

Otherwise, as alex_666 says, LC is simply a better investment. I refuse to believe such free lunches. This kind of finding bids up LC prices and bids down SC prices.

I'm an optimist I suppose

fennewaldaj
Posts: 796
Joined: Sun Oct 22, 2017 11:30 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by fennewaldaj » Mon Oct 28, 2019 9:19 pm

It is unclear to me from reading this if they mean the bottom 30% by count or by market cap. Those are two very different things.

CurlyDave
Posts: 1324
Joined: Thu Jul 28, 2016 11:37 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by CurlyDave » Mon Oct 28, 2019 9:43 pm

alex_686 wrote:
Mon Oct 28, 2019 2:44 pm

...Also, in the 90s things changed with the networked desktop PC. Communication became clearer, Diseconomies of scale either vanished or were vastly pushed upwards.

The result is that the natural size of a company his increased.
I think the networked PC (and I am an Apple fan, so I use PC generically) is a huge deal. It is hard to see major change when we are living it, but productivity has increased dramatically over the years. And, the networked PC begat smartphones and tablets which have further worked to change the world. And then wireless phone networks.

And, some of these things lead to "natural" monopolies. MS Office rules the corporate world because guaranteed compatibility is valuable. Facebook reminds me of the very early days of telephones where you could only call people who subscribed to the same company you did. Since Facebook is "free" there is a lot of group pressure for everyone to use it.

And, there are tremendous economies of scale. 10 million copies of software cost very little more than 100 copies.

So maybe the bottom line is that big is here to stay and investing in large caps is the way to go. I know it has produced a lot of success for me.

User avatar
JoMoney
Posts: 7786
Joined: Tue Jul 23, 2013 5:31 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by JoMoney » Mon Oct 28, 2019 9:49 pm

These things wax and wane over time.
Image
Pretty sure someone cautioned about the markets "reversion to the mean"
"To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks." - Benjamin Graham

CurlyDave
Posts: 1324
Joined: Thu Jul 28, 2016 11:37 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by CurlyDave » Mon Oct 28, 2019 9:50 pm

beehivehave wrote:
Mon Oct 28, 2019 4:14 pm
Control of technology is more critical than ever for growth.
And when was the last time anti-trust laws were enforced?
Ask Google, Amazon, Apple, Facebook, etc.
I am not certain that there is as much anti-trust there as you think.

Google might have a dominant position in search, and Facebook might have a dominant position in social media, but they both got there through growth, not by nefarious back room deals.

If we only look at internet retail Amazon is certainly dominant, but if we look at all retail, Amazon has plenty of competition.

And, Apple has a few percent of the computer market, maybe 20% of smartphones and is a small-time player in most other markets. It is really hard to try to justify anti-trust based on those numbers.

stlutz
Posts: 5465
Joined: Fri Jan 02, 2009 1:08 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by stlutz » Mon Oct 28, 2019 11:31 pm

JoMoney wrote:
Mon Oct 28, 2019 9:49 pm
These things wax and wane over time.
Always amazing on this board the extent to which intermediate term trends are projected into the long term future.

typical.investor
Posts: 1258
Joined: Mon Jun 11, 2018 3:17 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by typical.investor » Tue Oct 29, 2019 2:54 am

Wow interesting read.

One characteristic of smaller firms that were able to grow in size is said to be “larger debt raised (to finance investment)”.

That really contradicts Fama French who finds low investment to mean higher returns. Ah, wait. "investment in physical assets (property, plant, equipment),...were negatively associated with the likelihood of escape." So it seems like a g

I guess it all depends on the price you pay.

I mean Buffet wasn’t always looking for profitable companies, but nearly ones that were underpriced.

mjb
Posts: 129
Joined: Sat Nov 30, 2013 11:43 am

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by mjb » Tue Oct 29, 2019 7:17 am

Let's think about this like we do our investments Bogleheads style.

If you could only invest in one organization, most here would probably pick the U.S. government and its treasuries. Why? Very safe with high likelihood for low to moderate growth.

If you could invest in ten organizations? Probably treasuries + Microsoft, Google, Berkshire Hathaway, and a few other blur chips. Why? A little more risky, but with wide moats and growth potential. Probably not investing in cousin Jim's startup.

If you could invest in 500? S&P500 index plus treasuries. Why? You have spread your bets.

And on top of it, you can spread out your investing costs as you build more assets.

So apply this to companies, large companies can afford to invest in more speculative (high risk return) endeavors because of law of large numbers. And with their larger and usually more steady cash flows can also borrow at cheaper rates to also invest in less profitable but safer bets.

Smaller companies can't invest in as many efforts and likely have higher borrowing rates. They either have to pick fewer, safer bets or be like start ups that bet the farm on one idea and it either succeeds or tanks.

If you look at small cap outperformance, it almost entirely comes from a few small companies that bet big and became large cap growth. Now that companies go public later in the growth cycle, this outperformance is probably becoming less likely.

alex_686
Posts: 5097
Joined: Mon Feb 09, 2015 2:39 pm

Re: The Gap Between Large and Small Companies Is Growing. Why?

Post by alex_686 » Tue Oct 29, 2019 10:22 am

CurlyDave wrote:
Mon Oct 28, 2019 9:50 pm
beehivehave wrote:
Mon Oct 28, 2019 4:14 pm
Control of technology is more critical than ever for growth.
And when was the last time anti-trust laws were enforced?
Ask Google, Amazon, Apple, Facebook, etc.
I am not certain that there is as much anti-trust there as you think.

Google might have a dominant position in search, and Facebook might have a dominant position in social media, but they both got there through growth, not by nefarious back room deals.
Anti-trust does not depend on market share or how they got there, it depends if they abuse their market dominance.

Post Reply