Do Small Firms' Survival Depend on Large Firms?

1. INTRODUCTION

While in the past the small business sector was given little attention, in more recent years and especially since the 1980’s there has been a recognition of the economic importance of this sector.

For this fact partly contributed the significant growth in the number of small firms and with it the increase of the relevance of this sector in both employment and output.

Several factors seem to explain such a growth: the technological changes reduced the importance of economies of scale in production allowing small firms to compete much more effectively; changes in the labour market that ‘forced’ many to self-employment; the development of the service sector; and the public policies supporting this sector as a measure to fight unemployment (Carter and Jones-Evans, 2006 p20-24).

One other reason that has supposedly contributed for the development of business ownership rates is the radical change in large firms’ practices. Due to being faced with a far more competitive and uncertain environment larger companies have sought to concentrate in their ‘core competences’ while transferring activities with little know-how or that add little value to smaller firms (Carter and Jones-Evans, 2006 p22).

This argument seems to indicate that many small firms would not be able to survive without large firms.

In this paper I will try to analyse the relationships between the small and large firms and the importance that the last have on the survival of the former.



2. SMALL AND LARGE FIRMS: HOW DO THEY DIFFER?


Organizational studies have early on identified size as a critical variable in the performance of an organization (Chen and Hambrick, 1995; Hofer, 1975; Kimberly 1976), capable of influence strategic aspects such as the probability of change in core features (Kelly and Amburgey, 1991), R&D expenditures (Cohen and Klepper, 1993) and innovation (Hitt et al., 1990). Thus typically what applies to large firms does not necessarily apply to small ones (Pugh et al., 1968).

Large firms are characterised by a set of advantages that are, directly or indirectly, associated to its size. Among those the most important are probably the economies of scale, experience, brand recognition and market power (Hambrick et al., 1982).

However a firm’s increase in size doesn’t bring only advantages and it has also been identified a number of problems that arise specifically in those types of firms.
Firstly largeness conduces to a more complex organizational structure with a natural tendency to bureaucracy and to the establishment of several levels of hierarchy (Chen and Hambrick, 1995 p459).

With such an organizational structure it’s also typically associated an inertia and lack of flexibility that makes change very difficult to accomplish.

Lastly large firms develop a tendency to be risk-adverse avoiding undertaking new risky projects (Carter and Jones-Evans, 2006 p82; Hitt et al., 1990).

On the contrary small firms, despite (or because of) being faced with a number of constrains when compared to large firms (such as little market power and brand recognition, the difficulty to be financed [Gilbey, 2005 p309] and lower efficiency), are constantly seeking new opportunities to survive and prosper, acting aggressively in the market and challenging the status quo (Chen and Hambrick, 1995 p459).

They benefit in these tasks from the fact that they have lighter organizational structures, with low bureaucracy and where decisions can be made faster and with the involvement of fewer people. This gives small firms a level of flexibility and an ability to adapt to change that can hardly be imitated by larger organizations.

These small firms’ inherent characteristics can give them, at least in certain industries, an innovative advantage over larger competitors (Carter and Jones-Evans, 2006 p82-85) especially in the present global and highly competitive business environment where changes are frequent and decisions have to be made swiftly.



3. WHY DO SMALL AND LARGE FIRMS TEAM UP?


As previously identified small and large firms have different characteristics but, under certain circumstances, those characteristics can be complimentary and thus, as Kalaignanam et al. (2007) found out in their research, the teaming up of these different types of firms can add value to both of them.

In a highly technological industry such as, for example, the pharmaceutical and biotechnology industries, large firms often struggle to adapt to frequent radical technological changes (Rothaermel, 2001 p687; Carter and Jones-Evans, 2006 p88) and thus they can find attractive to associate with small innovative firms. In this way large firms would get access to new technologies and products while small firms could get access to the large firms’ resources.

Table 1 summarizes some of the gains that small and large firms can obtain from associating to each other in such an environment.



Furthermore one change in the business practices of large firms that has also led to large and small firms to team up is the outsourcing of some of the larger firms’ less value-adding and non-core activities to smaller firms (Rainnie, 1991). This would allow larger firms to become more flexible and also specialize in what they do better while it would represent a welcome business opportunity to smaller firms.

This practice has become a more prevailing necessity in the actual global business environment where efficiency and flexibility have become more crucial than ever in order to larger firms to be able to deal with higher market and economic uncertainty, higher risk in the production of innovative products and a more demanding workforce (Carter and Jones-Evans, 2006 p22-23).



4. HOW DO SMALL AND LARGE FIRMS TEAM UP?


While traditional views assumed that there was animosity among firms within an industry several researches have also found the existence of cooperation among such firms (Golden and Dollinger, 1993; Astley, 1984; Oliver, 1988).

Such cooperation can take many forms such as licensing agreements, strategic alliances or joint-ventures. Astley and Fombrum (1983) proposed a typology of inter-organizational relationships (IORs) that is presented in Table 2.



Most commonly small firms establish confederate or conjugate alliances with larger firms. Confederate alliances are similar to horizontal diversification arrangements where firms cooperate on some aspect of the business processes such as, for example, when a small and a large firm cooperate on the R&D process as a way to share the costs and risks associated with such a process. Conjugate alliances, on the other hand, provide benefits similar to vertical diversification by linking suppliers and customers to reduce marketplace transaction costs. An example of such an alliance would be when a small innovative firm stays responsible for the development of new technologies and products that the large firm will manufacture, advertise, distribute and sell (Golden and Dollinger, 1993 p44-45).

While the use of such IORs generally tends to reduce environmental uncertainty and improve small firms performance (Dollinger and Golden, 1992 p45), if they are poorly managed by the small firms such relationships can end up hurting them and even threat their survival (Alvarez and Barney, 2001 p139).

For example, in a relationship between a small innovative firm and a large firm, and since large firms learn more rapidly about small firms resources, the latter might end up to underinvest in the relationship as soon as it has learned about the new technologies provided by the former. Table 3 presents some alternatives that small firms might use to try to reduce such risks.

Also in relationships along the supply chain if the large firm has significant market power and/or the small firm becomes over-dependent on the large firm, either as supplier or customer, the small firm might suffer severely if the large firm ends the relationship.





In order for the alliances between small and large firms in highly technological industries to satisfactorily add-value to both of them some points should be taken into consideration as stated in Table 4.





5. CONCLUSIONS

In this paper it has been shown that despite having different characteristics, small and large firms might both benefit from the establishment of business relationships between them.

Furthermore the establishment of such relationships seems to be particularly crucial to small firms since it reduces the environmental uncertainty they typically face and simultaneously improve its performance.

However this type of alliances with large firms should not be faced as organizational panaceas to the small firms since associated with such alliances comes some risks that could eventually jeopardise the survival of those small firms.

Finally it was presented some guidelines to try to reduce such risks and to successfully establish alliances between small and large firms particularly in highly technological and innovative industries.


(Miguel Santos)


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