MONEY TALKS

Would anyone have heard of John D. Rockefeller if he had been born a century-and-a-half later? Rockefeller's idea OK, one of his many ideas was that it wasn't enough to get the oil. You had to also own the rail cars and trucks that carried the oil. And you should definitely own the refineries and other processing facilities. And don't even think about letting someone else have the retail profits.
Norwalk Reflector Staff
Jul 24, 2010

Would anyone have heard of John D. Rockefeller if he had been born a century-and-a-half later?

Rockefeller's idea OK, one of his many ideas was that it wasn't enough to get the oil. You had to also own the rail cars and trucks that carried the oil. And you should definitely own the refineries and other processing facilities. And don't even think about letting someone else have the retail profits.

Standard Oil helped build Cleveland and it was later broken up for monopolistic practices.

Standard Oil was built on two basic business practices that have been the envy and aspiration of businesses large and small since the industrial revolution (if not longer): vertical integration and monopoly.

Monopoly is still probably a good idea, however, the new business philosophy is that vertical integration, i.e. owning everything that is involved in your supply chain, is pass.

The new idea is horizontal integration, i.e. outsourcing. Not necessarily foreign outsourcing. The company you outsource to might be in Mexico or India, but it might be next door.

The new idea is: focus on what you do best (your core competency in business-speak). Leave the rest to someone else who can do it better, whether because he has advantageous circumstances (arbitrage) or because it is his core competency.

The perfect example, from Tom Friedman's pompous bestseller, The World is Flat, is Nike. Nike defines its core competency as marketing and design. That's what Nike does. It does not consider itself a manufacturer. And with good reason. It hasn't been a manufacturer in years.

Nike shoes' construction is outsourced to manufacturers in the developing world where labor costs are so much lower. Then, the entire supply chain is managed, not by Nike, but by UPS. After the shoes are made, they are put on UPS planes and flown to Kentucky. Around Louisville, UPS has acres and acres where UPS employees bring together the disparate elements of many companies' supply chains before shipping them off for retail.

UPS even customizes packaging for different retailers.

So Nike never touches its shoes. It designs and it advertises. Overseas producers manufacture, and UPS distributes.

If you go on nike.com and order custom-built shoes, it is UPS that makes that remarkably complex manufacturing and distribution process possible.

Rockefeller would never stand for this.

And it makes perfect sense. Why let UPS charge me the cost plus the profits, when I could get the same service for the cost alone?

The idea today is, you can't get the same service for the cost alone. You're never going to be better at distribution that UPS, because that's what UPS does. For you, it's a distraction. As a result, the math works out like this: the ultimate cost to you to do it on your own is going to be greater than it is if you pay for UPS to do it with profit.

But a large part of what really underlies this is good old-fashioned economies of scale. UPS is able to build a more powerful distribution network on behalf of its clients than any one of them would have cause to build for itself. At the same time it is able to build such a network only because it has aggregated so many clients.

Rockefeller would understand the economies of scale part. What he wouldn't understand is selling off bits of that scale to other people. And he wouldn't understand that so many relatively small jobs could add up to something so big. So monopoly might be out of style after all.

I have to wonder. It all sounds nice, but are we perhaps just reinventing the wheel? At some point will Nike get so big supplying shoes to the world that it will hire away a few UPS guys and set up a division and use that to undercut its last competition on the shelves? After all, Wal-Mart hasn't outsourced its distribution to UPS. Only time (and math) will tell.