G.E. provides another example. In the company’s early decades, it gained greatly from spreading its electric expertise over everything from light bulbs and radios to power plants and locomotives. Managers also kept finding synergies in building up related businesses, eventually including health care, plastics and financing.
But by the 1980s, the product synergies were fading. Jack Welch, then the chief executive, decided that G.E.’s main Coase-advantage was management expertise. He thought that brilliant buying and selling of companies, regular culls of weak executives and a shared focus on perfection in design and execution would allow the company to expand simultaneously in many businesses, including finance.
Mr. Welch was lauded at the time, but he was deeply wrong, especially about finance. The failures of G.E. Capital have deeply wounded the enterprise. G.E.’s market capitalization was well over $500 billion in 2000 — now, after multiple losses, write downs and divestments, it is less than $70 billion.
At least Mr. Welch has company. Efforts to profit from lower frictional financial costs — whether from raising money, managing risks or pleasing investors — have poisoned many companies, including a collection of conglomerates. For example, back in the 1970s the quest for savings from buying companies with expensive stock and cheap debt first fueled and then felled such enterprises as ITT and Gulf & Western. More recently, Enron and Tyco suffered because aggressive financing multiplied the damage from vastly overestimating the gains from low-friction management.
Stories of conglomerate failure can give the wrong impression. While dreams of financial riches seem to deprive many managers of their common sense, the Coase-effect is crucial to the success of modern economies. Without the ability to bring disparate businesses and skills together, costs in most firms would be higher, revenues lower and many new and improved products would never have been created.
All big companies have something of the conglomerate about them, because they do many things. Corporate fashions come and go, and managers of companies like G.E. may fall prey to stultifying complexity and financial overreach. But Mr. Coase was right enough about costs. Diversified enterprises, by one name or another, will play a big role in the business world for a long time.