Please learn from our mistakes

No-bullshit lessons in business and careers. One mail every day. 15k+ readers love it. Join in?

Oops! Something went wrong while submitting the form.
6 May

The Miracle of The Mittelstand – Part 2: Constrained Optimisation

Andy Grove, when reminiscing upon his stint at Intel, once wrote:

“Business success contains the seeds of its own destruction. The more successful you are, the more people want a chunk of your business and then another chunk and then another until there is nothing.”

German Mittelstands seems to understand this intuitively. Take the case of the Sennheiser brothers, who are the third generation in the family to be helming the internationally acclaimed audio equipment manufacturer:

“We manufacture a lot ourselves, way more than maybe what economically makes sense sometimes. Just because the quality and the education of the production workers is something we pay a lot of attention to.”
“We have a niche strategy and we work on products that are better than everybody else's product, in a niche specifically. Therefore, our people need to be better than everybody else as well.”

Upon being asked if they ever intend on selling the company, they were quick to reply in the negative. The aversion to selling is so deep, that the Sennheisers have a family charter where all members of the family have pledged to never sell the company.

Reading this should have given you a glimpse into the way Mittelstands operate, and it is indeed a small fraction of the values and beliefs that make up Rhine Capitalism as we know it today.

All of this comes down to their resource deployment strategy, something that is worth taking a look at as it directly addressed the problems that SMEs face the world over.

1. Mittelstands are laser-focused on their niche

If you thought MUBI was an example of a company that niched down to make itself stand out, Mittelstands takes that attitude to its extremes.

This focus, coupled with a refusal to diversify has allowed these companies to build up institutional capital when it comes to their area of focus. Over time, they develop the kind of superlative expertise and remarkable efficiencies that allow them to remain reliable and innovative, all while being cost competitive.

This is quite a feat, given Germany's relatively high labor costs and tax structures.If you're wondering what kind of niches these firms operate in, here are a few examples: manufacture of metal enclosures for sausages, hospital bed caster wheels, and electromagnetic petrol price displays.

Of course, one could always argue for the threat of disruption and whatnot, but ask yourself, do you ever see a world where we won't need portable hospital beds or sausage production systems?

Your answer forms the thesis for many of these Mittelstands.

2. Global from the get-go

These firms realized fairly early on that depending on the local market would exhaust opportunities fairly quickly. This is precisely why they started looking beyond their borders and aggressively invested in improving production processes and quality control systems.

This focus on product quality and innovation, coupled with excellent customer-relations has allowed these companies to become global players in their respective niches.

Many Mittelstands often feature as market leaders in their respective niches, as portrayed in this figure:

Mittelstands are mostly engaged in what you might call “boring businesses”, but as any experienced business operator, boring businesses tend to be some of the most stable and lucrative entities around.

3. Organic growth, always

These companies have a solid identity that is rooted in the family that owns and operates them, and the communities and villages in which they are situated. Consequently, Mittelstands avoid equity dilution like the plague.

They are known for their deeply conservative approach to finance, and most innovative endeavors are often funded through the personal wealth of the family that runs the enterprise. Talk about having skin in the game.

Granted, they do miss out on a slew of opportunities that keep popping during periods of economic resurgence, but it's the very same attitude that keeps them from taking big hits whenever the going gets tough.

All of this leaves them with a level of autonomy that most public companies can only dream of. The fate of the company is deeply intertwined with that of the owners, and thus, risky and moronic bets are completely out of the question (take note, Masayoshi Son).

4. Playing for keeps, fr fr

When the Germans are in it for the long haul, they are truly in it for the long haul. Mittelstands embody the spirit of the term 'patient capital' where internal financing means that companies are willing to evaluate pay-offs over a relatively long period, say 5 - 10 years at the minimum.

This is in stark contrast to the two–year time frame that most listed firms are forced to stick to, in no small part due to a strict adherence to the Friedman doctrine (prioritizing shareholder value above all else).

Simply being able to stick it out for the long run serves as a competitive advantage over larger firms that just can't seem to exercise any patience. Count Anton von Wolfgang Faber–Castell puts it best:

“It is of course easier for traditional family businesses to think in terms of generations and to stay the course on projects whose rewards may only be reaped after setbacks and some decades later. I would have been fired three times over in an American company for this attitude, especially in the times when a company’s shareholder value, i.e. its stock market value, was deemed more important than long–term considerations.”

In the long run, we may all be dead, but there's no reason that the institutions that we build have to die along with us.

5. Superior employee relations

Germany is generally lauded for having one of the world's lowest unemployment rates, and a lot of it boils down to the attitude that German firms, especially Mittelstands, have when it comes to their employees.

Mittelstands are committed to the well–being and productive capacities of its employees. Relatively flat hierarchies, and deep involvement in decision–making, coupled with the dignity of labor across all roles make for a content, skilled, and highly productive workforce.

They even have a word for this, Werschätzung, and it loosely translates to 'high esteem'. These firms would go to the ends of the earth for their employees, and this ensures a level of loyalty and commitment that most entrepreneurs can only dream of expecting from their employees.

Mittelstands are also the primary forces behind the fabled German apprenticeship system, where advanced technical skills and business acumen are imparted to young trainees.

6. Adapting to and serving the community

The average Mittelstand is as much a product of the owner's family, as it is of the local community in which it operates from. These firms deeply identify with the communities that host them and are actively invested in the welfare of the community.

This usually translates to strong partnerships with local research centers and universities, and deep bonds with the local banking system. Many of these relationships date back to the mid–1800s and have been nurtured slowly over long periods.

Mittelstands have been doing what development scholars have only recently begun to start discovering — the magic of research/industrial clusters, spatial innovation systems, and (truly) big-picture thinking that excludes no one from the agenda.

All of these can collectively be seen as a resource–based model from which much can be gleaned:

We started with an affirmation of a remark from Andy Grove. I'd like to end by negating yet another remark of his:

“Accept that no matter where you go to work, you are not an employee you are a business with one employee, you. Nobody owes you a career. You own it, as a sole proprietor.”

Taking ownership of your career is excellent advice. However, if you do succeed and happen to have some influence, it would be imprudent to not actively build capability-enhancing systems within your own enterprise.

Expecting everyone to “pick themselves up by the bootstraps” with scant regard for their circumstances will always translate to sub-optimal outcomes.

Learning how to do that is something we can all learn from the hidden champions of the Rhineland.

Source: Innovation with Limited Resources: Management Lessons from the German Mittelstand

Feeling Lucky?
Subscribe to get new posts emailed to you, daily. No spam.
Oops! Something went wrong while submitting the form.
15k+ business professionals act on our advice every day. You should too.
Subscribe to get new posts emailed to you, daily. No spam.
Oops! Something went wrong while submitting the form.
15k+ business professionals act on our advice every day. You should too.