I just received a review copy of Tyler Cowen’s latest, Big Business, which will be released in a week. As is my habit, I started reading it from the outside in, and I quickly landed on the appendix, in which he writes

in lieu of the Coase and Williamson transactions-cost appraoch, I typically view a corporation in terms of the following properties:

1. It is a collection of assets, assembled at favorable purchase prices (or at least the prices were favorable for the case of successful corporations.
2. It is a nexus of external and internal reputation and norms.
3. It is a carrier of contractual and legal responsibility.

My inclination is to elaborate on (2). I might describe a firm as an organizational culture.

I think we need to distinguish among types of firms. The local restaurant run by a family of recent immigrants is not the same as Microsoft.

I want to ignore most types of firms, including the restaurant, and instead focus on young, ambitious firms and mature, established enterprises.

I would describe a young, ambitious firm (or a “promising business” in Amar Bhide’s terminology) as an organizational culture embodied in its top management layer. To be successful, the members of this team must:

• generate good ideas and discard bad ones
• have the skills, experience, and drive to execute on ideas
• work well together
• manage the transition to a mature, established enterprise

In a mature enterprise, the organizational culture permeates the entire firm. A set of rules, systems, processes, habits, and institutional knowledge is deeply ingrained in every layer of the organization. One of the things that struck me about Minerva, the innovative college, is the terminology that I called “Minerva-speak.” This sort of firm-specific terminology can contribute to a shared organizational culture.

When Tyler points out that bureaucracy is both good and bad, I interpret that in terms of the tension between organizational culture and individual initiative. I picture Minerva in those terms. Its culture is more clearly defined than that of a typical college, but ultimately that could feel stifling to some faculty and students.

Recall that one of my rules for work and financial life is:

When you have little left to learn on a job, it is time to move on.

A lot of what you learn when you work at a firm is its organizational culture. Moving within a firm means you learn new subject matter, but you are largely staying within the same culture. The psychologically more challenging move to a different organization gives you an opportunity to experience a different culture, sort of like spending time abroad.

Large, established enterprises are in one sense easy for a CEO to run and in another sense very difficult to run. With a deeply-ingrained organizational culture, an enterprise can operate on auto-pilot in a stable business environment. In a changing environment, which seems to be more prevalent nowadays, the CEO has to know when and how to discard cultural baggage. Changing the culture of a large organization is risky and wrenching. In a large corporate merger, cultural integration is both challenging and very important.

Perhaps the biggest challenge faced by top management in a large organization is to know what the organization needs to learn and to unlearn as its environment changes. I can think of many examples where the environment changed quickly and a large enterprise unlearned too slowly. Or maybe the value of its legacy rules, systems, processes, habits, and knowledge was decimated by the new environment, and there was not much that top management could do about it.

But I can think of at least one example where a new top management layer insisted that the organization unlearn its approach and the outcome was tragic. That was when Freddie Mac’s board brought in Richard Syron as CEO. Syron and his executive team discarded the organizational knowledge about credit risk, which included a reluctance to deal in “low-doc” mortgages. Under Syron, Freddie Mac dove into the “low-doc” business, with results that were disastrous, both for the company and for the country.