The Quirks of Smallness

What is it about modestly-sized companies, corporate boards, and teams that enables them to thrive?


Herb Hyman, the owner of Coffee Bean & Tea Leaf, a chain of coffee shops local to Los Angeles, was worried about the future of his business. It was the early 1990s, and Starbucks was beginning to colonize portions of the city. "They just flat-out said, 'If you don't sell out to us, we're going to surround your stores,'” Hyman later told Taylor Clark, author of 2008’s Starbucked. Hyman stayed put, braced himself, and then watched as … his sales shot up.

The presence of Starbucks—a brand with relatively higher brand awareness, more resources, and better economies of scale—actually gave Coffee Bean & Tea Leaf, a much smaller brand, a boost to its business. A company’s smallness, it turns out, is something that can play to its advantage in competing with massive brands. A host of research shows that if the circumstances are right, limiting size—of a brand, of a company’s board, of a project team—can have unexpected benefits across industries.

study, published in May, from researchers at Georgetown’s McDonough School of Business and Harvard Business School builds a theoretical framework to make sense of Herb Hyman’s luck. The prevailing wisdom is that, in the face of a multinational competitor, a small-scale retailer should differentiate itself by cutting prices, bolstering its customer service, or specializing into an ever-narrower niche. But, by looking at the circumstances under which consumers preferred mom-and-pop bookstores and handmade chocolates, the researchers determined that small brands benefit when they publicize their size relative to a larger competitor nearby.

In one experiment, the researchers gave subjects a $5-off coupon upon entering a local bookstore. Some of the coupons had short blurbs explaining that the store was in direct competition with a store on the scale of Barnes and Noble, and some explained that the store was competing with another mom-and-pop bookstore. (A control group was given coupons without any text like this.) Those who received the large-competitor coupon were far more likely to make a purchase than those who got small-competitor coupons—even though the coupons made no comments on the store’s superior quality.

Percentage of Customers Who Bought From a Small Bookstore, by Competitor Description
Paharia et al.

Proximity also matters. The researchers analyzed Yelp reviews of local coffee shops, and found that, in general, the closer a shop was to the nearest Starbucks, the higher its rating was on Yelp.

Firms may already be aware that the narrative of the underdog carries immense sway with consumers—researchers suspect people are drawn to companies whose stories they perceive to mirror their own experiences. But this study expands that: “Consumers may want to punish stronger competitors…[and watch] them fail,” the study’s authors write. And this doesn’t just have to do with products, like coffee, that benefit from being seen as authentic; a local electronics store could theoretically sell more batteries by simply playing up its stiff competition with Radioshack.

Though this study was published in May, Hyman came to the same conclusion decades ago. He determined his shops’ proximity to Starbucks to be such a boon that he began opening locations close to established Starbucks—a sly reversal of the national chain’s strategy. "We bought a Chinese restaurant right next to one of their stores and converted it, and by God, it was doing $1 million a year right away," Hyman is quoted as saying in Starbucked.

But the curious advantage of smallness isn’t only available to companies with relatively few employees. The Wall Street Journal recently wrote up a study done by GMI Ratings, a governance research firm, that found that companies with smaller boards of directors outperform those with larger ones. In the energy industry, for example, companies with boards of between eight and 10 people produced shareholder returns 34.4 percent higher than the sector as a whole over three years, while the returns for companies with 12- to 14-person boards were 5.2 percent higher.

Total Shareholder Returns in the Past Three Years as Compared to Overall Sector
The Wall Street Journal/GMI Ratings

Among the nearly 400 companies GMI analyzed, the average board size was 11.2 members, and by GMI's definition, a "small" board has nine or 10 members and a "large" board has 13 or 14. This study’s findings, which reflect earnings over the past three years, match those of a similar analysis published in 1996 that tracked the performance of 452 companies from 1984 to 1991.

While the reason for small boards’ advantage hasn’t been pinned down, the consensus is that a board’s smallness makes for more involved conversations and quicker decision making. The Journal points to Apple’s board as embodying this fleetness. Earlier this year, one prospective boardmember met all eight of the company’s directors over the course of weeks—a process that might take months at another company. According to the Journal, someone familiar with Apple said that there's a belief that “eye contact and candor change” the moment a board has more than 10 members on it.

The priority of smallness seems to be key in building a board that can make smart decisions quickly—and this is echoed in research done on the optimal size of teams, too.

A writer for Fortune magazine was bold enough to suggest in 2006 that there is an “optimal” number for a group: 4.6. Aside from the obvious logistical problem of determining whether to include the arms or the legs of that marginal six-tenths of a person, sticking to a cut-and-dried number of people for all groups would be absurd, given the variety of projects out there. That said, smallness generally appears to be a trusty organizing principle.

People who study team dynamics are fond of referring to something called the Ringelmann effect. Named for its discoverer (whose biography remains somewhat unclear), the effect was originally observed when recording the force exerted on a rope being pulled by groups of various sizes. Ringelmann noticed that after the fifth person was added to the effort, the average force exerted by each member of the group declined. This notion of diminishing returns suggested that groups become less efficient the bigger they get.

“After the fifth person, you look for cliques,” Wharton professor Jennifer Mueller is quoted as saying in a Knowledge@Wharton post. Many researchers agree that size probably shouldn’t be the first priority in arranging a team, but that it nonetheless plays an important role. Mueller has studied the Ringelmann effect in the workplace, bringing a conclusion about rope-pulling out of the realm of metaphor. She sought to understand why the effect appeared among groups of knowledge workers, and found that even though large groups have richer human resources, they fail to make people feel like they’re being supported. In other words, when a group got too big, its members felt like they were on their own.

At the end of her study, Mueller notes her field’s “obsession with finding the ‘optimal’ team size,” which she believes has led to little in the way of understanding group dynamics—different projects simply demand different group sizes.

Earlier this month, my colleague Alexis Madrigal wrote about the calculated rise of Blue Bottle Coffee, whose founder has, in scaling the company from a farmer's market stand to a national brand, taken pains to make sure his coffee's soul wasn't lost in the process. Mindfully and patiently preserving a product's quality during a period of rapid, venture-capital-backed growth, Madrigal concludes, can allow a company to fend off a case of the bends. But that's not easy, and many companies might find that the best way to hold onto their initial uniqueness is to not get so big in the first place.