It was Derek Price, a British physicist and information scientist, who discovered that it was often a small percentage of subject matter experts among his peers who dominated the publication of academic papers. From him we get Price’s law, which says half the publications on a subject are written by the square root of all the contributors (in other words, that five people out of 25 will get half the work done).
Let’s adapt that rule to corporate cultures. Jordan Peterson, a best-selling author and professor of psychology, says Price’s law suggests that as a company grows, the incompetence grows exponentially and competence grows linearly. It means that if a company has 10 people, three people (30%) are doing half the work, and at a 100-person company, 10% of people are doing half the work. By the time we get to a corporation with 10,000 people, we have 100 people, or only 1%, doing half the work.
That makes growth a mixed blessing. The profit growth is a blessing, while the back-office disconnect is a curse.
Take the independent broker-dealer industry. Our firm, Henschen & Associates, works as a recruiter for several midsize B-Ds. These firms want to work with high-production financial advisor reps who are seeking a relationship with staff and management but, more important, a high service level. For that reason, the firms have no intention of growing large, and they have capped their growth to prevent losing the culture and service they have cultivated.
Now let’s turn to another rule, one Malcolm Gladwell talks about in his book The Tipping Point. It’s called the “Rule of 150,” and it expands on the problems companies face when they have too many employees. The rule says that the size of any group of people is a subtle contextual factor that can make a big difference in that group’s behavior. Gladwell tells the story of W.L. Gore & Associates, the maker of Gore-Tex fabric, Glide dental floss and more than 1,000 other products. Gore’s late founder, Bill Gore, told a reporter, “We found again and again that things get clumsy at 150, so 150 employees per plant became our goal.” The company made a plan to put only 150 parking places in the parking lot at one of its locations, and whenever employees started parking on the grass, the company knew it would be time to build a new plant.
Gore manufactures products. But how do these concepts relate to service companies like broker-dealers?
Consider a broker-dealer’s two primary functions: supervision and business processing. Our firm has been observing and hearing feedback from advisors at B-Ds for years, and we’ve made two important observations:
1. As firms grow to more than 3,000 advisors, they are less able to properly track and monitor advisors for compliance. This is why the bigger firms face more frequent litigation involving larger amounts. The Financial Industry Regulatory Authority has no issue with this because it knows larger broker-dealers can afford to pay its fines.
2. When firms have more than 3,000 advisors, they will likely have 500 back-office employees (using a six-to-one ratio of advisors to staff). At that size, the firm’s ability to service advisors and process business becomes more difficult. That’s when we see more advisors prompted to switch broker-dealers entirely, pushed out by the deterioration in service, relationships, commissions and business processing as well as a compliance effort that caters to the lowest common denominator.
Again, Price’s law suggests that an increasingly smaller percentage of employees will be doing most of the work at these large companies, and as the employee pool expands, we also have the rule of 150 to “make things wonky,” as the Brits would say. Price’s rule also suggests that companies must know who its “square rooters” are, because in difficult times those people are more likely to jump ship first (they know their worth in the marketplace, after all). Yet, as companies grow, it becomes increasingly difficult to identify that handful of people the company’s survival may depend on.
Large firms also rely increasingly on layers of management, while the upper management at a smaller firm is still working in close contact with the people they are overseeing in their day-to-day activity.
As broker-dealers grow (and incompetency grows exponentially), patterns develop, and our firm has tried to identify some of them. For instance, there’s a relationship disconnect between advisors and staff or management.