Kicking up Dust: Growth as an Irrational Market Response Troy A. Voelker University of Houston, Clear Lake • Houston, TX Abstract This paper introduces the concept of irrational growth, defined as a growth strategy that cannot (or will not) succeed in generating economic profits. Growth is a frequently utilized performance indicator, yet examining strategy research, the rela- tionship between growth and economic profits is complex. A theoretical foundation based on institutional theory suggests that growth is adopted regardless oflikelihood of positive economic outcomes. Propositions for testing an institutional bias towards growth are developed and research directions are suggested. Introduction Researchers recognize that firm performance is a complex multidimensional measure (Baum & Wally, 2003). In the process of understanding performance, re- searchers often use recognized performance indicators (Combs, Crook, & Shook, 2005; Farjoun, 2002; A. D. Meyer, 1991; Venkatraman & Ramanujam, 1986). Two frequently examined performance indicators include economic profitability and firm growth. While the pursuit of growth and profitability differ, an assumption of bus i- ness literature states that growth ultimately, or perhaps eventually, creates profitabil- ity. For instance, in a prescriptive study examining competition in the new millen- nium, business practitioners are advised to grow to succeed in globally competitive markets (Ireland & Hitt, 2005). Without challenging the prescription of 'grow to succeed,' we know that growth sometimes leads to excess. We need look no further than recent activity in the housing and financial sectors to observe growth fueled exuberance leading to ruin. Such episodes appear rather predictably in our mar- kets - the most recent bubble will not be the last just as it was not the first. Given this, why do we unequivocally treat growth as a positive measure of performance? Why do our sophisticated markets and talented business leaders create and recreate growth fueled bubbles which inevitably burst? The question posed examines a potential paradox within extant business lit- erature (Poole & Van de Ven, 1989). Knowing that some firms grow to excess, why do we explore growth as a positive performance indicator? Should we not rather ask which conditions enable growth to lead to success and under which might growth 2 Journal of Business Strategies lead to excess? While some exploration of a growth/performance paradox occurs in diversification and agency studies (10 & Kim, 2008; O'Brien & David, 2010; Sun & Cahan, 2009); in general business research treats growth as a desirable, positive performance outcome. Indeed, sales growth or some other growth measure often appears side by side with economic profitability in examination offirm performance (Combs et aI., 2005). We know that growth itself is multi-dimensional and that, within one dimension of growth (e.g. sales growth), different and contradictory re- lationships between growth and other organizational measures manifest depending on how (and for how long) growth is measured (Weinzimmer, Nystrom, & Freeman, 1998). Accepting that growth, profitability, market performance, and survival are all routinely deployed performance measures (Combs et aI., 2005), one would ex- pect a significant positive relationship to exist between growth and profit indicators. As shall be demonstrated in the following section though, the relationship between growth and profitability is, at best, complicated. If the relationship between growth and profitability is not clear cut, research could generate a substantial contribution by embracing the complexity and variety of firm performance indicators (Venkatra- man & Ramanujam, 1986). Rather than simultaneously using growth and profitabil- ity as separate but desirable goals, research should examine the conditions through which growth leads to profitability (Combs et aI., 2005; Weinzimmer et aI., 1998). It is incorrect to suggest that growth is an inappropriate performance mea- sure. Indeed, a sound theoretical foundation in resource dependency (Pfeffer & Salancik, 2003) and industry impact (Dess, Ireland, & Hitt, 1990) each demonstrate distinct paths between growth and profitability. However, in addition to these paths, there likely exist a number of alternates by which the growth agenda never reaches profitability, or worse wherein the growth agenda precludes profitability. In the fol- lowing sections, an argument will be advanced and developed that growth itself may at times represent an irrational environmental response. I argue that, our market em- phasis on growth and even our own research use of growth as a positive performance metric may hinder our ability to diagnose healthy growth from unhealthy growth. Worse yet, it is likely that our market infatuation with growth obstructs routine at- tempts to separate healthy and unhealthy market growth. Specifically, the purpose of this paper is to identify the obfuscating mechanisms preventing practitioners and academics from diagnosing irrational growth. Using an institutional theory perspec- tive (J. W. Meyer & Rowan, 1977), several such mechanisms shall be identified along with possible research directions. It is the intent and hope of the author that such a contribution might stimulate more frequent investigation into the relationship between two commonly used performance measures (Kimberly, 1976). Volume 28, Number 1 3 Growth and Profitability Valid reasons for advocating firm's pursuit of growth strategies abound in the literature, but a comprehensive review of rational growth strategies is beyond the scope of this paper. However, a brief review of rational growth strategies is useful in both demonstrating the value of growth and creating the foundation for an institu- tionalized growth agenda developed later. The first of the two growth paths consists of growth as a means to an end, via resource control. The second path examines growth as an indicator of relative performance. The third path explores the legitimiz- ing value of sales growth for nascent firms. Resources, Power; and Market Control From a resource control standpoint, growth emerges as a critical means to a profitability ends objective. Essentially, growth in this format provides one of two different benefits. First, through growth firms may acquire enough power to exert influence over their markets (Pfeffer & Salancik, 2003). The second positive out- come from growth involves the ability to achieve economies of scale. These growth outcomes are not mutually exclusive and often operate concurrently. The field of industrial organization (10) economics has long suggested size and growth strategies generate positive profitability outcomes for firms. Signifi- cantly large firms are generally more powerful vis-a-vis smaller suppliers and pur- chasers and can thus exert greater influence over the five forces than can smaller competitors (Porter, 1979). Further, within a given industry firms of similar size and disposition which are able to successfully enact barriers enjoy super-normal profits while simultaneously barricading themselves from incursion of smaller competitors or outside entrants (Porter, 1980). Empirical evidence suggests that such strategies are effective, although such barriers may backfire and prevent the once dominant firm from moving to a better fitting position during periods of technology transition (Siggelkow, 2001). While growth and market share are not identical, they are overlapping con- cepts (Venkatraman & Ramanujam, 1986). From the resource dependence perspec- tive, firm growth is a means to an endgame objective of profitability via market dominance. Growth eventually leads to a size benefit (Derfus, Maggitti, Grimm, & Smith, 2008) which may entail economies of scale, a superior portfolio of resources, or power achieved via resource dominance. In all cases, the growth strategy is one to position the firm for superior performance in some latter stage. 4 Journal of Business Strategies Firm Growth Given Industry and Environmental Effects Where growth is a means to achieving profitability under a resource control perspective, growth represents an important indicator of a firm's relative performance given specific industry conditions. It is recognized that industry profitability and envi- ronmental conditions such as munificence playa major role in the growth and profit- ability of firms and researchers are strongly advised to control for such effects in their studies (Dess et aI., 1990). As an example, high-growth industries experience greater divergence in firm-growth rates and firms who identify markets with fewer direct competitors are often able to grow faster than competitors in more saturated markets (Greve, 2008). Additionally, firms who traditionally grow faster than the industry av- erage often retain their relative high-growth status (Hall & Tochterman, 2008). Taken together, the ratio offirm sales growth to industry sales growth likely provides a mean- ingful distinction between growth and value firms. Greve (2008) cautions though, that firms who are economically troubled often evidence rapid sales growth rates. We can assume that a firm's growth relative to its industry possibly reflects the firm's advantageous positioning and strategic orientation towards growth. In this case, firm growth is a solid candidate for performance indicators in single-industry studies or when controlled or compared against industry and environmental condi- tions. These recent findings echo the position advanced by Dess, Ireland and Hitt (1990), yet many multi-industry studies continue to use firm growth as a stand-alone indicator (Combs et aI., 2005). Growth and Nascent Firms A third path exists for which growth represents a commonly used performance metric. Specifically, in the evaluation of start-ups, the development of sales growth represents one performance indicator used by investors (Heirman & Clarysse, 2005). Start-up firms face a higher mortality rate than established firms, often lack financial performance metrics comparable to established firms, and generally require evalu- ation of potential rather than performance (Singh, Tucker, & House, 1986). For the start-up firm, presence of legitimizing factors help overcome the liability of newness (Certo, 2003). In this area of study revenue growth is treated as a sign of legitimacy alongside prestigious firm connections, mature board structures, and other character- istics more common of established firms (Certo, 2003; Heirman & Clarysse, 2005; Singh et aI., 1986). That sales growth functions as a legitimizing factor suggests an institutionalization of growth, given ambiguity nascent firms evidencing growth conform to a market norm. Volume 28, Number 1 5 The Growth-Profitability Conundrum In the preceding section, growth manifests as a means to future profitability and as a corresponding outcome given industry and environmental conditions. This was not an exhaustive listing of the reasons or paths linking growth and profitability. Instead, these positions illustrate that growth and profitability are rationally linked concepts within the literature. Recognizing that there exist numerous paths to ra- tionally link growth and profitability, one might expect a clear positive relationship between growth and profitability in business research. Unfortunately, a sampling of business research suggests that the relationship between growth and profitability is anything but clear-cut. Table 1 depicts the re- sults of thirty-two studies which included measures for some aspect of size/growth and some aspect of profitability. In each case, the Pearson correlation between the growth or size measure and the profitability measure appears. The correlations range from slightly negative to moderately positive. In many ofthe studies, the correlation between growth and profitability is nearly zero. One observation is that the approaches used to measure performance vary greatly. While many studies use standard financial ratios like return on assets for profit indicators, others use differing techniques. That such variance in measures exists is recognized in the strategy literature with prior studies examining various dimensions (Venkatraman & Ramanujam, 1986) and approaches to investigate (Far- joun, 2002) performance or effectiveness (Steers, 1975). Indeed, in a comprehen- sive review of performance measures, Combs and colleagues (2005) determine that growth is one of four distinct dimensions of organizational performance alongside profitability, market returns, and survival. To that end this paper continues the estab- lished tradition of strategic management introspection on our use, focus and applica- tion of certain firm measures (Oess et aI., 1990). Interestingly with the size/growth measures, one-year, three-year, five-year, and cross-sectional size measures manifest (although size typically functions as a control not a performance indicator). Thus, some of the complexity in resolving the growth-profitability conundrum involves determination of appropriate measure- ment metrics (see Weinzimmer et. al (1998) for a discussion of ramifications for varying measurements of growth dimensions). The use of size as a control raises an interesting and perplexing observation. Given that the relationship between size is inconsequential (Gerhart & Milkovich, 1990) and even negative (Balkin, Markman, & Gomez-Mejia, 2000), one wonders why an indicator of increasing size (growth) would be a valid and useful performance variable? Table 1 O'l Sample of Growth/Size vs. Priofitability Measures Performance Authors Year Journal Sample Growth Measure Correlation Measure Notes Pearce et al 1987 SMJ 42 Subjective .54 ROA Self Report Slater and Olson 2000 SMJ 278 Self report .49 Market Self Report Garg et al 2003 SMJ 105 Self report .46 ROA Self Report Russo and Fouts 1997 AMJ 486 1-year sales .45 ROA Sarkar et al 2001 SMJ 70 Self report .43 ROA Industry Centered Lumpkin and Dess 1995 AMJ 32 Self report .36 ROI Cronin and Page 1988 EJOM 101 2-year sales index .33 ROA 1-lndustry Crossland and Hambrick 2007 SMJ 1464 1-year sales growth .30 ROA U.S. Firms Brown and Perry 1994 AMJ 234 3-year sales .29 ROA Fortunes "Most Admired" Brush et al 2000 SMJ 3320 1-year growth .25 ROA ~ Balkin et al 2000 SMJ 74 1-year sales .23 ROA ~ "": ;:: Geringer et al 2000 SMJ 324 10-year .22 ROA Japan ;:. - Finkelstein and Boyd 1998 AMJ 600 5 -year std sales .2 ROA ~ ~ Crossland and Hambrick 2007 SMJ 1464 1-year sales growth .19 ROA German Firms ~ '" -. ;:: Crossland and Hambrick 2007 SMJ 1464 1-year sales growth .18 ROA Japanese Firms "' '" '" Hambrick and Cannella 2004 SMJ 3168 1 year sales growth .17 ROA V':l ..... "": Gedajlovic and Shapiro 2002 AMJ 334 5-year sales .17 ROA Japan ;:. ..... ~ Derfus, Maggitti, Grimm and Smith 2008 AMJ 281 1-year sales .15 ROA 11-industries -. "' '" Table 1 ~ Sample of Growth/Size vs. Priofitability Measures cont'd. -;: ~ .,. Performance tv 00 Authors Year Journal Sample Growth Measure Correlation Measure Notes - ~ Baum and Walley 2003 SMJ 318 4-year growth .13 ROA Self Report ~ ~ Rajagopalan and Datta 1996 AMJ 410 4-year sales .13 Composite .,. ~ ...... Love and Nohria 2005 SMJ 100 1-year reduced slack .1 ROA Peng 2004 SMJ 1211 1-year growth .09 ROE China Jensen and Zajac 2004 SMJ 1329 Acquisition activity per year .06 ROA Hambrick and Cannella 2004 SMJ 3168 1 year acquisition .05 ROA Liao 2005 CompRev 107 Reduction of Force .05 ROA Richard and Shelor 2002 IJoHRM 4774 1-year sales -.01 ROA Gerhart and Milkovich 1990 AMJ 70,684 1 year sales -.05 ROA Coombs and Gilley 2005 SMJ 406 1-year sales -.06 ROA Nixon et al 2004 SMJ 364 Sales per employee -.06 Market Durand and Vargas 2003 SMJ 162 2-year growth -.09 Composite DEA Efficiency Nixon et al 2004 SMJ 364 Reduction of Force -.1 Market Robinson and McDougal 2001 SMJ 115 3-year average -.13 ROS Arthaud-Day, Certo, Dalton and Dalton 2006 AMJ 485 1-year Sales growth -.15 ROA Restated Financials 1998-1999 Balkin et al 2000 AMJ 90 1-year sales -.17 ROA '" 8 Journal of Business Strategies Additionally, there is a valid long-standing question as to what constitutes an appropriate measure of growth or size (Kimberly, 1976). The majority of the studies sampled appear to emphasize size as a function of sales, although some exceptions exist. Growth is often a focus on change in sales, although the relevant time dimen- sion varies from I-year to larger increments. What is important though is a consis- tent utilization of size (typically via sales) and growth (typically via change in sales) as a resource control proxy or performance indicator respectively. As strategists, we generally eschew use of raw financial numbers favoring ratios stated in reference to some other format. Yet in research practice most of the studies sampled utilize raw metrics - some exceptions clearly exist, Nixon et al. (2004) use a productivity mea- sure of sales per employee rather than a static single indicator. The sample presented here produces remarkably similar findings to other more complex studies of growth measures (Weinzimmer et aI., 1998). Studies continue to use one-year or raw metrics over more complex growth measures (e.g. Weinzimmer et. al (1998) recommend a growth slope measure), which is perplexing given evidence that different methods of measuring sales growth produce different and sometimes contradictory linkages to other commonly used organizational measures. The emphasis on sales as an indicator of size or increased sales as an indicator of performance should be confusing. Using sales, is a firm with greater sales larger or more productive than their competition? The single indicator sales may not ad- equately answer that question without comparison of other relevant measures such as the firm's assets or industry growth (Dess et aI., 1990). Tackling sales growth as an indicator of performance is equally confusing. If a firm experiences sales growth, has it increased productivity of its assets or perhaps shifted its business model from a volume driven to margin driven model (or vice versa)? Does the resulting change imply improvements to the profitability of the firm or merely change the relative importance of margin/volume as ROA performance drivers - a function ascertained through Du Pont analysis (Bums, Sale, & Stephan, 2008). In practice we apply a number of ratios in examination of firms, as educators we mandate their use, as theorists we argue for complex and multidimensional investigation of performance (Dess et aI., 1990; Venkatraman & Ramanujam, 1986), yet in research we often utilize raw figures of sales as proxies for size and performance. This is, in part, the critique offered by Combs et al (2005) when they call for multiple measures for single constructs (such as growth), more complex mediating models examining antecedents of performance, along with a challenge researchers to "build a body of knowledge around each dimension," (p. 281) of organizational performance. Given the heightened sophistication of statistical modeling techniques available today, is Volume 28, Number 1 9 our predilection towards raw numbers for sales and sales growth an indicator of an institutional bias towards sales growth? Changing focus towards the correlations evidenced in the research, there are several patterns. First, several of the strongest positive correlations between growth and profitability occur in studies using one or more self-reported measures. This suggests that senior executives believe a relationship exists between growth and profitability, a point which I address later in this paper. When asked to evaluate their growth or profitability, executives consistently link these concepts together in their survey responses. The implication here is that an implicit theory of the growth/prof- itability linkage exists in corporate management. That this belief is both widely held is evidenced by the self-reporting studies, but not clearly linked in archival studies of accounting or market performance, offers strong evidence of an institutionalized growth agenda in management. I return to this argument in this paper's first two propositions. Second, the next group of strongest positive correlations appear in samples which restricted access along some specific parameter such as appearance on a most admired company list (Brown & Perry, 1994), restriction to a single industry (Cro- nin & Page, 1988), or restriction to Japanese firms (Gedajlovic & Shapiro, 2002; Geringer, Tallman, & Olsen, 2000). Third, the wildest fluctuation in correlations appear in studies using a one-year growth measure, in these studies the correlation ranges from quite positive (Russo & Fouts, 1997) to moderately negative (Balkin et al.,2000). Perhaps the most intriguing observation to emerge from this sample of studies is something which does not appear in Table I. While all of the studies used some measure of sales, growth, or size alongside economic performance only two of the listed studies theorized on the relationship between the two, and one only in passing. Baum and Walley (2003) initially intended to use a single construct of 'firm perfor- mance' which would have consisted of financial reporting measures for sales growth and economic profits. In their description of their dependent variables, they note that the factor analysis for the intended scale failed to solidify to a single dimension. This resulted in the decision to use separate dependent variable measures for growth and profitability. In the other situation, the relationship between growth and profitability was the specific motivation for the study (Brush, Bromiley, & Hendrickx, 2000). Tak- ing an agency theory perspective, Brush et al. theorized that slack resources might explain the difference between rational (i.e. profitable) growth and growth without profit (or worse, growth resulting in economic losses). Brush et al demonstrated that 10 Journal of Business Strategies when growth occurred without free cash flow, profitability ensued. For firms with free cash flow, growth resulted in little more than 'kicking up dust.' That is, growth for firms with free cash flow seemingly consists of managerial action to justify use of the slack resources even though the actions themselves are valueless (or worse erode value) for shareholders. In the latter case, the growing firms wound up worse off than their pre-growth condition. These findings provide evidence for the existence of irrational growth, providing suboptimal economic benefits to the shareholders. The simple table of studies presented here mirrors the results of a more com- plex meta-analysis on organizational growth developed by Combs et al. (2005). They find a significant, albeit modest, positive correlation between sales growth and accounting measures of profitability. They also note a stronger significant, posi- tive correlation between sales growth and subjective measures of firm performance. Additionally, they find a similarly strong positive correlation between subjective measures of firm performance and accounting based profitability measures. Combs and colleagues (2005) conclude that sales growth and accounting profitability each distinctly signal positive performance to heads of firms. The table presented in this study then, echoes their more deliberate investigation of performance measure- ment - growth in sales "feels" like positive performance to practicing managers. However, given the far weaker (albeit positive) relationship between sales growth and accounting profitability, there is clearly non-overlapping domain space wherein sales growth diverges from profitability. Combs and colleagues (2005) challenge researchers to examine the boundaries of performance measures, in this study an institutional framework is offered as an explanation of why those boundaries (for sales growth) have yet to be explored. Irrational growth is an understudied phenomenon in the literature. The re- mainder of this paper examines the institutionalized positive disposItion towards growth, provides a discussion of some of the possible causal agents for irrational • growth, and includes a series of propositions for studying institutional biases to- wards irrational growth. Growth strategies should not be abandoned, but study of both rational and irrational growth is needed. The institutionalization of growth ob- fuscates examination and identification of the pathways towards irrational growth. Exploration of the mani festations of an institutionalized growth agenda should pro- duce a more comprehensive series of prescriptions from the strategy and organiza- tional theory literature. Volume 28, Number 1 11 The Institutionalization of Growth One of the primary reasons for the existence of the firm is to create wealth for the ownership of the firm. This position is most strongly advocated amongst shareholder theorists (Aupperle, Carroll, & Hatfield, 1985) who, taken to an ex- treme, argue that creation of shareholder wealth is the sine quo non of the firm (Friedman, 1970). An alternate explanation is offered by stakeholder theorists (Pra- halad & Hamel, 1994) who argue that the firm exists to balance the needs of myriad diverse stakeholders, of whom the shareholder represents only one interested party. While these positions are often argued in opposition, evidence suggests that a suc- cessful stakeholder focused strategy generates economic profits, thereby satisfying both shareholder and stakeholder theorists (Waddock & Graves, 1997). Under each theory, the firm is accepted as profit seeking. While differing from classical eco- nomic expectations of profit maximization Nelson and Winter (1982) argue that, under conditions of uncertainty and bounded rationality in evolutionary economic systems, profit seeking represents the ultimate objective of the firm. It is from this position that the boundaries for rational and irrational growth emerge. The easier of the two to define, rational growth exists when the growth agenda of the firm successfully leads to the generation of long-term profits. Irratio- nal growth, by contrast, involves situations where the growth agenda either will not, or cannot, result in the generation of profits. At the risk of diverting the reader into theories of fraud and malfeasance, Enron reported substantial revenue growth for consecutive years up to its eventual bankruptcy. Fraudulent reporting of growth is an overly simplistic example of irrational sales growth. It bears mention because of the reason the fraudulent depictions of sales growth continued for years at Enron. Within our market system, growth is a sign of organizational health or a return to organizational health. Such extreme deception as that exposed for Enron and similar organizations provides some indica- tion of just how deeply our institutions trust growth as a performance indicator. Indeed a significant negative correlation exists between firm sales growth and return on assets for firms issuing restatements of their financial data (Arthaud- Day, Certo, Dalton, & Dalton, 2006). While Arthaud-Day and colleagues (2006) specifically focus on years prior to the Enron scandal, their study evidences a linkage between sales-growth projections and problematic firms. A similar finding in Greve (2008) notes that high sales growth is a characteristic of economically troubled firms. When firms face economic troubles, they appear to emphasize sales growth which may simply grow - but not fix - their problems. 12 Journal of Business Strategies Beyond the obvious cases of irrational growth via fraudulent reporting, there also likely exist a number of firms engaged in growth patterns for which profit is simply unreasonable. It is not the intent of this author to opine on exactly where the boundaries between rational and irrational growth specifically lie. Rather, it is the intent to argue that such a line exists and that existing theory may help uncover both the general locations for such boundaries as well as the institutionalized sources leading to selection of irrational growth strategies. Institutional Theory Institutional theory examines how society imbues meanings upon the struc- tures and processes of an enacted social environment beyond their objective func- tions. Institutionalization, alternately, represents the process by which individual actors come to accept shared meanings of society (Scott, 1987). Growth, via so- cioeconomic expansion, has been an institutionalized social objective emerging as a response to changing cultural values following World War II (Schofer & Meyer, 2005). Shofer and Meyer (2005) observe that these changes included increased edu- cational system utilization, increased prominence of scientific institutions, increased democratization, and increased world polity. Growth objectives have been explained as a function of the agency-owner interaction designed to avoid the trap of low firm performance (M. W. Meyer & Zucker, 1989). If growth has been institutionalized, institutional theory posits that growth will become part of the rationalized society and organizations which enact policies and procedures aligned with these institu- tionalized values will be rewarded and legitimized (J. W. Meyer & Rowan, 1977). For much of its history, institutional theory has focused on the emergence and use of structures within a society (Tolbert & Zucker, 1996), however its original conception also incorporated the institutionalization of processes (J. W. Meyer & Rowan, 1977). From an institutionalized perspective the processes, procedures, and strategies considered appropriate become institutionalized and firms which conform to these prescriptions are generally recognized as more legitimate than non-con- formers (Oeephouse, 1996). Effectiveness is a necessary, but not sufficient prerequi- site for institutionalization. Indeed, for rationalization to occur it only requires that effectiveness can be demonstrated in some discreet set of circumstances (Tolbert & Zucker, 1996). Growth is not inherently irrational, but some firms pursue growth for irratio- nal reasons. Indeed, there are certainly examples which link growth and profitability and the preceding sections of this paper advance theory-driven explanations of a Volume 28, Number 1 13 positive relationship between growth and profitability. This meets apreconditionfor the institutionalization of growth; growth is rational, viable, and desirable in certain circumstances. Institutional theory explains why rational, effective growth once in- stitutionalized leads to the adoption of growth strategies for irrational reasons. A number of explanations describe why firms comply with institutionalized expectations. Recognizing that ideas gain legitimacy because they are perceived to be effective (1. W. Meyer & Rowan, 1977) and demonstrate effectiveness in some settings (Tolbert & Zucker, 1996), organizations are legitimized for conforming to institutionalized behaviors. From a growth perspective, this is to say that firms evi- dencing growth will be viewed as valued, proper, and behaving in a rational man- ner (1. W. Meyer & Rowan, 1977). This suggests, in part, that firms might enact an irrational growth strategy simply because growth is recognized as rational and, therefore, the firm and its managers are rewarded for pursuing a valued behavior (Scott, 1987). Alternately, uncertainty influences the salience of institutionalized behaviors. DiMaggio and Powell (1983) observe that "when goals are ambiguous, or when environment creates symbolic uncertainty, organizations may model them- selves on other organizations" (pg. 151). Certainly, in complex, dynamic business environments goals and outcomes become abstract and uncertain. In such settings the economizing firm might simply choose to imitate strategies of fellow compa- nies rather than investigate alternative options (Nelson & Winter, 1982; Tolbert & Zucker, 1996). While institutionalization suggests that coercive (pressure by legitimiz- ing institutions), mimetic (voluntary adoptions of perceived effective practices), and normative (professionalization) isomorphic processes influence homogeneity (Scott, 1987), this does not suggest that conformity itself is rational from an effi- ciency standpoint. Because of bounded rationality (March & Simon, 1958; Roberts & Greenwood, 1997), firms are at best efficiency seeking as opposed to efficiency maximizing (Nelson & Winter, 1982; Roberts & Greenwood, 1997). The strategies which are rationally efficient for some firms may not be rational for all firms; none- theless legitimacy ensures adoption (Tolbert & Zucker, 1996). Because isomorphic firms are legitimized and rewarded by the environment (Deephouse, 1996), firm sur- vival itself relies on factors other than efficient coordination and control of resources (J. W. Meyer & Rowan, 1977). This view differs substantially from traditional theories of competition which suggest that market forces weed out inferior competitors (Barney & Hesterly, 1996). Under an institutional perspective, isomorphic firms may survive despite inferior eco- nomic performance, resulting in permanently failing firms (M. W. Meyer & Zucker, 14 Journal of Business Strategies 1989). Undermining confidence in the market as an efficient corrective mechanism, it is suggested that markets are only effective at selection during the earliest years of an industry (DiMaggio & Powell, 1983). In later stages, social connections to influential parties and other factors enable otherwise ineffective firms to persist. In such cases, the market may not correct inefficiency for prolonged periods of time. The preceding paragraphs advance institutional theory as an explanation for the blanket acceptance of sales growth as a valid indicator of performance. The ar- gument also demonstrates that economically rational efficiency is not a prerequisite for legitimacy under an institutional framework. Having established this, I tum to more detailed examination of the processes and mechanisms through which an in- stitutionalized growth agenda manifests and reifies business practice. This examina- tion focuses on ramifications for managers, markets, and academics with appropriate propositions emerging for each. Managerial Outcomes As previously indicated, some studies have investigated growth strategies as an irrational outcome. Particularly Brush et al (2000) use an agency theory perspec- tive arguing that conflict between the goals of the agent and goals of the owner lead to selection of irrational growth strategies. The agency perspective appears as a routine explanation in studies conducted by finance and accounting scholars (10 & Kim, 2008; O'Brien & David, 2010; Sun & Cahan, 2009). While recognizing that agency explanations offer important insight into managerial behavior, it is also quite possible that managers acting in ambiguous situations make decisions apparently rational because of mimetic isomorphism. In this paper, the institutional perspective emerges as an alternative, or per- haps parallel, explanation. Under an institutional perspective, managers may elect growth for efficient reasons. However, irrational growth, under an institutional perspective may be chosen for legitimacy, normative pressure, or reward reasons (Corcoran & Shackman, 2007; Heugens & Lander, 2009). In essence, under the institutional perspective, the agent-manager may elect irrational growth because it is perceived as the correct course of action and not necessarily to maximize agent benefits at owner costs (Brush et aI., 2000). Two institutional arguments for manage- rial actions are advanced, both of which stem from the assumption that managers perceive an expectation to generate economic profits. First, the manager perceives an expectation to generate economic profits but is uncertain of exactly how to achieve this outcome. Lacking certainty in attain- Volume 28, Number 1 15 ing the objective and facing increasingly complex competitive environments replete with heightened ambiguity and dynamism, managers face extreme difficulty in link- ing potential strategies to economically profitable outcomes. Particularly when the managed firm may not conform to the profitability-norm, the uncertain manager often relies on common industry recipes (McDonald & Westphal, 2003). One such recipe is the growth strategy. Through growth the firm signals its intention for profitability since there are examples of firms (1. W. Meyer & Rowan, 1977) where rational growth generates profitability. Because the institutional envi- ronment (in this case the business segment) perceives the growth signal as an intent to comply with the profitability norm, the institutional environment rewards iso- morphism signaling behavior even where rational profit efficiency fails to manifest. Under this assumption, the manager complies with the isomorphic growth agenda because the reward system signals the manager that the growth agenda is sanctioned and considered proper and adequate (1. W. Meyer & Rowan, 1977). This suggests that: Proposition I: Managers conforming to the isomorphic growth agenda will be compensated commensurably regardless of degree of economic profitability While the afore-mentioned situation applies to managers of firms below in- dustry-leading profitability standards, a more profound situation confronts managers of unprofitable firms. In this second case, rather than facing difference by degree of isomorphism, the manager faces complete non-compliance with the profit-norm. This sends signals to the business sector and owners of the deviancy of the manager from the role specific expectations which results in general downgrading of percep- tion of the manager and firm (Oeephouse, 1996). Faced with the inconsistency of their performance vis-a-vis institutional ex- pectations, the manager must confront and address this dissonance. In this case, the manager is likely to indicate their intent to conform to the institutional expectation via reform (1. W. Meyer & Rowan, 1977). As the firm is already out of compliance with the profit-norm and lacking certainty of outcomes from selected strategies, the agent-manager is likely to signal their intent for compliance via isomorphism with institutionally recognized prescriptions, in this case the growth agenda. One of the common ways an actor conveys intent to reform is through rhetoric (Sillince, 2005). In this case, one might expect public statements and documents to contain rhetoric which signals intent to comply with the growth agenda. Common forums for such signaling activity include letters to shareholders, press releases, and interviews with 16 Journal of Business Strategies news media. Both the frequency and language utilized in such activities will signal intent for future isomorphism. Therefore: Proposition 2: Managers of unprofitable firms will utilize reform rheto- ric replete with isomorphic growth language more frequently than will managers of rationally efficient firms. Market Outcomes In this section, attention turns towards the market as an enforcement mecha- nism. A fundamental assumption of classical economics is that markets are at least semi-strong efficient (Barney & Hesterly, 1996), that is to say that markets do a relatively effective job at discriminating between effectiveness and ineffective- ness. Institutional theorists question this assumption, noting that an aggregation of boundedly rational, satisficing individuals is unlikely to add up to a rational effective market (DiMaggio & Powell, 1983). Rather, markets reward isomorphic tendencies which may, or may not, reflect efficiency. The firm is thus rewarded for social com- pliance as much as for efficient and effective means of production (J. W. Meyer & Rowan, 1977). Several institutional theorists directly address issues of market effectiveness in the face of institutional pressures. DiMaggio and Powell (1983) argue that the se- lection processes in markets work best in nascent markets or during the earliest years of a markets existence. Meyer and Rowan (1977) argue that markets are normally efficient where output is easily measurable and they theorize that all organizations exist on a continuum anchored by measurability and ambiguity of performance out- comes. However, they caution "it is important not to assume that an organization's location on this continuum is based on the inherent technical properties of its out- put" (pg. 354). The position asserts that complexity, dynamism, and ambiguity may cause even a relatively 'objective' measure such as sales and profitability to become complex and difficult enough to require trust and confidence in the adherence to institutionally prescribed roles and behaviors. Because of this, markets themselves may become ineffective in weeding out inefficient firms. Additional evidence suggests that markets are, at best, weak mechanisms for controlling inefficiency. Specifically, the era of corporate conglomerates in the United States represents a prolonged model of corporate inefficiency which required decades to correct (Davis, Diekmann, & Tinsley, 1994). For a number of years fol- lowing World War II, U.S. firms engaged in a pattern of unrelated acquisition lead- ing to highly diversified conglomerates. This strategic approach was embraced at Volume 28, Number 1 17 virtually all levels of business with a number of prominent models for managing the firm-as-portfolio developed (Hofer & Schendel, 1979). Davies et al (1994) note that by 1980 only 25% of all Fortune 500 firms operated in a single SIC industry while over 50% operated in three or more. This trend in unrelated diversification continued unabated in the face of mounting evidence that such practices generated sub-optimal economic profits (Amihud & Lev, 1981; Bettis, 1981; Rumelt, 1982). A unique industry emerged in the late 80's which specialized in buying, split- ting, and selling off diversified firms (Davis et aI., 1994). Even as this correction be- gan, corporations continued unrelated diversification strategies (Davis et al., 1994) and institutions continued to argue the legitimacy of conglomeration in some form or fashion (Hill, Hitt, & Hoskisson, 1992; Prahalad & Bettis, 1986; Ramanujam & Varadarajan, 1989). Ultimately by 1990, most of the conglomerate mania had sub- sided and the majority of Fortune 500 firms operated in one or two SIC codes (Da- vis et aI., 1994). This episode of irrational growth persisted for well over 3D-years, providing an example of market inability to control irrational, institutionalized prac- tices. While the current market has learned the lessons of conglomerate growth, markets, regulating agencies and public perception still reward isomorphism (Deep- house, 1996). These rewards include legitimacy which can lead to increased access to and reduced costs for resources (1. W. Meyer & Rowan, 1977). As was argued with managers, markets are ill equipped to determine ex ante which strategies and firms will prosper. Thus, markets will reward institutionally compliant strategies and signaling activities. These rewards persist regardless of whether economic prof- its emerge as the outcome of institutionally prescribed strategies. This argument is consistent with the position of Hall and Tochterman (2008) who argue that investors are likely to overstate future values for growth firms, thus leading to inappropriate market pricing. To the extent that growth strategies are an isomorphic legitimate activity markets will consider growing firms as signaling compliance with profit- norms whether or not those firms actually generate requisite profits. Thus, I expect: Proposition 3: Firms whose growth patterns fail to achieve profit- ability standards will receive similar market rewards as firms whose growth patterns lead to profitability. Proposition 4: Market analysts will classifY less profitable firms simi- larly to profitable firms to the extent that each firm manifests similar growth rates. 18 Journal of Business Strategies Academic Outcomes Institutional theorists argue that education and academia play an important role in the maintenance and propagation of institutional prescriptions. The edu- cation system performs an important role in the sedimentation of prescriptions. Educational systems provide crucial means by which institutional prescriptions are treated as a given by institutional newcomers (Tolbert & Zucker, 1996). As emerging best practices move to trends through mimetic isomorphism (DiMag- gio & Powell, 1983), professional and educational organizations incorporate these practices into the curricula taught to entering members. In this manner, these pre- scriptions become legitimized through the adoption of the education system (1. W. Meyer & Rowan, 1977). The educational process produces people who tend to view the same things the same way (DiMaggio & Powell, 1983). DiMaggio and Powell (1983) further note Perrow's commentary that educational systems produce a pool of interchangeable people. This is consistent with observation that the old world order has been replaced with a new educated elite order replete with common knowledge derived from common institutional backgrounds (Schofer & Meyer, 2005). Defending the argument that the institutionalization of growth manifests in business education requires evidence supporting the positive evaluation of growth by academics. While a comprehensive examination of growth as an institutionalized academic force is beyond the scope of this paper, a perusal of research suggests that such evidence exists. Schofer and Meyer (2005) argue that a socioeconomic growth agenda forms the foundation of post World War II institutional change. Growth strat- egies receive significant coverage in textbooks, possibly more so than operational strategies. A growth orientation is demanded for competing in the emerging global economy (Ireland & Hitt, 2005). Firms that successfully become market leaders may achieve the distinction of also becoming celebrity firms (Rindova, Pollock, & Hayward, 2006). Mishina, Pollock and Porac (2004) argue that growth is "a perfor- mance variable worth considering" (p. 1179). Firms following an internal or external grand strategy for growth are perceived as better performing than firms following a retrenchment or stability strategy (Pearce, Robbins, & Robinson, 1987). Growth to achieve increased market share is thought to reduce overall risk to the firm (Woo, 1987). Growth is considered as a valid strategy to stave off acquisition (Hanson, 1992). The literature treats growth positively, yet not without caveats. Ireland and Hitt (2005) note the importance of alignment of resources and compatibilities in Volume 28, Number 1 19 fulfilling the growth objective. Market share turns out to not reduce risk in all categories as originally theorized (Woo, 1987) and the stability strategy, while lower in performance, did not differ significantly in self reported performance evaluation (Pearce et a!., 1987). Academics are often among the first to observe the irrational trends in business as noted in the conglomerate episode (Amihud & Lev, 1981; Bettis, 1981; Rumelt, 1982). Thus, the key to the institutional function of growth isn't the universal recommendation of growth, but rather the overall positive glow attached to growth. Because growth receives an overwhelmingly positive treatment within education systems, emerging practitioners confronted with ambiguous and uncertain environments are likely to consistently utilize strat- egies and prescriptions which they have been taught are effective (if only in some circumstances ). DiMaggio and Powell (1983) assert that individuals educated in the same institutional system are likely to perceive things the same way. Financial elites, matriculating from a system which emphasizes portfolio theory, are more likely to pursue unrelated diversification strategies (Jensen & Zajac, 2004). CEO's are likely to mirror the strategies of peers during periods of below-par returns (McDonald & Westphal, 2003). American educated managers are likely to prefer the same ge- neric strategies and their selection heuristic differs notably from Japanese educated counterparts (Song, Calantone, & Di Benedetto, 2002). MBA educated cohorts and business educated elites are more likely to center on contingency-fit criteria than are non-business educated elites or non business educated graduate students (Priem & Rosenstein, 2000). Each of these studies provides some indication that the prevail- ing logic of institutional prescriptions taught in business academics influence the choices of tools and strategies employed by business elites. To the extent that growth is one of the prescriptions receiving positive regard in business curricula, we should expect that business educated individuals will prefer the growth agenda relative to other options. Proposition 5: Business educated students will typically regard the growth strategy as more preferable to other strategies Proposition 6: Business educated students will typically regard grow- ing firms more positively than firms using retrenchment or stability strategies. 20 Journal of Business Strategies Research Directions The preceding sections advance an argument for the existence of irrational growth strategies. This paper offers institutional theory as the explanation for the election of irrational growth strategies and the theory also explains why firms may perceive growth as rational and effective regardless of outcome. Therefore, a re- search agenda should explore business and academic manifestations of institutional- ized growth. The first four propositions argue for the existence of an institutionalized growth prescription within the business sector. Archival research opportunities abound for investigation of these propositions. Proposition I (involving manage- rial compensation) and Proposition 3 (involving market valuation) are each test- able using publicly available financial data. Support for each of these propositions requires evidence that firms and managers enacting growth strategies fare as well with respective indicators regardless of profitability outcomes. Partial support exists iffirms, and managers of firms, matching the growth norm but lacking in the profit- ability norm exceed indicators for firms who match the profitability norm but lack in the isomorphism to the growth norm. Proposition 2 (executive rhetoric) and Proposition 4 (analyst and media evaluations) are each testable using content analysis techniques for published docu- ments and transcripts. Letters to shareholders, media interviews, changes in analyst recommendations, and media portrayal of firms and managers of firms each offer insight into the way the manager interacts with the public as well as the way the busi- ness sector as a whole regards the firm and firm managers. Broad support for these propositions will include evidence indicating that poor performing managers more prominently signal growth strategies. Additionally evidence of strong support exists if analysts and the media react more positively to growth rhetoric and signaling than to other strategic options regardless offirm profitability. Partial support suggests that managers of poor performing firms invoke growth rhetoric at least as often as other reform strategies or if analysts and the media evaluate high growth but low profit- ability firms more preferably than low growth and high profitability firms. The second suggested research direction emerging from this paper is an ex- amination of the institutionalization of growth within education, particularly busi- ness education. Proposition 5 (preferred strategy) and Proposition 6 (organizational evaluation) each suggest that business educated students will more frequently en- dorse growth orientation. Both of these propositions lend themselves to experimen- tal analysis using various groups of students and practitioners (Priem & Rosen- Volume 28, Number 1 21 stein, 2000). Broad support manifests if business educated students routinely prefer growth oriented solutions regardless of economic performance. Partial support sug- gests that students prefer high-growth, low-profitability scenarios over low-growth, high-profitability scenarios. The general depictions of the institutional propositions lend themselves to examination of U.S. educated practitioners. However, promising research options involving analysis of practitioners and students outside the United States also ex- ists. Particularly given findings that Japanese managers utilize a different preference sequencing in regards to strategy selection than do U.S. and European managers (Song et aI., 2002), it is possible that the general perception of growth strategies may differ contextually between cultural groups. Given the general success of foreign firms, such distinctions may shed some light on the boundaries between rational and irrational growth. The final research direction suggested by this paper does not evolve from the propositions as much as from the evidence examined. Table I details a panel of stud- ies each using some measure of growth or size with correlations to a performance measure. Given the data provided and pulling in additional studies, the relationship between growth and performance is fruitful grounds for meta-analysis. This recom- mendation echoes the charge from Combs et al. (2005) to explore the boundaries of performance dimensions. Following the advice of Combs et al. (2005), researchers should explore which combinations of operational performance indicators correspond to firms with rational growth agendas as well as which combinations align with irratio- nal growth agendas. This paper only drcw observational inferences from the table, for example self-reporting evidenced highly positive correlations - even so, the observa- tional inferences presented here are similar to the analysis of performance dimension- ality presented by Combs et al. (2005). It was not the purpose of this paper to deter- mine which types of growth more likely produced profits, but rather to offer an expla- nation for the ready acceptance of growth as a positive function despite theoretical and empirical evidence to the contrary. While the earlier research directions offer insight into studying institutionalized growth, a meta-analysis is a recommended direction for addressing decades old questions regarding the multi-dimensionality (Venkatraman & Ramanujam, 1986) and environmental impacts of performance (Dess et aI., 1990). Discussion This paper has introduced the topic of irrational growth as an area for re- search inquiry. Irrational growth occurs when a growth strategy on the part of a firm 22 Journal of Business Strategies fails to achieve profitability. Using current business research, various measures of growth function as measures of firm performance. We treat growth as a positive out- come despite indications that increased size may decrease profitability and lacking clear-cut indication, that growth regularly translates to profitability. An institutional theory perspective offers the explanation for such favorable treatment of growth in the literature. Institutional theory provides an understanding of why practices and structures which may only be useful in specific instances be- come imbued with meaning and value beyond their objective benefits and become standard prescriptions for valued behavior. Using an institutional theoretical base, several empirically testable propositions have been advanced that would provide evidence of the existence and the extent of an institutional bias in favor of growth. For academics, the primary implication arising from this paper is the extend- ed development of a common research area, firm performance (Steers, 1975; Weinz- immer et aI., 1998). Taking guidance from Poole and Van de Ven (1989), research should examine the paradoxical nature of growth in greater detail. Further, using Kimberly (1976) as a guideline, research may find value in a deeper investigation of a commonly utilized performance indicator. For practitioners and for students of business, the end result of such a research agenda involves a better series of prescrip- tions for the planning and implementation of rational growth strategies. From an educational standpoint, to the extent that academics influence the practices of future business leaders (Ghoshal & Moran, 1996), such research should be beneficial to the development of our field. Growth is a commonly used performance indicator in business research. However, the relationship between growth and profitability is far from clear-cut. Us- ing the concepts of rational and irrational growth, a research agenda emerges which, ideally, shall prove informative within the business literature. It appears that a deep- er understanding of the relationship between growth and profitability is crucial for increasing the quality of practitioner strategic formulation and implementation. References Amihud, Y., & Lev, B. (1981). 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