Integration by Users of Continuous-Process Technology

The most dramatic examples of the integration of mass production and mass distribution came in those industries adopting continuous- process machinery during the decade of the 1880s. Such machinery was, it will be recalled, invented almost simultaneously for making cigarettes, matches, flour, breakfast cereals, soup and other canned products, and photographic film. These innovations in mechanical continuous-process machinery and plant became the basis for a number of the first of the nation’s giant industrial corporations. The creation of such enterprises drastically and permanently altered the structure of the industry in which they operated. The story of the organizational response to each of these technological innovations is told separately, in order to emphasize that this common response came simultaneously in different industries whose establishments were widely separated and whose entrepreneurs had little or no acquaintance with one another.

As has been suggested, innovation in these industries was in part a response to the rise of the mass market which emerged with the comple- tion of the nation’s basic transportation and communication infrastructure. By the 1880s railroad, steamship, and telegraphic networks were fully integrated. By then belt lines, standard gauges and equipment, and interroad administrative arrangements permitted the movement of goods in nearly all parts of the nation with the minimum of transshipment. And almost instantaneous communication existed between Western Union’s 12,000 offices.

The potential of the national market was further enlarged by two new types of ancillary business institutions that had already become widely used by the mass marketers. The credit agency, operating on a national scale after the Civil War, permitted manufacturers to check the reliability of jobbers and retailers in all parts of the country. The advertising agency, which purchased advertising space for clients in newspapers, journals, and periodicals circulating throughout the nation, was of even more value to mass producers. Until after the Civil War such agencies concentrated on writing copy and buying space in their local communities. Until the 1870s their major customers were department stores and jobbers and wholesalers selling traditional lines of dry goods, hardware, groceries, jewelry, furniture, cards, and stationery in local and regional markets. In that decade only books, journals, and patent medicines were advertised on more than a regional basis. Nearly all other manufacturers left advertising to the wholesalers who marketed their goods.

The manufacturers adopting the new continuous-process technology differed from the producers of books, journals, and patent medicines in that the unit output of their factories was much higher. To enlarge and maintain a market for these goods, they embarked on massive advertising campaigns carried out through these advertising agencies. They learned soon, too, that the wholesaler could not be relied upon to order and maintain inventory so that the customer could be always sure of obtaining the product. So the manufacturer took charge of scheduling the flow of finished products from the factory to the customer and then of raw and semifinished materials from the suppliers to the factories.

The story of James Buchanan Duke effectively illustrates these general practices.2 Duke’s dominance in the cigarette industry rested on his appreciation of the potential of the Bonsack cigarette machine. Duke, a manufacturer of smoking tobacco in Durham, North Carolina, had decided in 1881 to produce cigarettes because he was having difficulty in competing with a well-established neighbor, Blackwell and Company. At that date cigarettes were still a new and exotic product just beginning to find favor in the growing urban markets. Cigarette smoking was only starting to take the place of pipe smoking, chewing tobacco, cigars, or snuff. In 1881 four cigarette firms produced 80 percent of the output, primarily for nearby markets.

As a newcomer, Duke was searching for a way to break into the market. In 1884, shortly after a sharp reduction in taxes on cigarettes permitted a major price cut to consumers, Duke installed two Bonsack machines.

With each machine producing 120,000 cigarettes a day, he could easily saturate the American market. To test the world market, Duke had sent a close associate, Richard M. Wright, on a nineteen-month tour overseas. In June 1885 Duke signed a contract with Bonsack to use the machine exclusively to make all his cigarettes, high-quality as well as cheap, in return for a lower leasing charge.             –

Duke’s gamble paid off.3 Output soared. Selling became the challenge. Even before Duke had made his basic contract with Bonsack, he built a factory in New York City, the nation’s largest urban market, and set up his administrative offices there. He immediately intensified a national advertising campaign. Not only did Duke rely on advertising agencies but also his own staff distributed vast quantities of cards, circulars, and hand- bills—all proclaiming the virtues of his products.

He then began to build extensive sales organizations.4 Duke followed up the contacts Wright had made on his trip abroad by signing marketing agreements with wholesalers and dealers in all parts of the globe. At the same time, he and one or two other associates established a network of sales offices in the larger American cities. These offices, headed by salaried managers, became responsible for both the marketing and distributing of the product. The office kept an eye on local advertising. Its salesmen regularly visited tobacco, grocery, drug, and other jobbers, and a few large retailers to obtain orders. Duke’s local sales managers worked closely with New York headquarters to assure the effective scheduling of the high- volume flow of cigarettes to jobbers and a few large retailers.

At the same time that Duke and his close associates were building their sales organization, they were creating an extensive purchasing network in southeastern United States, where bright-leaf tobacco—that used in cig- arettes—was grown. Tobacco, after its annual harvest, was normally dried and cured before being sold to manufacturers. The timing of the process varied from several months to two or three years, according to the leaf and the quality desired. Because the supply of cured tobacco depended on both the size of the crop and the availability of curing facilities, prices fluctuated widely. By building its own buying, storing, and curing facilities, Duke’s company was able to purchase directly from the farmers, usually at auctions, and so reduce transactions costs and uncertainties. What counted more was that the company was also assured of a steady supply of cured tobacco for its mass producing factories in Durham and New York City.

By combining mass production with mass distribution Duke was able to maintain low prices and reap high profits. By 1889 Duke was by far the largest manufacturer in the industry, producing 834 million cigarettes with sales of over $4.5 million and profits of $400,000 annually, despite heavy advertising costs. To compete, other cigarette manufacturers had little choice but to follow Duke’s strategy. They quickly turned to machine production and began to build and enlarge their sales and purchasing organizations. As packages of cigarettes were priced in 5¢ increments—5¢ for the standard package and 10¢ to 25¢ for the better brands— there was little room for price cutting, particularly in the all-important cheaper brands. The manufacturers concentrated on advertising instead. In 1889 Duke’s advertising cost rose to $800,000 a year. Here his high volume and resulting cash flow gave him an advantage, for he had a larger cash surplus than the others to spend on advertising. But the cost of these sales campaigns reduced profits.

The desire to control this competition caused Duke and his four com- petitors to merge in 1890, forming the American Tobacco Company.5 For a brief time the constituent companies continued to operate independently; but after 1893 their functional activities were consolidated into the Duke manufacturing, sales, and leaf (purchasing) departments. As had been the case with the railroads and would be again in manufacturing, the largest of the early enterprises became the core organization for continuing growth. The enlarged centralized departmentalized company, operating from its New York corporate central office, proved extraordinarily profitable even during the economically depressed years of the 1890s.6 Profits from cigarettes allowed Duke to install new methods of production and distribution in other branches of the tobacco trade. By 1900 the American Tobacco Company had come to dominate that industry completely, except for the making of cigars. These developments will be described in more detail in Chapter 12, which deals with the internal strategy and structure of a selected number of the pioneering integrated enterprises.

The history of the match industry parallels that of the cigarette, except that the development of a fully automated machine came more slowly. After the Civil War, machines began to replace hand production. By the early 1870s four machine-using firms accounted for 80 percent of the industry’s output.7 Each had its own specialized machinery, and each concentrated on a single regional market. After a brief period of competi- tion for the national market, these four combined in 1881 to form the Diamond Match Company.

The leading entrepreneurs in the new firm, E. B. Beecher, William Swift, and Ohio Columbus Barber, then agreed on a strategy for improving the basic machinery by combining the best attributes of the different machines used by the erstwhile competitors. The result was, in the words of the firm’s historian, “the beginning of the modern continuous, automatic, match machine . . . that revolutionized the match industry.”8 At he same time the company developed comparable machines for the manufacture of paperboard and strawboard boxes. By the early 1890s seventy-five workers could produce 2 million filled matchboxes a day, an output equivalent to that of five hundred workers prior to the introduction of the new machines. Production was then consolidated in large plants. In 1880 there were over thirty match factories. By 1900 production was concentrated in one giant plant at Barberton, Ohio, and three smaller ones. By then Barber, Beecher, and Swift had built a sales organization that, like Duke’s, was responsible for establishing and maintaining contact with wholesalers, for handling local advertising, and for coordinating the flow of packages to the jobbers and often the retailers. Its buying organization began to purchase its wood paper and chlorate of potash directly from producers; the latter material came entirely from Europe. Soon the company had its own sawing and woodworking mills in Wisconsin and New England. In the 1890s it began to construct the largest match factory in the world in Liverpool. By the end of the decade it had plants in Germany, Canada, Peru, and Brazil.0

Until it began to move overseas, Diamond Match financed its impressive internal expansion from retained earnings alone. As was the case at American Tobacco, the cash flow generated by high-volume production and distribution along with some assistance from local commercial banks, covered the company’s needs for both working and fixed capital. In 1889, assisted by a Chicago lawyer, William Henry Moore, the company acquired funds by increasing its capitalization from $7.5 million to $11.0 million.10 During the depressed years of the 1890s it continued to pay a 1 o percent dividend on common stock with no borrowing and with only a small increase in capitalization. The prices of matches did not rise, and the company had little difficulty in maintaining its monopoly position until well into the twentieth century.

New continuous-process methods of production had almost as great an impact on the processing and marketing of that ancient American industry, milling of grain, as it had on the nation’s oldest commercial crop, tobacco. The innovative efforts of Cadwallader Colden Washburn and the Pillsbury brothers in the development of the automatic all-roller, gradual-reduction mill assured their enterprises leading position in the industry.11 So, too, did a comparable mill built in 1882 by the oatmeal producer, Henry P. Crowell. That mill has been described as “the first in the world to maintain under one roof operations to grade, clean, hull, cut, package, and ship oatmeal to interstate markets in a continuous process that in some aspects anticipated the modern assembly line.”12

These new continuous-process plants had more immediate impact on the structure of the oatmeal than the flour industry. For a while at least, the demand for flour was high enough and the costs reduced enough by the new machinery that the “new process” millers had little difficulty in disposing of their output by selling in bulk to wholesalers. On the other hand, the demand for oatmeal was more limited. A new market had to be found if the great volume of output from the new machines was to be sold. As a result, the modern breakfast cereal industry was invented.

The pioneer in developing this product was Crowell, the builder of the first continuous-process mill. While Ferdinand Schumaker, the largest producer, continued to market in the accepted way of selling in bulk through wholesalers, Crowell packaged and then advertised his brand, Quaker Oats, nationally as a breakfast cereal—a product that was even newer to American tastes than the cigarette. In advertising Quaker Oats, Crowell’s staff used, much as Duke had done, box-top premiums, prizes, testimonials, scientific endorsements, and the like.13 Thé company set up sales offices in the United States and abroad. Their managers were ex- pected, as were Duke’s, not only to maintain contact with jobbers but also to schedule flows from the factory to the jobbers. At the same time Crowell built a buying organization that soon came to include “fieldmen” who purchased directly from the farmers in the grain-growing states and buyers who had seats on the Minneapolis and Chicago grain exchanges.

The response of other manufacturers to Crowell’s aggressive marketing campaign in oatmeal was similar to the response to Duke’s in tobacco. In 1888 after a brief attempt at a cartel, Crowell, Schumaker, and a third large mass producer of oatmeal, Robert Stuart, formed the American Cereal Company. (It became the Quaker Oats Company in 1901.) Despite the determined opposition of Schumaker, who retained his preference for marketing in bulk, the new company took over and expanded Crowell’s selling and purchasing organization. Production became concentrated in two giant plants—one at Akron and the other at Cedar Rapids—each using improved continuous-process machinery. After the turn of the century, to make fuller use of its marketing and purchasing facilities, the company added new lines of wheat cereals, farina, hominy, corn meal, specialized baby foods, and animal feed.

In the early 1890s, as the demand for roller mill flour leveled off, the Minneapolis and other millers began to follow the example of the American Cereal Company. Decline in prices at the beginning of the decade brought plans for large-scale mergers. These failed, as the leading companies preferred to remain independent. The Washburn firm was reorganized under the presidency of James S. Bell as the Washburn Crosby Company, and the Pillsbury family continued to operate through what became known as the Pillsbury-Washburn Flour Company. Bell and the Pillsburys quickly turned to the strategy of vertical integration.14 They began to package their products rather than selling in bulk and to advertise their brands, Gold Medal Flour and Pillsbury, on a national scale. During the 1890s they created selling and buying networks similar to those of Crowell. From 1889 on, the Pillsburys had a chain of grain elevators in the wheat-growing regions. Because their product, flour, was so widely used and because the supply of wheat was so extensive, a single firm did not come to dominate the industry as in the tobacco, match, and breakfast cereal trades. On the other hand, Washburn-Crosby and Pillsbury continued to be the largest American flour millers well into the twentieth century.

The first enterprises to utilize fully the “automatic-line” canning factory were those that developed a product line which permitted more than seasonal operations.15 The most successful of these were H. J. Heinz and Company of Pittsburgh and the Campbell Soup Company of Camden, New Jersey.16 In 1880 Henry John Heinz, a small processor of pickles, relishes, sauces, and similar products for the local Pittsburgh market, was still recovering from his bankruptcy in 1876. In the early 1880s he adopted new, continuous-process methods of canning and bottling and built a network of sales offices to sell in the national market and advertise extensively his many brands. He created a large buying and storing organization to assure a steady flow of vegetables and other foodstuffs into his factories and contracted with farmers to provide these supplies to desired specifications. By 1888 Heinz had become one of Pittsburgh’s most substantial citizens and the company remains to this day one of the largest food processors in the country.

Less is known about the beginning and growth of the Campbell Soup Company; but it appeared at almost the same time and grew in much the same way. It has long remained one of the major business enterprises in the Philadelphia area, and the Dorrance family, who had joined with Joseph Campbell to found and operate the firm, remains one of the city’s wealthiest clans.

Other processors who used the large continuous-process canning plants were those who produced condensed canned milk and canned meats. In 1882 two of the smaller meat packers, Libby, McNeil & Libby and Wilson & Company, began volume production of canned meat in Chicago. At the same time the pioneer in the condensing of milk, the Borden Milk Com- pany, greatly enlarged its operations and expanded and rationalized its marketing and purchasing organizations.17 It did so partly because of the expanding market but also because foreign competitors had moved across the sea to exploit the American trade. In that decade both the Anglo-Swiss Condensed Milk Company (a forerunner of Nestle) and the Helvetia Milk Condensing Company (the precursor of two American firms, the Pet Milk Company and the Carnation Milk Company) set up plants and sales organizations in the United States.

Only those companies who had earlier in their history developed prod- ucts that could be produced year-round continued to remain large and dominant firms. Where canning remained seasonal, as was the case for most vegetables, fruit, and fish products, the large company did not appear. Instead, canneries came to buy their cans and canning equipment from two large can-making companies, American Can and Continental Can. American Can, whose first president was Edward Norton, the inventor of the “automatic-line” process, resulted from a merger in 1901. Continental Can was formed in 1906. Both soon had extensive marketing and servicing organizations. As late as the 1950s these two canning companies and Campbell Soup, H. J. Heinz, Carnation, Borden’s, Pet Milk, and Libby, McNeil & Libby were still the leaders in the canning industry.18

Yet another industry, soap, adopted continuous-process machinery in the 1880s. Soap production for the commercial market had started as a by- product of the meat-packing industry, with small companies processing animal fats for regional markets. In the late 1870s mechanical im- provements in the mixing and crushing process used in making bar soap greatly expanded output. British firms such as Pears and Pond advertised in the American market.19 In 1879, a small Cincinnati soap maker, Procter & Gamble, developed by accident a soap that floated.20 It was branded Ivory. By using the new machinery, Procter &. Gamble was soon making 200,000 cakes of Ivory soap a day. To sell its volume, the firm began to advertise nationally and then to build a network of branch sales offices. At the same time it created an extended buying organization to assure itself of a steady supply of perishable raw materials—animal and vegetable oils, fats, and soda ash. By 1885, the company had constructed Ivorydale, a model industrial plant, which became a Cincinnati showplace. To make full and integrated use of its facilities, Procter & Gamble then moved into the production of laundry and other soaps, cottonseed and salad oil, and similar products. During the 1880s, other soap manufacturers, including Colgate & Company, N. K. Fairbanks, B. T. Babbit, and D. S. Brown, built integrated enterprises similar to Procter & Gamble.21 These new large enterprises soon found themselves competing with meat packers and cotton-oil producers who had moved into soap production, as well as with leading European soap manufacturers who had continued to sell in the American market.

Another major innovation in continuous-process machinery to appear in the 1880s was in the photographic industry.22 In 1884, George Eastman of Rochester, New York, one of the largest producers of photographic paper and plate, assisted by William H. Walker, began to study ways to mass produce the substance on which negative images were made. They devised a paper-based film using a gelatin emulsion to replace the existing glass plates. The film, attached to the camera by roll holders, could be produced by continuous-process machinery. However, because the new film required a new or rebuilt camera with holders and because the developing of the film was so complex that it had to be done at the Eastman factory, it found little favor with professional photographers.

Eastman then turned to a still untapped mass market, the amateur pho-tographer. He and his associates concentrated on inventing a small, stand- ardized camera which was easy to build and easy to operate and on finding a more satisfactory roll film to be used with the camera. In April 1888, Eastman patented and then immediately began to mass produce the Kodak. Then by 1889, he and his colleagues had perfected a celluloid-base roll film of high quality. Eastman combined the new film and camera for the mass market by selling each Kodak loaded with film for 100 exposures. Once the 100 pictures had been snapped, the camera (later the film) was returned to the Eastman factory in Rochester where the film was developed and printed and the camera reloaded.

To sell and distribute his new camera and film and to service their pur- chasers, Eastman immediately created a worldwide marketing network of branch offices with managers to supervise salesmen and demonstrators and to coordinate flows of cameras, films, and funds. In 1890, Eastman built production and servicing facilities in Great Britain. As the production of camera and film soared, the company set up a purchasing organization to buy massive quantities of paper, celluloid, lenses, and other material. Before 1900, Eastman Kodak, the towering giant of the industry, was be- ginning to manufacture several of these items in its own plants.

During a very short period in the 1880s, new processes of production and distribution had transferred the organization of a number of major American industries—tobacco, matches, grain milling, canning, soap, and photography. These changes were revolutionary, and they were permanent. The enterprises that pioneered in adopting and integrating the new ways of mass production and mass distribution became nationally known. By 1900, they were household words. Three-quarters of a century later the names American Tobacco, Diamond Match, Quaker Oats, Pillsbury Flour, Campbell Soup, Heinz, Borden, Carnation, Libby, Procter & Gamble, and Eastman Kodak are still well known.

These enterprises were similar in that they used new continuous-process machinery to produce low-priced packaged consumer goods. Their new processes of production were so capital-intensive (that is, the ratio of workers to the quantity of units produced was so small) that production for the national and global market became concentrated in just a few plants, often only one or two. In all cases it was the massive increase in output made possible by the new continuous-process, capital-intensive machinery that caused the manufacturers to build large marketing and purchasing networks.

The national and international network of sales offices took over from the wholesaler the functions of branding and advertising. Although ad- vertising agents continued to be used to reach the national and world markets, the sales department became increasingly responsible for the content, location, and volume of advertising. As many of these products, like cigarettes, cereals, canned milk, and canned meat, were relatively new, advertising was important to enlarge demand. It was also a major com- petitive weapon because a relatively low unit price per package (usually 5¢ or 10¢) made demand inelastic. It was difficult to increase demand by reducing prices. Although in most cases, jobbers continued to be used to distribute goods to the retailers, the sales offices took over scheduling and coordinating the flow of goods from factories to jobbers and often to re- tailers. (At Eastman this involved the flow of exposed film for printing as well.) They also worked closely with the manufacturing departments to coordinate the flow from the suppliers of the raw material through the processes of production and distribution to the final consumers. A few of these firms, including Campbell Soup and Eastman Kodak, were soon selling and delivering directly to retailers. By the early twentieth century Eastman Kodak began to build its own retail stores in major cities.

In all these cases the high volume of output permitted by the integration of mass production with mass distribution generated an impressive cash flow that provided these enterprises with most of their working capital, as well as funds to expand capital equipment and facilities. These enterprises relied on local businessmen and commercial banks for both short-term and long-term loans. None, however, needed to go to the capital markets for funds to finance the expansion that so quickly placed them among the largest business enterprises in the world. For this reason the entrepreneurs, their families, and the associates who created these enterprises continued to control them. They personally held nearly all the voting stock in a company. Thus, although day-to-day operations had to be turned over to full-time salaried managers, long-term decisions as to investment, allocation of funds, and managerial recruitment remained concentrated in the hands of a small number of owners.

The administrative networks built to integrate the new processes of production and distribution gave the pioneering enterprises their greatest competitive advantage. Although capital-intensive in terms of the ratio of capital to labor inputs, the new machinery was not that expensive. The absolute cost of entry was not high, nor in most industries were patents a barrier to entry. The makers of cigarette, milling, canning, and soap-mak- ing machinery were eager to sell their products to as many manufacturers as possible. Nor was branding or advertising a barrier. Advertising agencies were just as intent as machinery manufacturers on finding new clients.

The most imposing barrier to entry in these industries was the organi- zation the pioneers had built to market and distribute their newly mass- produced products. A competitor who acquired the technology had to create a national and often global organization of managers, buyers, and salesmen if he was to get the business away from the one or two enterprises that already stood astride the major marketing channels. Moreover, where the pioneer could finance the building of the first of these organizations out of cash flow, generated by high volume, the newcomer had to set up a competing network before high-volume output reduced unit costs and created a sizable cash flow. In this period of building he had to face a competitor whose economies of speed permitted him to set prices low and still maintain a margin of profit. Newcomers, of course, did appear. Kellogg and Postum in breakfast cereals and Colgate and Babbitt in soaps are examples. But all these industries were highly concentrated from the mo- ment mass production methods were adopted. Except for flour milling, the industries in which these integrated industrial enterprises first appeared immediately became oligopolistic and have so remained.

Source: Chandler Alfred D. Jr. (1977), The Visible Hand: The Managerial Revolution in American Business, Harvard University Press.

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