CM: How did some of your thoughts on competition originate?
Sheth: I was never comfortable that there was only one form of competition. I felt that the market was more complex than that and it was not just a perfect, or what they call, monopolistic, competition. …
I began to look at shakeouts and mergers and study the history of industries. When the automobile industry started in America, we had 500 automobile makers. It was the same thing with the agricultural equipment industry — there were 220-plus competitors. When you have so many players, it' s like perfect competition in economics, and it's what Adam Smith was talking about. Adam Smith never talked about shakeouts and consolidation. There was no concept of scale. I wanted to know what happens to these firms and I found out they eventually get consolidated. To what level? I found out it is always three — not four, five, or six. That was another surprise.
CM: Your consulting work also enlightened you.
Sheth: Well, the second area had to do with my own consulting work. I became a strategy consultant to firms, starting with firms in the automobile industry such as GM and Ford. Before that, I was doing a lot of work with packaged goods companies like General Foods and Pillsbury. There, my focus was on branding, because my background is in consumer psychology. It was through my own cereal-buying experience that I realized consumers want choices from no more than three candidates. A retailer doesn't want more than three brand names stocked on their shelves.
The optimal number of choices any market really wants is three. I really began to understand this much more when I began working in the appliance industry. I was an advisor to Whirlpool at the time. There were three big appliance makers who were full-line. I realized that there is no choice but for American firms to go to Europe. For instance, there were three big tiremakers: Firestone, BF Goodrich, and Goodyear. When Michelin came here, it collapsed the industry. BF Goodrich collapsed and I was advising them, and suddenly I found the rule of three again. Now we have a global rule of three. Michelin is number one. Firestone is number two from Japan. And number three is Goodyear.
CM: So, as a sector with five or more players matures, they should expect to either merge, dominate, or be taken over?
Sheth: Exactly. If you have five firms right now and none of them has really a dominant position — let's say 40% market share, which is the percent required — then it is very likely that number three, four, or five combined together can become number one. It just happened in the wireless industry. But then the Baby Bells got together. Verizon Wireless, which was Bell Atlantic and GTE, became number one. All of a sudden Sprint PCS, which was number two or three, collapsed into the number five position. The market was still maturing.
Usually, in an immature industry with five or six players remaining, it is not necessary that the number one guy will always remain number one. In fact, I was shocked when I found out that GM was nothing but a consolidator. They bought up all the failing car companies — Cadillac, Oldsmobile, Chevrolet, Pontiac, Buick — and formed a common front against Ford. And GM became number one.
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