First, why is growth important for firms?
Growth is a fundamental strategic objective for most firms. Growth can deliver market power, superior resources, and scale the costs of doing business. It can also help firms buffer against unforeseen shocks, such as the Great Recession of 2008-09 and the COVID-19 pandemic. Growth is especially important for professional service firms, such as law firms, as larger firms have greater financial and reputational power that allows them to attract the best talent and most lucrative buyers.
How do you describe a deeper relationship between a supplier and buyer, and why does it matter for business growth?
A deeper relationship, or “relational embeddedness”, between a supplier and buyer involves greater levels of trust, knowledge transfer and specialized resources and routines, and can provide advantages such as efficient business transactions and higher quality products and services. Because these drivers of value are usually applicable only to the buyer relationships in which they are developed (e.g., they are “buyer-specific”) suppliers have incentives to maintain, and invest further, in these relationships over the longer term.
In theory, when professional service firms build deeper relationships with their existing buyers, they should be able to gain higher volumes of business from them. The problem is that they may be harming their ability to capture business from new buyers. In effect, a predominant focus on existing buyers may narrow the supplier’s business opportunities mostly to what their existing buyers are willing to provide.
Strong relationships can lead to smoother business transactions and higher quality products and services (...) but may narrow a supplier’s business opportunities.
You find that focusing more deeply on relationships with existing buyers can slow supplier business growth
Yes, we find that focusing more deeply on relationships with existing buyers can slow supplier business growth. For example, if a supplier increases the proportion of business in its portfolio from existing buyers by 25%, then the following year it can suffer a 3.5% decline in the growth of its business volume, which can mean a substantial decrease in profits.
Moreover, business growth can decline further when suppliers hold specialized knowledge of their existing buyers’ business (because that knowledge cannot be used to serve new buyers) and when buyers have in-house teams that can perform the same type of work as the supplier.
On the other hand, suppliers may benefit from relational embeddedness when they can cross-sell multiple services to the same buyers and when their existing buyers commit to providing suppliers with business over the longer term. So, while there are clear risks of relational embeddedness for business growth, there are conditions that indicate suppliers can gain advantages.
Don’t be afraid to build strong relationships with clients, but be aware of the risks.
What insights would you like to share with managers and decision makers?
Similar to my previous study on client-led diversification, don’t be afraid to build strong relationships with buyers. These buyers offer a reliable stream of revenues. But, be aware of the risks of shutting out new buyers. Make sure you can offer your buyers a sufficient breadth of business in different areas and don’t seek strong relationships unless you receive credible buyer commitments of future business… otherwise you might fall foul to the “dark side” of it.
