Merchants to Multinationals: British Trading Companies in the Nineteenth and Twentieth Centuries

In this excerpt taken from the chapter entitled "From Trade to Investment," HBS visiting professor Geoffrey Jones traces the transition of the British trading companies from purely trading companies in the 1870s to "business groups" that actively engaged in trading, manufacturing and financial activities around the globe prior to WWI. The British trading companies played a significant role in opening new markets and developing new sources of supply in resources in the emerging global economy. Professor Jones describes the companies as "entrepreneurial firms, which pioneered new industries, from jute manufacture in India and cotton textile manufacture in China, to the oil industry in California."

The improvements in transport and communications from the 1870s resulted in opportunities and threats for merchants, both of which provided incentives for further diversification. In terms of opportunities, the exploitation of primary commodities in countries located far away from the main European markets became far more practical. At the same time new markets were opened by steamships, new ports, railroads, and telegraphs. Latin America was transformed from being a modest market for British textiles into an expanding market not only for textiles, but for British iron and steel, machinery and coal. 1 However the transport and communication improvements also threatened merchant intermediaries by reducing uncertainty and lowering information costs. The telegraph in particular provided new opportunities for direct communication between suppliers and customers, without the need for middlemen. 2 However some markets were opened more quickly, or were of more interest to, say, European manufacturers, than other countries. Moreover the effects of the telegraph varied commodity by commodity and the bulk of communications continued by sea post until the early twentieth century.

A second major influence on the diversification strategies of the trading companies was the boom in commodity prices. Industrialization in Europe and the United States stimulated a worldwide search for new sources of supply of raw materials and foodstuffs. From the 1870s there was a massive growth in world FDI in mining. As petroleum consumption grew with new uses, the search for oil became worldwide. Oil was the only fuel that could drive the new motor car, while the demand for rubber tyres for cars created an enormous rubber boom in the 1900s. As incomes rose in developed countries, there was a vast increase in demand for products such as tea, coffee, sugar, and tropical fruits which had been luxuries to previous generations. By 1870 the British trading companies were already trading in primary commodities or were at least established in countries which were probably candidates to become major producers. They were consequently well positioned to diversify into production.

A third determinant was the further expansion of imperial frontiers. In Asia, British political influence was extended over the whole of the Malayan peninsular from the 1870s, while the annexation of Upper Burma in 1886 brought the rest of that country under British control. Also during the late nineteenth century large regions of tropical Africa were incorporated in the European, especially British and French, colonial empires during the 'scramble for Africa.' As the imperial frontiers expanded, so the trading companies followed in the wake.

A final determinant of the diversification of the British trading companies in particular was capital availability arising from Britain's booming capital exports from the 1870s. In this period they made much greater use of the British capital markets and the availability of limited liability to raise finance for the new business opportunities which appeared at this time. They functioned in part as venture capitalists identifying opportunities and placing potential British investors in touch with them. For the most part this was achieved not by opening up the shareholding of the parent trading company, but by floating separate 'free-standing' firms on the British capital markets, which the merchant houses continued to control through management contracts and other means in the established tradition of 'agency houses.'

The desire to access the capital and information available in London was one reason why from at least mid-century Liverpool-based firms such as Swire's and Harrisons & Crosfield began to shift their head offices to London, although other firms such as Balfour Williamson remained Liverpool-based until the interwar years. The British merchants also sometimes formed locally registered firms, especially in British colonies where the company legislation was modelled on Britain, which mobilized the pools of capital accumulated by resident Europeans in Asia and elsewhere. The colonies also had a fixed exchange rate with Britain which made the operation of a British and colonial share register easier. Conversely, some merchant firms from the colonies relocated to London in order to access the markets for capital and information. David Sassoon moved its head office from Bombay to London in 1872. In 1884 the Australian wool handling and shipping merchant Dalgety, which had been organized as interlocking colonial and London partnerships, incorporated in Britain in order to access the capital required to compete in that trade. Dalgety did not invest in non-trading activities, but it did subsequently diversify on a large scale into selling refrigerated meat and dairy food from New Zealand and Australia to Europe. 3

The upshot was the creation of diversified 'investment groups,' or business groups in the terminology preferred here, around the British merchant houses. The merchant house acted as the 'core firm' within each group, usually responsible through its overseas branches for trading and agency business, while separately quoted or incorporated affiliates — often not wholly owned — were engaged in plantations, mines, processing, and other nontrading operations. Consequently, although reinvested profits continued to be an important source of funds for the British merchant groups, after 1870 they also drew substantially on outside funds to finance expansion into new activities. Partners and directors of the merchant houses did not generally provide large amounts of new capital themselves in this period.

The British willingness to use outside capital in affiliate ventures was distinctive. With some exceptions, in other European countries non-trading activities might be separately incorporated but were usually wholly owned. The ability of the British companies to utilize the London capital market and accumulated expatriate savings overseas provided them with funds to expand on a greater scale, though it also created governance structures which were more dependent on contracts and relationships than equity.

Though joint stock companies were used as vehicles for diversification by the British companies, the partnership form remained widely employed by many of the parent merchant firms. By 1914 some of the largest merchant groups continued to employ the partnership form. Even the minority of cases which availed themselves of limited liability generally became private rather than public companies, which enabled family ownership and control and most of the past traditions of the former partnerships to continue with little hindrance. This was not exceptional in the corporate context of Britain of this period — the widespread use of limited companies only got under way in the 1880s, and in 1914 four-fifths of registered joint stock companies were private 4 — but the merchants were certainly among the most reluctant sectors to abandon partnerships and family control.