John D. Rockefeller

John Davison Rockefeller, Sr. (born 8 July 1839, Richford, New York, U.S.—died 23 May 1937, Ormond Beach, Florida) was American industrialist and philanthropist, founder of the Standard Oil Company, which dominated the oil industry and was the first great U.S. business trust.

Life
Rockefeller came from very modest beginnings; his father was a peddler who barely made ends meet. Born in 1839, he was one of six children, and his first job on graduating from high school at age sixteen was as an assistant bookkeeper for fifteen cents a day.

Standard Oil
Rockefeller was religious about working and saving his money. After working several sales jobs by age twenty-three he had saved up enough to invest four thousand dollars in an oil refinery in Cleveland, Ohio, with a business partner and fellow church member, Samuel Andrews.

Like James J. Hill, Rockefeller paid meticulous attention to every detail of his business, constantly striving to cut his costs, improve his product, and expand his line of products. He also sometimes joined in with the manual laborers as a means of developing an even more thorough understanding of his business. His business partners and managers emulated him, which drove the company to great success. As economist Dominick Armentano writes, the firm of Rockefeller, Andrews, and Flagler, which would become Standard Oil,

prospered quickly in the intensely competitive industry due to the economic excellence of its entire operations. Instead of buying oil from jobbers, they made the jobbers' profit by sending their own purchasing men into the oil region. They also made their own sulfuric acid, barrels, lumber, wagons, and glue. They kept minute and accurate records of every item from rivets to barrel bungs. They built elaborate storage facilities near their refineries. Rockefeller bargained as shrewdly for crude as anyone has before or since; and Sam Andrews coaxed more kerosene from a barrel of crude than the competition could. In addition, the Rockefeller firm put out the cleanest burning kerosene and managed to profitably dispose of most of the residues, in the form of lubricating oil, paraffin wax, and Vaseline.

Rockefeller pioneered the practice known as "vertical integration," or in-house provision of various inputs into the production process; that is, he made his own barrels, wagons, and so on. This is not always advantageous — sometimes it pays to purchase certain items from specialists who can produce those items at very low cost. But vertical integration has the advantage of allowing one to monitor the quality of one 's own inputs. It has the further advantage of avoiding what modern economists call the "hold-up problem." If, say, an electric power plant contracted with a nearby coal mine for coal to fuel its generating plant, the coal mine might effectively break its contract at one point by demanding more money for its coal. In such instances the power plant has the choice of paying up, engaging in costly litigation, or going without the coal and closing down. None of these options is attractive. But if the power plant simply buys the coal mine, all of these problems disappear. That is what Rockefeller, the compulsive micromanager, did with many aspects of the oil-refining business. He reduced his costs and avoided hold-up problems through vertical integration.

Rockefeller also devised means of eliminating much of the incredible waste that had plagued the oil industry. His chemists figured out how to produce such oil byproducts as lubricating oil, gasoline, paraffin wax, Vaseline, paint, varnish, and about three hundred other substances. In each instance he profited by eliminating waste.

Just as James J. Hill spent the extra money to build the highest quality railroad lines possible, Rockefeller did not skimp in building his refineries. So confident was he of the safety of his operations that he did not even purchase insurance.

Rockefeller also made the oil-refining industry much more efficient. There had been vast overinvestment in the oil industry in its first decades, as everyone had wanted to get rich quick in the business. Northwestern Pennsylvania, where the first oil well had been drilled, was littered with oil derricks and refineries of all sizes, many of which were operated by men who really should have been in another line of work.

Rockefeller purchased many of these poorly managed operations and put their assets to far better use. There was never any threat that these "horizontal mergers" — the combination of two firms that are in the same business — would create a monopoly, for Standard Oil had literally hundreds of competitors, including such oil giants as Sun Oil, not to mention its many large competitors in international markets.

Because of Standard Oil's superior efficiency (and lower prices), the company's share of the refined petroleum market rose from 4 percent in 1870 to 25 percent in 1874 and to about 85 percent in 1880.

As Standard Oil garnered more and more business, it became even more efficient through "economies of scale" — the tendency of per-unit costs to decline as the volume of output increases. This is typical of industries in which there is a large initial "fixed cost" — such as the expense involved in building an oil refinery. Once the refinery is built, the costs of maintaining the refinery are more or less fixed, so as more and more customers are added, the cost per customer declines. As a result, the company cut its cost of refining a gallon of oil from 3 cents in 1869 to less than half a cent by 1885. Significantly, Rockefeller passed these savings along to the consumer, as the price of refined oil plummeted from more than 30 cents per gallon in 1869 to 10 cents in 1874 and 8 cents in 1885.

All of Rockefeller's savings benefited the consumer, as his low prices made kerosene readily available to Americans. Indeed, in the 1870s kerosene replaced whale oil as the primary source of fuel for light in America. It might seem trivial today, but this revolutionized the American way of life; as Burton Folsom writes, "Working and reading became after-dark activities new to most Americans in the 1870s." In addition, by stimulating the demand for kerosene and other products, Rockefeller also created thousands upon thousands of new jobs in the oil and related industries.

Rockefeller was extremely generous with his employees, usually paying them significantly more than the competition did. Consequently, he was rarely slowed down by strikes or labor disputes. He also believed in rewarding his most innovative managers with bonuses and paid time off if they came up with good ideas for productivity improvements.

Of course, in every industry the less efficient competitors can be expected to snipe at their superior rivals, and in many instances sniping turns into an organized political crusade to get the government to enact laws or regulations that harm the superior competitor. Economists call this process "rent seeking"; in the language of economics, "rent" means a financial return on an investment or activity in excess of what the activity would normally bring in a competitive market. This sort of political crusade by less successful rivals is precisely what crippled the great Rockefeller organization.

Standard Oil's competitors succeeded in getting the federal government to bring an antitrust or antimonopoly suit against the company in 1906, after they had persuaded a number of states to file similar suits in the previous two or three years.

Links

 * God's Gold: The Story of Rockefeller and His Times by John T. Flynn, 1932