by Adam Hartung | Oct 27, 2008 | Disruptions, General, Quotes
You never know when interviewed exactly what the writer is looking for, what the article is, or how your comments will be used. But I was delighted to be interviewed by the acclaimed weekly newspaper Investor's Business Daily a couple of weeks ago. (The article can be found on Yahoo! business here.)
"Get Through It With Grit – by Sonja Carberry
Pust the envelope. Adam Hartung, author of "Create Marketplace Disruption," points out that winning companies aren't afraid to shake things up, especially during a downcycle. He said Cisco — instead of aiming to sell more products — has the "Disruptive" goal of making its offerings obsolete by creating new solutions. "This kind of approach keeps you from riding the tail (of a trend) too long."
Tap rabble-rousers. Hartung cited Apple's CEO as a prime example. "Steve Jobs is a very dsruptive kind of guy," Hartung said. So much so, Apple and Jobs parted ways in 1985. When Jobs was coaxed back to Apple 15 years later, he championed such out-there ideas as the now-mainstream iPod."
What's great in this article is some information from the Managing Director of one of the world's top management consulting companies, Bain & Company. Steve Ellis divulged from a recent Bain study that 24% more firms rose from the bottom to the top of their industries during the 2001 receission than the following sunnier economic period.
What great support for the fact that when markets shift the opportunity is created for changing competitive position. Those companies that build detailed future scenarios, obsess about competitors, Disrupt their internal Lock-ins and implement White Space can come out big winners during market shifts. So if you're a leader, now's a good time to be more Steve Jobs like and not fear Disruption. It's time to push your company to the top by taking advantage of competitor Lock-ins!!
by Adam Hartung | Oct 26, 2008 | Defend & Extend, General, Quotes
(Read the following quote in Forbes, October 5, 1998, written by Peter Drucker) “As we advance deeper into the knowledge economy, the basic assumptions underlying much of what is taught and practiced in the name of management are hopelessly out of date… most of our assumptions about business, technology and organization are at least 50 years old. They have outlived their time… Get the assumptions wrong and everything that follows from them is wrong.”
Last week, former Reserve Board Chairman Alan Greenspan admitted to Congress that his assumptions about financial services and the products being offered, including credit default swaps (CDS), were wrong (read article here). As a result, what he thought would happen in the financial markets – from interest rates to equity prices to currency values – turned out to be wrong. Unfortunately, this helped create the opportunity for runaway leverage and the banking meltdown which has affected world trade since early September. When leaders operate with wrong assumptions, the price paid by everyone can be pretty hefty.
The reality is that pretty much all leaders work with assumptions about business that are very country specific. The impact of global knowledge transfer – of worldwide information at a moment’s notice – of labor arbitrate happening in hours – and the immediacy of financing and financial reactions – is still not well understood by leaders trained in an earlier era. Thus leaders under-recognized the speed with which manufacturing jobs could move around the world – as well as the speed with which IT services could move to lower cost markets. Even though the current Federal Reserve Chairman (Dr. Bernanke) is a student of America’s Great Depression, what he doesn’t understand is that Depression happened in an isolated way to the USA. Today, globalization means that problems with U.S. banks becomes a problem globally. For all his studies of history – things in financial services have fundamentally shifted. His assumptions are, well, often wrong.
In November there will be an economic summit. Some are referring to it as the next “Bretton Woods” – a reference to the meeting in upstate New York which determined how foreign currency exchange rates would be set and how banks would interact between countries (read about the summit here). Yet, there are others who say no changes are needed. But let’s get real. Of course we need to rethink how our country-based banking system works in a world where insurance companies and hedge funds often move faster and have more ability to affect markets than traditional banks. In the 1800s banks in the USA issued their own currency – and then states issued their own currency. Eventually this disappeared to federal currency. So, do we now need a global currency? With the change to the Euro in Eurpope the need for individual country currencies took a step toward unnecessary. Should that trend continue? You see, it’s easy to think about the world using old assumptions – like a U.S. dollar as independent of other countries – but does it make sense in a world where products and services are supplied globally and governments (such as India and China notably) now manipulate their currencies to maintain price advantages?
On Friday evening a “guru” on ABC’s Nightline was talking about the wild swings on the New York Stock Exchange and the NASDAQ. He commented “the only way to get hurt on a roller coaster is to get off. So hold onto your equities and keep buying.” Give me a break. A roller coaster is a closed system. Even though it goes up and down, you know where it will end and the result. WE DON’T KNOW THAT ABOUT EQUITIES TODAY. Many, many companies we’ve known for decades could disappear (GM, Ford, Chrysler are prime examples). Just like Lehman Brothers disappeared, and AIG practically so. If you were an investor in common or preferred equities of Freddie Mac or Fannie Mae, your “roller coaster ride” did not have a happy ending – and you would obviously have been a whole lot smarter to have jumped off. You may get bruised, but that would have been better than the disaster that loomed.
It is critically important to check assumptions. This is not easy. We don’t think about assumptions, they just are part of how we operate. That’s why now, more than ever, it is incredibly important to do scenario planning which will challenge assumptions by opening our eyes to what really might happen. Because you can never assume tomorrow will be like yesterday – not in business. To survive you have to constantly be planning for a future that can be very, very different. Doing more of what you always did will not produce the same results in a shifting world. Planning for future shifts is one of the most important things managers can do.
by Adam Hartung | Oct 23, 2008 | Uncategorized
Odds are you don't know what a DN-01 is. And that's OK.
Think about my recent post on motorcycles. Even with gasoline prices down substantially, they are still about where they were a year ago – which is way higher than they were 5 years ago. So, the desire to obtain high gas mileage is still relavent. There are still people who would like the high gas mileage a motorcyle provides. So what do you suppose holds them back? Safety is an issue. But for many, it's "I don't know how to ride."
Very few Americans know how to drive a standard shift auto any longer. If you're under 30, the odds are that you've never even sat in a car with a clutch and a stick shift. And that's a problem if you go to buy a motorcycle, because they have standard transmissions. So, while learning to ride the motorcycle you not only have to learn how to manage a front brake and back brake, but how to work a clutch and shift a manual transmission. Now, that's a big hold up for a lot of people.
And that's where the DN-01 comes in (see link to DN-01 here). This new motorcycle from Honda (see chart here) has a transmission that doesn't need shifting. Formerly only possible on a small engine scooter, now Honda has a full-size motorcycle that can be ridden without thinking about shifting. If you think about that for a few minutes, you realize that opens the market to about 10x the previous number of possible customers. I've long extolled how Honda is a leader in using Disruptions and White Space to find new opportunities. Here again we see Honda taking the lead in finding a way to greatly expand the marketplace. Another example of White Space at work.
Compare this to Harley Davidson (see chart here). Most Harley motorcycles use the same technology they've used since the 1940s (albeit with minor modifications – but not a lot). Around the turn of the century Harley tried to update its customer base by launching a new motorcycle with an engine designed by Porsche of Germany. Even though it's been out since 2002, the V-Rod has not been a big seller (read about the V-Rod here). If you go into a Harley dealer and ask about this bike you'll likely be told "oh, the chick bike," in a derogatory way that only a Harley dealer could figure somehow talks down one of his own products. While this bike represented the next breakthrough in technology to move Harley forward, the company and its dealers have chosen to largely downplay it – and sales results keep falling.
Now compare Honda to Sony. Sony was long considered at the front edge of innovation. For years Sony was known for bringing forward solid state radios, solid state televisions, the walk man and the disk man. But in the late 1990s Akio Morita, long the company head, decided to retire. Throughout his career, Morita focused on new product development, testing and finding new markets for new technologies. But the Board replaced Mr. Morita with an MBA. Sony's new leader first reacted to stop all the wasted new product development at Sony in order to immediately raise profits. Then, he cut R&D and product development budgets in favor of acquisitions. Today, Sony is no longer the technology leader it once was.
Think about how Sony (see chart here) - which owned a recording studio as well as #1 position in consumer electronics – completely missed the MP3 music market. The new management's focus on profit, and Defending & Extending its past market position without investing in new development, left the company vulnerable to Apple and its Disruptive effort to change the music business. As a result, Sony's profits are now down 38% this year, and leading a recent drop in the entire Japanese stock market (see article here). Sony is worth less today than at any time since 1996!
Sony and Harley Davidson both Locked-in on what worked in the past. They tried to maintain sales on old products, and old product technologies. They tried to say that "brand" was what was important. That let new competitors come into their markets and find new customers, using new products. And that's exactly what Honda is doing. By Disrupting old notions about motorcycles (that they have manual transmissions, most recently) they create White Space for new products (and new businesses – like jet airplanes and robotics.) As an investor or employee, you're better off with the Disruptor than the D&E competitor every day.
by Adam Hartung | Oct 21, 2008 | Disruptions, In the Rapids, Leadership, Openness
Yesterday I talked about how Lock-in to an old Success Formula kept Sun Microsystems from undertaking Disruptions in the 1990s that would have helped the company keep from floundering. One could get the point that with this weak economy, the die has been cast and there’s little we can do. "Oh Contrare little one".
Let’s look at Apple (see chart here) – the company Sun passed up to focus on its core server business in the 1990s. Today Apple announced profits are up 26% this year – despite the soft economy (read article here). We all know about the iPod, iTunes, iTouch and now iPhone. Apple has demonstrated that it is willing to bring out new products in new markets without regard for "market conditions", and as a result drive new revenues and profits. It would be easy to delay new investments and new launches in this economy to drive up profits, but the company CEO maintains commitment to internal Disruptions and ongoing White Space to drive growth – especially while competitors are retrenching.
Another recent example is Coach (see chart here) the maker of high-end luggage, leather goods and fashion accesories. Most high-end goods are seeing sales plummet. But Coach used its scenarios about the future to invest in its 103 factory outlets and many discount outlets. Instead of running to the high end and doing more of the same, while cutting costs, Coach has put new products into the market and offered new discount programs – in addition to its growth of outlets beyond the traditional Coach stores (read article about Coach here.)
Any company can take action at any time to grow. All it takes are plans based on future scenarios, rather than based on just doing "more of the same." Being obsessive about competitors allows for launching new products before anyone else, and gaining share. And using Disruptions to create White Space for successful new business development. This can happen at any time – not just when times are good. In fact, when times are bad (like now) it can be the very best time to focus on growth. When competitors are trying to retrench it creates the opportunity to change how customers view you, and grow. This might well be the best time ever to not only Disrupt your own thinking – but Disrupt competitors by changing your Success Formula and doing what’s not expected!
by Adam Hartung | Oct 20, 2008 | In the Swamp, In the Whirlpool, Leadership, Lock-in
With the economy soft, and sales harder to come by, more companies are thinking about what changes they can make to be more competitive. But what we’re seeing now is the emergence of competitors that Disrupted when times were good, and the decline of those who chose to Defend & Extend old Success Formulas in order to maximize profits back then.
Let’s take a look at Sun Microsystems (see chart here.) Trading today at $5.25/share, Sun was a darling of the internet boom – peaking at about $250/share in 2000. But $5.25/share (adjusted for splits) is about what Sun was worth in the mid-1990s. At that time Sun was a big winner as internet usage exploded and the telecom companies – as well as industry participants from tech to manufacturers – could not get enough Unix servers. Everyone was predicting that the need for servers was never going to decline, and Sun was "#1 with a rocket", to use an old radio term for a big hit song.
In 1995 Sun held a management retreat for all its managers and higher in Monterey, CA. Scott McNealy, the chairman and CEO, asked the audience "if you could buy Apple, would you do it?" The audience reacted with a positive roar! These managers all saw the benefit of having a low-price workstation line to augment their expensive servers. Further, Unix was notoriously difficult to use and the hope of bringing a better GUI interface was very appealing. They saw that if they could help the sales of Macs it would be a great way to slow the Wintel (Microsoft Windows plus Intel microprocessor) PC platform – which was the biggest competitor to Unix. And Apple had lots of applications in media and the office that eluded the very techie Sun products. These managers, directors and V.P.s had all thought about an Apple + Sun merger, and they saw the opportunities.
Mr. McNealy looked at the raucous, hopeful crowd and said, "you think you could fix that mess? With all we have to do to keep up with market growth, you don’t see buying Apple as a major diversion?" The air was sucked out of the room. Obviously, Apple was troubled. But there was real hope for growth in new and unpredictable ways from combining the two companies, their positive brands, their great technologies and their creative roots. But Mr. McNealy went on to tell the audience that the executive team had thought about the acquisition, and just couldn’t see doing it. It would be too disruptive.
That management retreat had as its keynote speaker Gary Hamel, author of Competing for the Future. Mr. Hamel gave a great presentation about how his research showed great companies figured out their core – their core strength – and then reinforced that strength. The rest of the retreat was spent with the management personnel in various break-out sessions defining the "core" at Sun Microsystems and then identifying how Sun could reinforce that core.
Of course, it only took 5 years for the internet bubble to burst. The telecoms were some of the first victims, with their value plummeting. Demand for servers fell off a proverbial cliff. Meanwhile, Unix servers from IBM and others had increased in performance and capability – giving the once high-flying Sun a competitive kick in the pants. Worse, the power of Wintel servers had continued to increase, making the price difference between a Unix server and a Wintel server much less acceptable. IT Department customers were beginning to shift to PC servers in order to lower cost. And Sun, with its focus on servers, had no desktop product to sell – no competitor to the PC – nor any software products to sell. The internet market was rapidly shifting toward Cisco and those who sold robust network gear. Sun was watching its market disappear right out from under it – and happening in weeks.
Now it’s unclear what the future holds for Sun Microsystems (read article here). Sales have not recovered. Losses have been mounting. Sun’s dealing with hundreds of millions of dollars in restructuring costs (again), and some of its businesses are now worth so little that the company is probably going to be forced to write off millions (maybe billions) in goodwill on the books. If it has to write off too much good will, Sun could end up declaring bankruptcy.
The time for Disruption at Sun was when business was good – in 1995 and 1996. Had they bought Apple, who knows what combination might have happened. At the time, Cisco (see chart here) was growing quite handily. But Cisco built into its ethos the notion that the company would obsolete its own products. This desire, to never ride too far out the product curve and instead cannibalize their own sales before competitors did, has allowed Cisco to keep growing revenues and profits. Instead of "focusing on its core" Cisco keeps looking for the competitors (companies and products) that could make Cisco obsolete – and using those competitors to help Cisco drive growth.
Even with Disruptions, many competitors will not survive this recession. Not because the managers are lazy or sloppy. But because they will become victims of better competitors who built Success Formulas more aligned with future market needs. Those who Disrupted in 2005 and 2006, who positioned themselves for globalization and rapid market shifts, will do relatively better in 2009 than those who chose to Defend & Extend what they used to do. The best time to Disrupt and create White Space is when things are good – because that prepares you to win big when markets shift and times get tough.
by Adam Hartung | Oct 17, 2008 | General, Innovation, Leadership, Openness
Ever heard of "confirmation bias"? It’s a term that refers to how our behavior changes due to Lock-in. As we develop Lock-in we don’t see all the information around us. Instead, we start filtering information according to our Lock-ins – focusing on the things related to what we know and mostly ignoring things not related. As a result we often start missing things that could be really important. Consider someone who makes hammers (or pheumatic hammers) and nails. They can easily ignore glues, or super-powerful adhesive tape, when those solutoins might well be a greater long-term profit threat than offshore hammer and nail manufacturers!
Another example. A recent headline in The Chicago Tribune read "Abbott Absorbed with new Stent Therapy" (read article here). (See Abbott chart here) The article talks about how newly engineered dissolvable stents have been working extremely well in trials. If you aren’t in the health care industry, or being treated for a possible heart attack, or an investor in Abbott, you might well completely ignore the article. But, that would be a mistake.
Bio-engineering is going to be as important to our future as air travel and computers became. It was easy for people in 1928 riding horses, or driving a Model A, to think air travel was something exotic and only interesting for people obsessed with flight. But, we all know that by the end of WWII airplanes had changed the world, and the way we travel. Likewise, it would have been easy for people with slide rules and adding machines in 1968 to ignore computer discussions when they were mostly about mainframes in air conditioned basements. Yet, by the 1980s computers were everywhere and businesses that were early adopters figured out how to gain significant advantages. And that’s the truth about bio-engineering today. It will make a huge difference in all aspects of our lives.
Fistly, simple things. Like we’re more likely to live longer. But beyond that, injuries will be less onerous. As we learn how to engineer products that are somewhere between inanimate and living, we are able to come closer to the bionic man/woman. We’ll be able to repair major injuries in a fraction of the time. We’ll be able to regrow damaged organs – from skin to livers. We’ll regrow nerves – making paralyzation a temporary phenomenon and dramatically lowering the impact of strokes. Injured soldiers will return to the battlefield within days – instead of going home badly hurt. Senior citizens will regrow damaged or arthritic joints, instead of replacing them with major surgery making it possible for them to work much longer. Athletes will be able to increase performance in ways we’ve never before imagined – and the line between "natural" and "performance enhanced" will become impossible to define.
But think bigger. There is no computer in our bodies, yet we do amazingly complex analytics in record speed. Even a 2 year old can recognize the difference between a bird and a plane in a fraction of a second. Ask a computer to do that simple task! So we can expect a wave of bio-computers to be developed. Devices that use chemical reactions to process information rather than electrons acting in logic gates. How will we apply this technology to our lives and work? Cars that drive themselves? Super-secure baby walkers? Pens that never misspell words? Foods that never overcook? Foods that never spoil? Clothes that change to dissipate or hold-in heat depending on ambient temperature? Floors that purge themselves of dirt – pushing it to the surface for automatic removal?
When we are able to make chemicals – even cells – smart, what happens to the world around us? Do we ever need to go to a dentist if we can have smart toothpaste that eats away tarter and placque, applying flouride, without going into the enamel? Can we eat anything we want if we take products that absorb poison – or possibly fats – and discharge it through the system? Do cosmetics become obsolete if we all have skin creams that repair damage and keep skin forever young? What happens at companies like Procter & Gamble?
As you go to work and do your job, it’s easy to get focused on the industry in which you compete – and the traditional way that industry worked. You stop looking sideways at technologies in other fields not related to what you do today. And that can be a huge mistake. Because it’s often someone that takes a technology you ignored and apply it to your customers’ needs who makes you less valuable. Microsoft singlehandedly, and without much thought, destroyed the encyclopedia business by giving away what was considered a third-rate product (Encarta – for more on this story read Blown to Bits by Evans & Wurster). Encyclopedia Britannica never saw it coming as they kept trying to print a better product.
Spend some time reading ALL the headlines – and keep your eyes open for opportunities that you previously never considered.
by Adam Hartung | Oct 16, 2008 | General, In the Rapids, In the Swamp, Leadership, Lock-in, Openness
Traders help markets function. Because they take short-term positions, sometimes hours, a day or a few days, they are constantly buying and selling. This means that for the rest of us, investors who want to have returns over months and years, there is always a ready market of buyers and sellers out there allowing us to open, increase, decrease or close a position. Traders are important to having a constantly available market for most equity stocks. But, what we know most about traders is that over the long term more than 95% don’t make money. Despite all the transaction volume, their rates of return don’t come close to the Dow Jones Industrial Average – in fact most of them have negative rates of return. Only a few make money.
For investors it’s not important what the daily prices are of a stock, but rather what markets the company is in, and whether the markets and the company are profitably growing. On days like today, which saw the DJIA down triple digits and up triple digits in the same day (read article here), it’s really important we keep in mind that the value of any company in the short term, on any given day, can fluctuate wildly. But honestly, that’s not important. What’s important is whether the company can exp[ect to grow over months and years. Because if it can, it’s value will go up.
Let’s take a look at a couple of companies in the news today. First there’s Google (see chart here). Despite the recession, despite the financial sector meltdown and despite the wild volatility of the financial markets, the number of internet ads continued to go up. Paid clicks actually went up 18% versus a year ago. (read article about Google results here). Gee, imagine that. Do you suppose that given the election interest, the market interest during this financial crisis and the desire to learn at low cost more people than ever might be turning to the internet? Does anyone really think internet use is going to decline – even in this global recession? Google is positioned with a near-monopoly in internet ad placement (Yahoo! is fast becoming obsolete – and is trying to arrange to use Google technology to save itself see Yahoo! chart here]). By competing in a high growth market – and constantly keeping White Space alive developing new products in this and other high-growth markets – Google can look out 3, 5, 10 years and be reasonably assured of growing revenues and profits. And that’s irrespective of the Dow Jones Industrial Average (where Google might well replace GM someday) or whether Microsoft buys the bumbling Yahoo! brand (read about possible acquisition here).
On the other hand, there’s Harley Davidson (see chart here). Motorcycles use considerably less gasoline than autos, so you would think that people would be buying them this past summer as gasoline hit record high $4.00/gallon plus prices. Yet, Harley saw it’s sales tumble 15.5% (much worse than the heavyweight cycle overall market drop of 3%) (read article about Harley Davidson’s results here.) The problem is that Harley is an icon – for folks over 50! The whole "Rebel Without a Cause" and "Easy Rider" image was part of the 1940s post war rebellion, and then the 1960s anti-war rebellion. Both not relevant for the vast majority of motorcycle buyers who are under 35 years old! Additionally, long a company to Defend & Extend its brand, Harley Davidson has raised the average price of its motorcycles to well over $25,000 – a sum greater than most small cars! Comparably sized, and technologicially superior, motorcycles made by Japanese manufacturers sell for $10,000 and less! Worse, the really fast growing part of the market is small motorcycles and scooters that can achieve 45 to 90 miles per gallon – compared to the 30 mile per gallon Harley Davidsons – and Harley has no product at all in that high growth segment! Harley Davidson is a dying technology and a dying brand in an overall growing market. No wonder the company is selling at multi-year lows (down 50% this year and 67% over 2 years) . Even though the stock market may be down, Harley Davidson is unlikely to be a good investment even when the market eventually goes back up (if Harley survives that long without bankruptcy!)
Watching the Dow Jones Industrial Average, or the daily stock price of any company, isn’t very helpful. Daily, prices are controlled by the activity of traders – who come and go incredibly fast and mostly lose money. What’s important is whether the company is keeping itself in the Rapids of Growth. Google is doing a great job at this. Harley Davidson is Locked-in to its old image and thoroughly entrenched in trying to Defend & Extend its Lock-in – completely ignoring for the past decade the more rapid growth in sport bikes, smaller bikes and scooters. As investors, customers, employees and suppliers what we care about is the ability of management to Disrupt their Lockins and use White Space to stay in the Rapids of growth.
by Adam Hartung | Oct 15, 2008 | Defend & Extend, In the Swamp, Leadership, Lock-in
Are people risk averse? Or do they like risk? Would you believe those questions don’t matter, when trying to understand risk?
Today we’re being told that the bankers who ran some of the world’s largest investment banks were taking ridiculous risks – and the decisions to take on those risks is now undoing financial services globally. Were these bankers all gunslingers – willing to take crazy risks? Would you believe me if I said they didn’t think they were taking much, if any risk?
Risk is a relative term. What’s "risky" is really a matter of perception. Let’s say I drive to work on a local highway every day. The traffic cruises at 65 miles per hour, but since I’m always late I drive 75. On a particularly late day I drive 80. Because I usually drive 75, the relative risk seems small. But the reality is that at 80 the chances of a minor mishap becoming a disaster are far greater. Once you are comfortable driving 75, the perception of greater risk is only the marginal difference between 75 and 80 – so it seems small. Over time, if I choose to keep driving a bit faster, within short order I’ll be driving 100 miles per hour. This may seem crazy – yet there are many drivers on Germany’s high-speed autobahn highways that drive this fast – and faster!! To those of us who poke along every day at 65 miles per hour these speed demons of the autobahn seem to be taking a crazy risk – but to them, working up to those high speeds gradually over time, the relative risk now seems quite small.
And this is what happens in our business. When a bank takes a deposit, it then can loan money. But should it lend dollar for dollar – deposit compared to loans? While nonbankers might say "don’t lend more than you borrowed" that seems ridiculously conservative to bankers. Bankers say that because most loans are repaid, they only need enough deposits to cover the normal ebb-and-flow of the cash demands on the institution. So they feel comfortable loaning out 2 or 3 dollars for every dollar of deposit. Of course, the more loans the banker makes and the rarer defaults occur, the more likely the banker will start to give loans that are 4 times the amount on deposit. Where does this stop? We know with Lehman Brothers the leverage reached 30 to 1 (read about financial institution leverage and regulatory recommendations here)!!! It didn’t take many defaults for Lehman to suddenly find itself unable to meet its obligations and disappear.
The bankers at Lehman Brothers learned not to fear what they knew. Not only that, but they hired immensely smart mathematicians and physicists to try calculating the amount of risk they were taking on with their leverage and their obligations. Using mathematics far beyond the grasp of all but a fraction of the population, they asked scholars to try calculating the risk in the loan packages they sold, and the credit default swaps. They continuously studied the risk. The more they studied the easier it was to take on more risk. The longer they kept doing what they had always done, and the more knowledgable they became, the less risky they perceived their behavior. Of course, as we now know, Lehman Brothers took on far more risk than the company, its investors and its regulators could afford.
The other side of this coin is how we perceive things we don’t know. Almost none of the buggy manufacturers in the early 1900’s transitioned to making automobiles. To them automobile manufacturing involved engines, and that was too risky. By the time buggy manufacturers felt they had to change, it was too late. When we are brought new opportunities to evaluate we don’t evaluate the real merits of upside and downside. Instead, we first question if the opportunity falls into our realm of expertise. If not, we deem it too risky. Because we don’t know much about it, we choose to think it’s too risky for us. Yet, the risk might be quite low.
Take for example buying Microsoft stock in the early 1990s as PC sales skyrocketed and Microsoft already had a monopoly on operating systems – and was building its monopoly in office software. The risk was quite small, since all Microsoft needed was for PCs (PCs made by anybody – it didn’t matter) to continue selling. That was not a high-risk bet. Yet most investors shied away because they didn’t understand tech stocks – including Warren Buffet who famously bought a mere 100 shares, declaring he didn’t understand the business! (Just think, if Warren Buffet had bought a large chunk of early Microsoft, he’d be as rich as himself plus Bill Gates today – now that’s a mind-boggler.)
When markets shift, relative risk can be deadly. If we continue to perceive things we know as low risk, we will "double down" our bets on customers, market segments, technologies and products that have declining value. If we think that doing what we always did will produce old returns we will do what’s comfortable, even when the market is moving headlong toward new solutions. Look at U.S. manufacturers of televisions (remember Quasar, Magnavox and Philco?). Experts in vacuum tubes and other analog technologies, plus the manufacturing expertise for those components, they were all late seeing the shift to solid-state electronics and all ended up out of business. All that expertise in the old technology simpy wasn’t worth much when the markets shifted – even though the new technology seemed risky while the old technology seemed familiar, and reliable.
When markets shift, the greatest risk is the "do what we know" scenario. Although it’s the easiest to approve, and the most comfortable – especially at times of rapid, dynamic change – it is the one scenario guaranteed to have worsening results. There’s an old myth that the last buggy whip manufacturer will make huge profits. Guess again. As buggy whip demand declines everyone loses money until most are gone. But there isn’t just one remaining player. The few who remain constantly see prices beaten down by the excess capacity of buggy whip designers, manufacturers and parts suppliers ready to jump in and compete on a moment’s notice. Trying to be last survivor just leaves you bloody, beaten up and without resources to even feed yourself.
It’s not worth spending a lot of time trying to evaluate risk. Because rarely (maybe never) in business is there such a thing as "absolute risk" you can measure. Risk is relative. What might appear risky could well be merely a perception driven by what you don’t know. What might appear low risk could be incredibly risky due to market shifts. So the real question is, are you Disrupting yourself so you are investigating all the possibilities – good and bad? And are you keeping White Space alive so you are experimenting, testing new ideas? New products, new technologies, new markets, new distribution systems, new components, new pricing formulas, new business models —- new Success Formulas? The only way to avoid arguments of risk is to get out there and do it – so you can get a good handle on what works, and what doesn’t, in order to make decisions based on opportunity assessment rather than Lock-in.
by Adam Hartung | Oct 14, 2008 | Uncategorized
On Monday the Dow Jones Industrial Average jumped almost 1,000 points. Just as I was saying most investors should be selling equities. Do I wish I hadn’t said that? Well………no.
We’ve seen a lot of things change the last 8 years as globalization has impacted everyone. We saw a "crisis" in manufacturing as the offshore trends of the 1980s became a wholesale exodus of manufacturing from the developed to the developing world. We saw one of the largest white collar occupations in the developed world, IT services, undergo a crisis as everything from programming to data center management underwent wrenching change. Even the largest players shifted from EDS and Accenture to TCS and Infosys (both of which keep wracking up double digit quarterly growth along with 40% margins!) And more recently we’ve seen financial services start the shift from national to global as large American (and some large European) banks, insurance companies and investment banks are seeing their assets and reserves dwindle and governments are stepping in with quasi-nationalization programs.
There are still many industries that will see several more shifts. Today the "medical tourism" market is in its humblest beginnings – yet the trend toward people flying from the developed countries to less developed for everything from hip replacements to heart surgery is happening (read article here). And bio-engineering research has flourished outside the U.S. while domestic bans and grant-letting risk aversion has led to reductions in everything from stem-cell research to human application of bio-engineered products. Big changes are still in front of us. As are changes in who makes automobiles and airplanes – as well as who builds national or state infrastructure (in the USA and in the developed world) – and what brands remain leaders and which emerge.
So if the 900+ point jump in the DJIA made you more comfortable, it’s just the calm before the storm – or maybe the eye of the hurricane. More is coming. The jump did not indicate a "return to normal", but rather simply a daily reaction to events – in this case global action to shore up bank reserves with public money. From 1980 through 2000 was the greatest run in the history of American equities. It was possible to make money simply by purchasing index funds (baskets of equities) and holding them. But that era has passed. And things are going to change. Global market shifts cannot be ignored even by large American institutions – be they governmental (the SEC or FDIC), quasi-governmental (Freddie Mac and Fannie Mae) or non-governmental (Bear Sterns, Lehman Brothers, AIG, etc.). Now that the world has been populated with a large number of private equity funds and hedge funds, the landscape has changed for investors – in the USA and around the world.
Does that mean all equities will do poorly? Of course not. But only those who adjust to market shifts will do well. Johnson & Johnson has long been a company that uses internal Disruptions and maintains White Space to find opportunities for global growth. And we’re seeing that amidst the recent market problems J&J is announcing it will continue to grow sales and profits through its combination of consumer goods, medical devices and prescription drug products sold in the USA and around the world (read article here.) Meanwhile PepsiCo – one of the globe’s best known branded goods companies – announced it sees itself tied up in knots by fluctuating commodity prices and softening of beverage and snack sales. PepsiCo is expecting a profit problem, and is planning layoffs (read article here.) Even though Pepsi was the first soft drink company to globalize, it’s not adjusting fast enough and effectively enough to market shifts.
So, it will be up to investors to be a lot more careful about investing in the future. What used to portend high rates of return cannot be depended upon any longer. For many Americans, they will for the first time have to get a lot smarter about non-U.S. companies. And they will have to invest based upon future market positions – which could change rapidly – not based upon company legacies. Because overall, we can expect a lot of change among the market leaders as this shifting economy accelerates.
In the end, those businesses that spend a lot of time scenario planning the future will do better than those who try to focus on past "core" businesses. Those who obsess about competitors will do a lot better than those who obsess about "execution." Those who frequently Disrupt themselves in order to avoid Defending & Extending the past will do better than those who seek to reinforce Lock-in. And those who keep White Space alive with new projects that have the permission and resources to define a new Success Formula will do the best of all. And finding these companies will be harder and harder in a world where the private equity and hedge fund managers can create their own deals (like the recent Berkshire Hathaway investment in GE) than individuals will be able to do – because the investment banks are rapidly losing their positions as the brokers.
by Adam Hartung | Oct 10, 2008 | Defend & Extend, General, Leadership, Lifecycle, Openness
We talk a lot about evolving markets. When we use that phrase, evolving, we think of gradual change. In reality, evolutionary change is anything but gradual.
People think of change as happening along the blue line to the left. A little change every year. But what really happens is like the red line. Things go along with not much change for a very long time, then there’s a dramatic change, and then an entirely new "normal" takes hold. This big change is what’s called a "punctuated equilibrium."
What we’ve recently seen in the financial services industry is a punctuated equilibrium. For years the banks went along with only minor change. They kept slowly enhancing the products and services, a little bit each year. Regulations changed, but only slightly, year to year. Then suddenly there’s a big change. Something barely understood by the vast majority of people, credit default swaps tied to subprime mortgage backed securities, became the item that sent the industry careening off its old rails. That’s because the underlying competitive factors have been changing for years, but the industry did not react to those underlying factors. Large players continued as if the industry would behave as it had since 1940. Now, suddently, the fact that everything from asset accumulation to liability management and regulation will change – and change rapidly.
When punctuated equilibrium happens, the old rules no longer apply. The assumptions which underpinned the old economics, and norms for competition, become irrelevant. Competition changes how returns will be created and divvied up. Eventually a new normal comes about – and it is always tied to the environment which spawned the big change. The winners are those who compete best in the new environment – irrespective of their competitive position in the old environment. The one thing which is certain is that following the old assumptions is certain to get you into trouble.
I’ve been surprised to listen to "financial experts" on ABC and CNBC advising investors since this financial services punctuated equilibrium hit. Consistently, the advice has been "don’t sell. Wait. Markets always come back. You only have a paper loss now, if you sell it becomes a real loss. Just wait. In fact, keep buying." And I’m struck as to how tied this advice is to the old equilibrium. Since the 1940s, it’s been a good thing to simply ride out a downturn. But folks, we ain’t ever seen anything like this before!! This isn’t even the Great Depression all over again. This is an entirely different set of environmental changes.
In reality, the best thing to have done upon recognizing this change would be to sell your equities. The marketplace is saying that global competition is changing competition. How money will be obtained, and how it will be doled out, is changing. Old winners are very likely to not be new winners. Competitive challenges to countries, as well as industries and companies, means that fortunes are shifting dramatically. No longer can you consider GM a bellweather for auto stocks – you must consider everyone from Toyota to Tata Motors (today the total equity value of Ford plus GM is 1/10th the value of Toyota). No longer can you assume that real estate values in North America will go up. No longer can you assume that China will buy all the U.S. revolving debt. No longer can you assume that America will be the importer of world goods. How this economic change will shake out – who will be the winners – is unclear. And as a result the Dow Jones Industrial Average has dropped 40% in the last year.
To all those television experts, I would say they missed the obvious. How can it be smart to have held onto equities if the value has dropped 40%? Call it a paper loss versus a real loss – but the reality is that the value is down 40%! To get back to the original value – to get your money back with no gain at all – will take a return of 5% per year (higher than you could have received on a guaranteed investment for the last 8 years) for over 10 years! That’s right, at 5% to get your money back will take 10 years!! Obviously, you would have been smarter to SELL. And every night this week, as the market fell further, these gurus kept saying "hold onto your investments. It’s too late to sell. Just wait." Give me a break, if the market is dropping day after day, how is it smart to watch your value just go down day after day! You should quote Will Rogers and say to these investment gurus "it’s not the return on my money I’m worried about, it’s the return of my money"!!
Or read what my favorite economist, Mr. Rosenberg of Merrill Lynch wrote today "There is no indication…that the deterioration in the fundamentals is abating…all the invormation at hand suggests that the risk of being underinvested at the bottom is lower than the risk of being overexposed to equities….in other words, the risk of geing out of the market right now is still substantially less than the risk of continuing to overweight stocks…what matters now is to protect your investments and preserve your capital." (read article here)
The world is full of conventional wisdom. Conventional wisdom is based on the future being like the past. But when punctuated equilibrium happens, the future isn’t like the past. And conventional wisdom is, well, worthless. What is valuable is searching out the new future, and learning how to compete anew. Right now it’s worth taking the time to focus on future competitors and figure out how you can take advantage of serious change to better your position. You can come out on top if you head for the future – but not if you plan for a return to the past.
