Despite of falling interest rates, businesses are sitting on massive amounts of cash and failing to invest in innovations that might foster growth (and jobs). There are three kinds of innovations:
1. Performance Improving Innovations that replace old products with new and better models. They generally create few jobs because they’re substitution. When customers buy the new product, they usually don’t buy the old product. Therefore the jobs growth is limited.
2. Efficiency innovations that help companies make and sell mature, established products or services to the same customers at lower prices. Efficiency innovations play two important roles. First, they raise productivity, which is essential for maintaining competitiveness but has the side effect of eliminating jobs. Second, they free up capital for more productive uses.
3. Market Creating Innovations that transform complicated or costly products so radically that they create a new class of consumers or a new market. Say computers: The mainframe computer cost hundreds of thousands of rupees and was available to a very small group. Then the personal computer brought the price down to Rs.60000/- which made it available to millions of people in the developed world. In turn, the smartphone made Rs.1000/- computer available to billions of people throughout the world. Therefore, if only the skilled and the rich have access to a product or a service, then you can reasonably assume the existence of a market-creating opportunity.
The combination of a technology that drives down costs with the ambition to eradicate non-consumption to serve new customers can have a revolutionary effect. Apple’s managers were on the lookout for a device that could enable convenient, affordable storage of a consumer’s music library, with anytime, anywhere access. They saw in Toshiba’s development of a 1.8-inch hard drive – the opportunity to fulfil this job, which triggered the development of the iPod/iTunes business model. Market-creating innovations need capital to grow, sometimes a lot of it. But they also create a lot of jobs, even though job generation is not an intended effect but a happy consequence.
The mix of performance-improving, efficiency and market-creating innovations have a major impact on the job growth of industries and companies. But why do companies invest primarily in efficiency innovations, which eliminate jobs, rather than market-creating innovations, which generate them?
Market-creating innovations appear less attractive for investments because they bear fruit only after 5 to 10 years; in contrast, efficiency innovations typically pay off within a year or two. Efficiency innovations almost always seem to entail less risk than market-creating ones because a market for them already exists. Competing for a share in an established market appears to be easy, even in the face of fierce competition. Investing to create a new market appears to be difficult, even in the absence of competition and with the prospect of a much more sizable and profitable opportunity. The result is that institutions meant to facilitate capital generation do not do so.
Four solutions that may make the capital flow for market creating innovations are as follows:
• Re-purposing Capital – Today much of capital is what we might call migratory. It lacks a home. When invested, it wants to exit as quickly as possible and to take out as much additional capital as possible before it does. Imposing a tax on financial transactions to reduce high-frequency trading would increase liquidity and therefore investment in innovation. A company approach would be to reward shareholders for loyalty.
• Re-balancing Business Schools – a lot of the blame for the non-investment dilemma rests with schools of business. In mapping the terrain of business and management, they have routinely separated disciplines that can only properly be understood in terms of their interactions with one another.
• Re-aligning Strategy and Resource Allocation – the resource allocation processes’ bias against market-creating opportunities, the solutions were founded on the insight that setting the risk-adjusted cost of capital in the valuation of opportunities is a choice. If we are realistic about the true cost of capital, investing in the long term becomes easier also a broad support for bringing transparency to R&D spending through the creation of an “innovation scorecard”. The intent is to give leaders an internal tool for analyzing the innovation pipeline and the prospects for growth it contains.
• Emancipating Management – many managers yearn to focus on the long term but don’t think it’s an option. Because investors’ median holding period for shares is now about 10 months. They feel pressure to maximize short-term returns. Many worry that if they don’t meet the numbers, they will be replaced by someone who will.
The job of a manager is thus reduced to sourcing, assembling, and shipping the numbers that deliver short-term gains. However it is important to remember that the point of a business is to create customers. Managers who take the time to understand the innovator’s dilemma, have been able to respond effectively when faced with disruption.
– Prof. (Dr.) N. K. Garg
(www.nkgposts.com)