Over the last few months I have kept going back and forth on Professor Clayton Christensen’s paradox he has named “The Capitalist’s Dilemma.” This ‘hit the world’ when he wrote a piece in the New York Times last November, 2012. I gather this has been one of his best, if not his best read article ever.
As I’m sure you are aware Professor Christensen must be regarded as if not the top, then one of the top experts, on innovation. For me he sits at the top, so when he explores a theory, you stop to think about what he is trying to explain. It takes some of us mere mortals awhile to grasp and relate to these ideas and theories.
So why has this caught my attention?
Simply incremental innovation (sustaining, efficiency innovation) is getting us no-where fast. You see so many people within many of our organizations, big and small, working longer hours, feeling reduced identification with what they are doing and lacking that sustaining satisfaction.
There are millions out of work that could offer positive economic activity contribution. We could have innovation that is exciting, that is empowering and this does come from working on challenges that are game-changing concepts, those we often suggest today as distinctive, disruptive, breakthrough, radical and certainly become empowering.
So what makes “the Capitalists Dilemma” so relevant today?
The basic concern today in most of our developed economies there is this lack of real growth. The worry continues that each capital stimulus round seemingly does not create and offer that number of new jobs you would expect. Old ones are being constantly being stripped away at a much faster rate. We are seemingly caught in a broad jobless economic recovery.
At the heart of this ‘dilemma’ seems to lay the issues of the type of innovation being employed, more incremental and short-term, then the way we measure profitability and where this capital is being invested to offer increased returns. We lack the political and leadership will, or understanding, to change this often short term result orientation.
Again when you read the article Professor Christensen talks of a doctrine of New Finance, taught over recent years by him and countless others in Academia, of failing to catch up with the new realities and teaching theories we need to operate in a changing world.
We seem to be faced with focusing on jobless innovation outcomes that are measured by magnifying each dollar invested by the classic ratios of RONA (return on net assets), ROCE (return on capital employed) and I.R.R (internal rate of return), used more when capital was scarce and costly so you ‘husband’ your resources.
We are not thinking about accounting more in creating new jobs and encouraging that people are (gainfully) employed within any existing capital equation. We are looking for ‘just’ wealth creation and not job creation.
Yet today capital is abundant and cheap
Today capital is abundant and cheap yet new skills are becoming scarcer, education is lagging the new knowledge economy and its increasing need and we continue to apply these old rules of measuring outcomes in the wrong way in a rapidly changing world. Professor Christensen argues that successful companies are making the right economic decisions within the wrong situation or economic needed times. Capital is not scarce, it is abundant, yet it seems we are investing in the wrong types of innovation. We still are measuring capital as though it was scarce when it is not.
Companies continue to drive assets off their books, they choose innovations that provide fast returns, they continue to outsource and they consistently keep the time horizons deliberately short for improving the rates of return and constantly higher dividends in focusing on the quick wins.
Professor Christensen suggests there are three types of innovation where jobs occur or are lost.
Empowering innovations: these create jobs, because they require more and more people who can build, distribute, sell and service these products. Empowering investments also use capital — to expand capacity and to finance receivables and inventory. Empowering innovations are essential for growth because they create new consumption.
The second type is “sustaining” innovations: these replace old products with new models. They replace yesterday’s products with today’s products and create few jobs. They keep our economy vibrant — and, in dollars, they account for the most innovation. But they have a neutral effect on economic activity and on capital.
The third type is “efficiency” innovations: these reduce the cost of making and distributing existing products and services. Taken together in an industry, such innovations almost always offset the net number of new jobs, because they streamline processes. But they also preserve many of the remaining jobs — because without those, entire companies and industries would disappear in competition against companies abroad that have innovated more efficiently.
Efficiency innovations also emancipates capital. Without them, much of an economy’s capital is held captive on balance sheets, with no way to redeploy it as fuel for new, empowering innovations until it is released.
Professor Christensens view here is that “as long as empowering innovations create more jobs than efficiency innovations eliminate, and as long as the capital those efficiency innovations liberate is invested back into empowering innovations, we keep recessions at bay” but suggests we are today not doing that.
The innovation machine is out of balance today
Today, our innovation activities are out of balance. I can strongly relate to this on where organizations are spending their innovation dollars: in short-term fixes, incremental thinking and efficiency relating projects, not on deepening innovation capacity.
We are presently encouraging our managers to measure profitability based on a return on net assets, or return on capital employed. That encourages companies to liberate their capital, so they invest in efficiency innovations, which means they can make even more money with fewer resources, so why would they invest in those more-longer term capital-intensive innovation projects under “empowering innovation?”
Professor Christensen offers this thought “what the economy ultimately needs are empowering innovations—like the Model T, the transistor radio. Empowering innovations require long-term investments, which tie up capital for years and years. So companies are using capital to create more capital, and the world is awash in the result, more capital but the innovations we need to advance aren’t there”- this accumulating capital is remaining idle.
Today’s growth sustaining challenges are not framed properly
The need is to “unlock” the right type of innovation that creates a renewed, sustaining wealth for economic and industry revitalisation. There needs to be a shift from investing in efficiency innovation that tend to cut out jobs, where the focus is constantly on focusing on less capital in use and fewer people so that the extra release of capital is re-invested in more efficiency, not in disruptive or empowering innovation. The present day realities within business are how success is measures and if that is on RONA, ROCE and I.R.R then that is where the focus will remain.
Changing the existing paradigms takes time and convergence.
Empowering innovation takes time – anything from six to twenty years depending on many of the necessary long-term wealth creation factors required based on research and vision.
Two factors are well in place. We have capital, almost at zero borrowing rates, that the future net present value of any future stream of growth is identical to one that yields a return in weeks. We have a growing and compelling set of social needs to resolve many grand societal challenges that come more from empowering innovation.
Offsetting this we have a powerful set of factors to change if we see job creation as part of any economic recovery. We first have this current risk-aversion prevailing and we spend public capital on propping up ailing industries but do not pursue the alternatives with a grander vision and plan.
A bolder innovative framing is necessary
We need bolder re-framing of our challenges, a clear recalibration of our measuring success and a set of cohesive strategies, policies and political judgements. What will eventually bring this to the boil is the unrest, unemployed, stagnating economies, risks of growing debt and loss of property and capital achieved from the past unless those in policy decision don’t ‘face up’ and make bolder, imaginative steps.
Our markets need stimulating and this will either be from importing the type of goods that meet our declining economic needs as those are produced more efficiently elsewhere. Not a good prospect to face.
Also, sadly the very company that needs financing does not get the financing it needs. Capital is presently hoarded in the billions on pristine balance sheets of the biggest corporations; billions are inert and un-invested in private equity funds, sitting in countless private bank accounts offshore. According to one recent report $1.8 trillion just sits in American listed firms alone.
We are failing to translate today’s set of challenges because the metrics applied are inappropriate to our needs today and in the future. We are applying solutions often in their vacuum, they boost sufficiently in small ways but lack boldness, changing the dynamics and policies, the way we should be measuring and valuing success.
We need to reflect where we are in the West – far too timid, applying often just a real hard dose of harsh austerity, minimal structural reform that have a significant constraint on growth. We fail to bring people into their rightful place within the equation, they are being progressively written out of the capital model we seem to be locked into. We apply “selective” innovation solutions to meet mostly short-term gains.
As Professor Christensen observes we are in a real innovation dilemma, we need to re-think the way we measure and account for jobs and skills within any recovery, otherwise we will continue to be locked into this jobless era where capital on its own will not give us the real growth we need. Unless we change our economic thinking we might be facing a difficult future where innovation is far less attractive as it will not be empowering, just efficient or sustaining.
image credit: frumforum.com
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Paul Hobcraft runs Agility Innovation, an advisory business that stimulates sound innovation practice, researches topics that relate to innovation for the future, as well as aligning innovation to organizations core capabilities.