for shareholder value in the age of the internet
living on the fault line
the weakness in strength
This is the fourth and final thought.
This is for the non-dot.coms, non-startups, non-venture folks.
This is for a constituency of people who actually have real
businesses that have been in existence for a while, and, God forbid,
they have been successful.
It turns out that the more successful you have been, the
greater your challenge for meeting a disruptive technology.
It's not an accident that Xerox is struggling.
Xerox is a great company; Kodak is a great company; Digital was
a great company, but those are the companies that have the most
challenges. A guy named
Clayton Christensen has really nailed this in a book called The
Innovator's Dilemma. Clay
and I are trying to collaborate because our two books are focused on
the same problem. I want
to talk about this as a way of closing out the night.
What does this kind of company do to manage for shareholder
value in the age of the Internet?
As a going concern, you have to understand that when the
disruptive technology comes in¾let’s
say you’re George Fisher, the Chairman of Kodak
and digital photography is announced¾all
of a sudden the world looks at you and begins to say, "You might
be on the wrong platform. We
understand that you have a great position in film, but film might be
going away. All of this
ability you have¾this
branding, these great little yellow boxes you have in stores¾they
might not be what you need. By
the way, these new guys, they have some very cool things, like they
can share on America
Online. You can't do
that.” All of a sudden,
this great position of yours that you have spent decades building is
challenged, but nothing has
“Time out,” you say. “Have
you looked at a digital photograph?
Don't you want to actually see the face of your child?
This technology is dog meat!”
And they’re saying, “Well, it's dog meat today, but Moore's
law, remember? It's going
to get bigger.” You are
sitting there thinking, “What am I supposed to do, abandon the best
franchise on the planet for some pie-in-the-sky idea?”
Remember, your shareholder value is based on your future
unrealized potential. You
have to look at what the future unrealized potential is for the Kodak
film business. Most of it
may have been realized. There
is an argument for saying, “Maybe we should divest and move
forward.” This is the
challenge you have, and it's a nasty challenge because you don't know
if the new category is going to succeed or not.
If you drop the Kodak business and digital never happens,
people are going to . . . well . . . they are going to hang you. They are not even going to bother to sue you, they are just
going to string you up.
It's a nasty, nasty problem.
In order to meet this problem you have to get your best and
brightest people focused on it. You have a window of time to act that's very limited.
If you don't act in that window of time, and somebody else does
and gets the gorilla position in the tornado, you are out.
It's a nasty, nasty time problem.
Slowing down to make deliberate, well-researched decisions is
not the success mode when you have a disruptive innovation.
You need to put your best talent on it, but the problem is that
your talent is compromised because they are also managing this
phenomenally large, successful business that you've already developed.
Management attention is equally compromised because this thing
doesn't run by itself. It's
called work, right? In
the middle of doing work, you are supposed to suddenly put your best
minds on some new thing that you are not even quite sure is going to
happen. The scarce
resources in this situation are time, talent and management attention.
The good news is that there are three corresponding resources
that are relatively plentiful: capital, systems and outsource service
providers. I would argue
that at this time in the history, they are the most plentiful that I
have ever known them to be. You
can apply the plentiful resources to give you relief for the scarce
ones. You can use capital
to buy time. That's what Cisco
does when it acquires a company—57 companies last year, I think.
Those companies didn't make something Cisco couldn't make; they
made something Cisco couldn't make in time. Cisco bought
time in order to get into this life cycle that they would have missed
otherwise. If you are
willing to invest in systems, and not customize them and modify them,
you can actually use systems to free up your talent.
If you are willing to entrust a business process to a service
provider in a way that you can both be accountable to the integrity of
that trust, then you can free up your management attention to work
In an era of disruption, investors want you to spend your
scarce resources on core
things that differentiate your company, that create GAP and that
create CAP. They want you
to spend the plentiful resources on what they would call context.
Context is things you must do in order to fulfill your
commitments to your customers, partners, investors and employees, but
they do not differentiate your company.
The other companies in your category do the same context things
that you are doing, so it can't affect stock price.
Only core can affect stock price.
Investors want you to put your scarce resources against the
thing that reward the investor, which is core, and use the plentiful
resources in a non-differentiated way where there is no advantage to
differentiation; and that's context.
Now here is the nasty part.
Core becomes context over time
It's like we are trying to climb up a down escalator.
We wake up in the morning and say, “We are going to create
core. We are going to do
things that our competitors don't know how to do.”
Well, the competitors watch and say, “If we don't do that,
too, these guys will get too far ahead of us.”
They start undermining your core and turning it back into
context. The person who
benefits is the end customer because the bar gets raised every year,
but the shareholder does not benefit.
I joined high-tech around 1978.
At that time, if you could get a timely report, it was like,
“Whoa, I scored!”
2000, Chasm Group
the report was a foot tall, but there might have been something in it.
Over the last 20 years we have added ad hoc queries, we got PC
spreadsheets, we got the files down, we got OLAP (online analytical
processing), we got better and better data warehouses, analytical
applications, cached analytics; we are getting more and more.
Each time, as the new thing came in at the top, it shoved down
the one below it. I would
argue that maybe the stuff in the middle, OLAP with data marts, that
might give you a competitive advantage today.
Anything above it would, if you executed well, but anything
below is out of the question.
What's happening is that more and more and more of the
processes in your organization are coming to the bottom of the
escalator, as they eventually must.
You start out in a wonderful condition where most of life is
core. There is always a
little bit of context, of course, but this is why it's so much fun to
be in a startup. Yes, the
stock options are great, but I have to tell you, I was in three
startups in the 1980s with no pay-out in any of them.
It was still a wonderful experience for me because you woke up
every day and you did something that counted.
It's core. It
matters. Whether you win
or lose, it matters.
Over time, however, if you are successful, you will start
taking on a profile in which more and more of the things that used to
be core get copied. While
your company still has a huge investment in core, on a percentage
basis more and more of the management team is actually in charge of
context functions, not core functions.
2000, Chasm Group
are the consequences of that profile:
it wastes scarce resources
it alienates investors
it demotivates talent
it creates inertia that blocks change
the company misses next wave
the stock price decays
The first thing that happens in a disruptive situation is that
you need to get as much resource on the green curve stuff as you can,
but you can't get that resource out of your company because it's
locked into red context functions.
You are wasting scarce resources, and you can't compete
effectively on the time, talent or management attention vectors. That’s precisely why venture people back startups against
established corporations. With
a startup, an investor looks at that first core/context pie chart and
says, “Well, I understand that I'm investing in three rather young
people, two of whom have pierced body parts in places I don't even
want to discuss, but if I invest in that company, 90 cents of my
dollar goes to the green stuff and only 10 cents goes to the red
stuff. I’ve got 90
cents working for me in that investment to raise my stock price.
If I invest in the pie chart on the right, I only have 10 cents
working for me. Ninety
percent of my dollar goes to context functions.”
We agree that context functions cannot change the value of the
stock price, “so I have only 10 cents working for me.
I don't want to do that.”
You alienate investors. Now
you are beginning to understand why established companies with great
customer brands and great relationships get low price/earnings and
price/sales ratios, while unestablished companies get very high ones.
This is part of where that’s coming from.
It also affects the war for talent since you are playing with a
people want to work on core, but your company has most of its openings
in context. You can't win
the talent war. Who's
left? Middle management
is left. That whole red
zone has all been put in the charge of middle managers, and this is
why executives hate middle managers and middle managers hate and fear
are in the green zone. They
are not stupid. They are
looking out for the future and doing core work. They come up with a great core idea, bring it to the troops
and say, “Let's do it!” But everybody who has a context function
is saying, “Hang on, I'm in charge of a context function.
Do you know what that means?
That means if I screw it up, I could really tank our stock,
but, if I succeed brilliantly at it, I get no upside.”
That's my job, right? I'm
in charge of the tires on the Ford
Explorer. There is no
upside to that job, but there is significant downside, so what do you
do? What kind of behavior
do you learn if you are in charge of a context function?
You learn risk-averse behavior because that's what Darwin
selects for. They fired
the non-risk-averse guy at Ford and got a conservative one because
that's what it takes to manage context. Now
you have a company in which, every year, more and more of the managers
are risk averse, as selected by Darwin.
As a result, it gets to a point where the core/context ratio is
so unfavorable that no matter what decision they make, they won't
execute it because the risk-averse culture will kill it before it gets
out. That's the fault line problem for large companies.
They've missed the next wave and the stock price decays.
What's the prescription? The
prescription is pretty simple, but it's kind of draconian¾outsource
the context so you can insource the core.
It’s a pretty straightforward idea.
There are a bunch of reasons to worry about it¾we
tried outsourcing before, it's mission-critical and a whole bunch of
stuff I'm not going to go into now, but I think there's a very strong
argument for this. What's
interesting is that in 1999, the Fortune 500 to a man, woman and child
did precisely the opposite, right?
In the IT department we solved the Y2K problem in-house.
I will argue that getting your calendar right does not create
competitive advantage. Meanwhile,
if we did want to work on an eCommerce site, we brought in a
consultant to do it. We insourced our context in order to outsource our core.
We need a head change here, okay?
The drill is to rethink this core/context relationship.
The key idea here is that for every core there is a set of
context, and quality is a function of both.
You cannot blow off context.
If it is a soggy bun, it is a bad hamburger.
The actor is core, the stage is context.
I have been married for 32 years¾gentlemen,
if you do not wrap the gift, it does not work.
By the way, in the last two years, I also learned if you
don't wrap the gift, it doesn't work.
This is a learning experience.
So core and context are both important.
In no way can you de-prioritize or say context doesn't matter
or we shouldn't pay attention to it.
You have to pay attention. Go back to the Ford Explorer.
You have to.
The second issue is this, and it’s an incredible light at the
end of the tunnel. Whatever your context, it can be somebody else's
core. The person who runs
the copy center in your company probably cannot aspire to be CEO, but
he or she can at IKON
because that's what they do for a living.
That leads to the third lesson, which is that context is really
core in the wrong place. What we ought to do, and the idea behind the New Economy, is
that we should just rearrange things so that we have everything in the
right place. That's sort
of the ideal vision of the New Economy.
2000, Chasm Group
you think about this New Economy, it's a network of cooperating
companies creating end-to-end solutions in which nobody would do
context and everybody would do core. Now, that's obviously an
idealization, like body fat. You
don't want to go to zero body fat, but you do want to get lean,
particularly if you are going to run a marathon.
That's the model. It
has huge advantages over the Old Economy model.
We have seen it work in the tech sector and in the financial
services sector. We've
even seen it get traction in the telco sector.
It has not yet gotten traction in the retail sector, but, I
believe, it will. It creates higher returns for investors because
every company is spending more of the investor's dollar on core.
It creates increased flexibility because you have multiple
sources of support. You
don't have to carry everything with you, the way a vertically
integrated company does. It
creates greater value for customers because you have more minds
working on the problem. Furthermore,
better minds are working on it since you don't put your best minds on
context, you put it on core. That's
To recap this, just three key takeaways for everyone across all
The first is: valuation is a measure of future unrealized potential.
That's what you have to change if you are going to manage for
shareholder value. It is
a function, first of all, of what categories you are in, so one of the
ways you can change value dramatically is by moving your company from
one category to another, either by divesting things and buying into
new ones, or by migrating the offer to the new category.
The next factor in valuation is your execution within category,
and that's what the comparables are all about. There is a key
component of execution here, but it comes after positioning.
The second idea is: do
not let the current financial markets confuse you.
The Internet is the greatest category that has ever hit the
planet, and the fact that you are in an Internet-related business, if
you are, is a very, very good thing.
This is a really, really powerful category.
The issue right now is that the planet is saying, “Until we
see some proof in the pudding, we are not willing.
We over-invested in that thesis; we are going to under-invest
until we see a change.” I think the bellwether is the B2B exchanges.
The B2B exchanges have to get liquidity.
It's a chasm-crossing problem.
It's a known solution; I just want folks to get on with it.
Finally, disruption, in large companies in particular, forces you to focus on
core. We are back to
this issue that time, talent and management attention are the
currency. You need to
outsource the context in order to focus on core.
With that, I want to say thank
you very much. I really
enjoyed having a chance to address you.
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