Category: Economy

Study Funded by Kauffman Foundation Finds User Entrepreneurs Are Highly Successful

In a longitudinal research study funded by Kauffman Foundation found that over 46% of all innovative new businesses that lasted over five years were founded by “user entrepreneurs”. This figure is even more impressive when you consider that these startups represent only 10.7% of all US startups. The study tracked over 5000 startups founded in 2004 and it was released yesterday.

This fully validates the trend towards end-user lead product innovation described by Eric von Hippel in his book Democratizing Innovation. The two single most important aspects of this group of innovators is their deep knowledge in the subject area and their motivation to improve the existing conditions. This is mainly because the mainstream product manufacturers have no incentives to supplant their current production line with new risky products and because no one listens to end-users who have daring ideas.

The Kauffman funded study found that the professional-user entrepreneurs are very knowledgeable and on average they have a much better human capital involved in the startup than the other types of entrepreneurs. It makes sense in my mind, because I imagine, those people are driven by passion for creating something that they would love to use, attracting a similar breed of people from their industrial field. They are the experts and they know the people in the field better than any outsiders. It is not that the other groups don’t have passion, but while they want to make good products one of their pressing goals is to sell their products to the users, the other people.

The democratisation of innovation favours the end-users, people who want to create better products for personal use. In this group especially females and some minority groups are attracted by the idea to follow their dream and have a go. A high proportion of these entrepreneurs manage to attract good venture capital financing.

This is very good news, because this may be a sign of the future of employment. Individuals from all walks of life drawing from their personal experience to detect an unmet demand, and in the course of inventing a new source of supply they create high value add jobs for themselves and for many others.

Europe at a Historical Crossroad

I wrote this post a day or so ago before the Greek prime minister was appointed. Today, Greece has a new PM and Italy is passing an austerity plan through the Senate. This will not change the reality of the European problem. Watching the new on APEC meeting in US strengthened my belief that the Pacific region holds the key for the next stage of global growth and Europe will be out of it for a while.

The recent public speeches made by Sarkozy, Jose Manuel Barroso, Angela Merkel, David Cameron and others show how deep runs the disagreement between various parts of Europe and its political leaders.

The problem of Greece and Italy are merely tactical when you look from a long term perspective. I am sure they will be resolved. Italy will adopt an austerity plan and Greece will nominate a prime minister. But the European problem, the problem of unity will not be solved. It will keep bubbling for a while until the big crisis will explode forcing major changes. No one knows exactly how that will look like, but one has a sense that Nordic countries and Great Britain will not want to be involved in this too much, Eastern Europe will stay rejected and sceptical on the sidelines and the South will be in turmoil. Who knows?

But the way moving forward is to fix the financial problem caused by high level of debt of Italy and Greece. Once that is achieved the rest of the world will adjust to the new reality and continue grow their commerce between North America, Asia, South America, Russia and Africa. Perhaps Eastern Europe will find ways to use its well educated workforce to explore other opportunities. Meanwhile, Europe risks fading away marred by internal fighting.

One thing is sure: Europe show will go on and surprise many.

Smart Government

Most often the wide public’s perception of government is dominated for right or wrong reasons by images of monolithic positioning, inflexibility and appetite for taxes and control. Recent financial buffeting resulting in slashed budgets and staff culling made it even more difficult for governments to appropriate large public projects aimed at reaching grandiose goals.

Perhaps the current financial turmoil is an opportunity to re-invent themselves. They could become nimble and innovative operators and do-gooders again as they were back then when the land was vast, unpopulated and uncharted.

Public good initiatives are rarely the strong point of private enterprise. They are large, they require huge initial investment and they are difficult for profit extraction in a short time frame as demanded by corporate reporting requirements. This is an area where the government should and could excel. However, the voting system in a digital democracy has made this task extremely difficult even for a big government flushed with surplus money.

Public good doesn’t have to be created in form of portentous public spending as the traditional connotation might be tempted to suggest. Public good is… good distributed equally to the public at low or at no cost. For instance, low carbon economy is about promoting products and services with reduced the carbon dioxide emissions which are accessible to the public and for the public benefit. Other examples are: be green energy, important high impact medical discoveries, clean environment, public safety, etc.

What does the government do when these things start to become noticeably important in public opinion? There are two things the government has a preference for: raise the taxes or punish the companies to force them into providing certain products and services. The unifying theme here is that the focus of these actions is on the “push” side: cause a change on in the supply. This is expensive, artificial and it risks alienating both business and public in the same time. This type of action carries also the risk of damaging the country’s reputation for doing business. If the regulations are too unfriendly global suppliers will be reluctant to do local business and go elsewhere.

There are other alternatives which could lead to better results, but they require much more effort and higher skills. The government could focus on creating a “pull” force in the marketplace by stimulating the demand. This is more complex implementation of governing imperatives, but it is much more effective. This smart approach to design of policies and regulatory frameworks provides more certainty, it builds a foundation in which improvements could be added and it creates opportunity for prosperity for both business and consumers.

Smart regulatory frameworks require the government to think about ways in which fair competition between producers is promoted in a transparent way, the system of transmission is open and it offers the opportunities for standard product packaging and the distribution to the public is accessible by the public in a simple, no-hassle manner. This will stimulate the demand side but also the supply side which will have clear incentives to innovate.

This is what governments should become experts in. It is a bit difficult in the current state of affairs where emphasis is on short term polling satisfaction.

Is Networked Consumption Reaching the Tipping Point?

At least this is how it looks like according to Katie Fehrenbacher from GigaOm. The money is flowing into this sector fuelling mad innovation spree.

Katie Fehrenbacher believes that the tough economic conditions make the idea of networked consumption very attractive, as I also pointed out in my earlier post,. I haven’t come across any other publication that looks beyond the current economic climate and try to predict what are the consequences of such model from an business and social perspective. I attempted to do so in my post (Social Networked Consumption) in which I sound a bit pessimistic about the prospects created by the growing renting popularity.

The Social Networked Consumption

The “social network” is the buzzword of the day. Omnipresent in the social media, on TV and printed magazines, it is the darling of researchers around the world. Collaborative participation makes the social network, probably the biggest innovation since Internet, a positive phenomenon. Bringing people together to collaborate on solving problems releases a huge amount of creative energy on a global scale. Social network is a mystery as well: why are people so attracted to social networks?

In the past few years, a huge wave of websites built around the core concept of social network has been quietly gathering momentum. These systems link people, information and things through social relationships and essentially they try to solve a resource allocation efficiency problem by creating superfast links that have the effect of eliminating a real or an imaginary middle-man. If you think about it, the social network as it is understood today is the in fact another expression of the intrinsic social network that is the Internet.

To use terminology borrowed from psychology, the social networks (like Facebook) are conscious social systems, while the Internet is the massive subconscious domain that no-one can ever measure or fully understand its inner workings. When we look at social networks we only see a tiny little tip of the iceberg as what really drives us is way down below the surface. In this post I am looking at behaviour towards consumption mediated through social networks.

At its core the social network is a way of trading ideas between participants. If you abstract the social network to a system where parts exchange things through the use of an agreed currency, the social network is really an equalizer that moves things from one part to another in an attempt to restore equilibrium. If there is no external input, with time the system would reach that point. But as it happens, the social systems are far from being close and events keep triggering new imbalances and social networks busy: there is always something to talk about and share.

In its first iteration as a digital network, the web was a system that united resources using hyperlinks. Later with the rise in computing power, the hyperlinks started to be used to bring people together through more sophisticated interactions. Merely accessing documents (resources or things) across network was not enough to establish equilibrium. Discussions needed to occur to solve more complex problems, hence the need to facilitate communication between people using the very same network. People became extensions of things and things became extensions of people.

The social networks have generated a boom in communication. Not only has the communication gone up but the number of social networks has gone up, which leads to even more communication needed to trade and reconcile different ideas. You can hardly find a more powerful addictive cycle than this.

There are three distinct phases in the history of social networks on the Internet (so far): linking resources, linking people and linking services. The first phase was marked by the invention of the HTML, the second was marked by the rise of Facebook and the third is underway right now. This is about linking services in its many forms. Think ZipCar, Foodspotting, DriveMyCar, TaskRabitt, AirBnB and many similar applications that link people and services and things matching demand and supply at a scale, transparency and affordability that was never possible before Internet. The third form is social networked consumption, because in addition to performing the functions of the previous two forms it plays direct roles in the consumption supply chain (for example marketing and distribution).

The underlying phenomenon is the collaborative sharing that occurs in many ways from simple posts to feedback and rating and from questions and answers to actions that end up in economic transactions. Why are so many people suddenly ready to share things for free or pay a small fee for using someone else’s asset or mini-service?

Let’s assume this will go on and spread like wildfire in the next five years. One could say that this is a very efficient way of using resources which in the long run is good for the environment. People will learn how to live by consuming less and focus on social values. If we look into the future and extend this trend there will be a point where production would have to go down drastically because the use of the goods is so much more efficient through instant sharing.

This newly found frugality would see the auto manufacturers pulling their hair in desperation because instead of five families buying five cars they will buy maybe two cars and share them. Of course this is a totally theoretical speculation because in practice it is difficult to share assets to perfection in such a way that the usage level is constant but the number of resources is greatly diminished. This schedule is impossible. Nevertheless, the demand for expensive household products would have to come down if this model becomes a general life style choice.

The creativity born out of social sharing will find many ways in which the trading of personal ideas, goods and services through social networking will flourish. I wonder how much the financial crisis, the globalisation and the changes in the job market have contributed to the popularity of social network based services. The vast digital networks contribute to enhancing the capacity of countries and cross-border alliances to respond to crises. This made possible handling the GFC in a way that was not possible in 1929. During The Great Depression people suffered in isolation for a long period before the economies managed to restore the pre-crisis levels of prosperity. Imagine how different that era would have been if they had Internet.

If this trend continues, how would the world look like in five or ten years? I tend to believe the pendulum would have to swing the other way from diminished consumption to increased demand. There is a limit for how much you can share the same things. Reusability is not addressing the demand for novelty. But if the underlying motive is to buy more with less money, the downside is the cultivation of a society with an even bigger consumerist appetite.

Pay for use only is a convenient way to deal with immediate financial uncertainty and postpone expensive decisions, but it is also creates the illusion of more disposable cash. This will compensate for the initial drop in demand for expensive goods in form of full ownership by creating demand for other services that can be consumed frequently but require no big commitment, such as travel, entertainment and fashion. For instance, once the new pay for use system will become an establish business model, the number of cars on the road will keep growing through big businesses owning large car fleets and manage them with a sophisticated scheduling and mapping system that combines renting with other innovative related services.

In the end, what appears to be a cheap way of buying the pleasure with less effort, but no ownership, it may be a very expensive price to pay in the future. It is a deal that may haunt next generations of renters because it creates even more uncertainty. There will be fewer owners, but those who own these assets will amass fortunes by charging large number of renters a pay-per-use transaction fee. The next generation of renters will not be able to go back to full ownership because they will have acquired the taste of a pleasure driven life style and it will have no means to purchase outright the cars or other similar assets because they will be deemed to be too expensive to afford buying them.

A glitch in the future social system will cause a great deal of stress to people who have no plan B. It is very difficult to estimate the impact on the psyche of a population with limited or no ownership. Will it diminish the peoples’ sense of responsibility? Will it propagate a culture of superficial consumerism, work for immediate pleasure?

This superficial consumption practiced through cheering social networks may be a Faustian deal in which a temporary sense of security is purchased to avoiding the pain of long term commitment and the hardship it brings with it only to bring an irreconcilable regret later on.

The owners of the social networks will stand to benefit even more from those who make up the network. But this is another story.

Super Black Swan: The Worst Case Scenario

I wrote a few weeks ago about the not so good Japan’s outlook and about the well documented view of how the government debt will soon accrue to the point where drastic, painful and unpopular measures will need to be taken. The tragic events caused by the massive earthquake and the devastating tsunami will accelerate the arrival of that moment.

Initially, immediately after the earthquake, the financial press was mostly focused on the precarious situation of the nuclear plants in Japan, and the  potential impact on the exchange rates. There are many who warn that this could be getting very serious and have consequences for the bond market in US. Other voices, on the other hand argue for a limited impact.

However, right now the media is much quieter and Japan related news are almost forgotten and pushed into the background. It is almost as if everything will go back to normal following a painful but optimistic process of recovery. Now the main talk is about the V shape recovery of Japan.

Is this all that simple? If this was an one-off occurrence in the global markets it wouldn’t be a huge shock, but the problem is this is not the only hot issue. Following the US housing meltdown, the European sovereign debt crisis has engulfed the whole EU. Almost all developed countries are touched by one crisis or another in the same time. On top of this, the Middle East continues to complicate an already unstable situation making anyone nervous at the mere mention of the word “oil”.

Many analysts predict that the funding requirement, which some estimate to be around $200bln,  will force some of the Japanese bondholders to sell US bonds. Karen Maley from Business Spectator describes this scenario very well in an article published in the Australian online financial magazine The Business Spectator (“Will Japan’ Finance Fracture?”, 14 March 2011). Over the years Japan has accumulated large amounts of US bonds in excess of $850bln, the second largest US bond holder in the world. Guess who is the largest one? Yes, naturally, China with its over $1trillion US bonds amassed in a relatively short period of time.

Is it too far fetched to see a situation where both Japan and China will start selling heavily US bonds because Japan needs to pay for its reconstruction and reduce its debt and because China is worried the value of its reserves will diminishing rapidly. This will have a negative impact on the capacity of US government to raise capital and consequently its ability to fund its own public programs.

On 28 September 2005, in an address to Economic Society of Australia Dinner in Melbourne, Ian Macfarlane the then governor of Reserve Bank of Australia (RBA) expressed his optimistic view on the global imbalances which he considered to be of a benign nature protected by an ongoing global prosperity. The imbalances he was referring to were around the flow of money to China and accumulation of debt in US (and Western world in general).  The world had since then experienced turmoil at one end of that imbalance, the USA and Europe. Now all signs are that we will see turmoil at the other end of the imbalance, China. In trying to protect its exports by pegging its currency on the US dollar, after QE1 and QE2, China is struggling to cope with an increasing inflation which threatens to destroy its accumulated wealth. Despite imposing on banks more stringent capital requirements, the consumer prices are still simmering causing an upward pressure.

Europe has a similar problem with US but with a different treatment. The German formula requires constraint. The austerity will reduce demand, impacting on Chinese exports. Will Europe manage to go through all this unscathed?

How quick have we forgotten how close we were to a major collapse two years ago. Now we are all back to the optimistic talk about recovery: the recovery of US housing market, the fixing of the European financial troubles and the defusing of the Japanese debt time bomb. But if you take a closer look and you put all the serious issues together, the prospect of a huge, super black swan flying above our heads is a credible scenario, the worst case scenario.  The changes required by this scenario will be very painful and it will cause a dramatic shift of power and a change in the world financial system. We may witness a Bretton-Woods kind of reform sooner than we think. And maybe that is not such a bad thing in the long run.

Eco-Social Capitalism

I know I am walking a fine line here. The social capitalism is a term coined probably by Kees van Kersbergen in his published work, “Social Capitalism: A Study of Christian Democracy and the Welfare State”. Kevin Rudd also made references to this model in his speeches during his Prime Ministership which came about the time when the Global Financial Crisis (GFC) was in full swing. In essence this model proposes an improvement of the capitalist model through a greater intervention of the state designed to address imbalances using macroeconomic regulatory tools.  This post does not refer to such model. This article focuses more on the corporation as an economic entity and the transformation of its model of operation which has more and more a broader social meaning, as opposed to a narrow economic definition. I use the term eco-social capitalism because it refers to the existence of corporations in the context of the natural environment and social habitat, rather than an element on government’s agenda.

Many centuries ago a wonderful innovation was created: the corporation with limited liability. This propelled the economic development at amazing speeds. Where before the risk sat with the individual entrepreneur, the limited liability increased the appetite for risks and large rewards. East India Company, launched on 31 Dec 1600 with the royal blessing of Queen Elizabeth I, is probably the oldest chartered company. Investors put their money into this venture hoping for big gains. When the first ship returned back the profit was huge, some reports indicating Drake made a 5,000% return. This was one lucky strike because over the years many ships went under ruining hopeful investors. The morale of this story is that shareholders take the risks and the rewards and this is all that mattered. Until now.

In recent years the corporates, especially the large public companies with transnational operations and vast resources at their disposal, have undergone a radical change in the way they are perceived by the public.  Many companies are accused of putting the interests of their shareholders and executives ahead of the broader community. This unfavourable image is compounded by the fact that many companies use cheaper labour markets to increase their profits at the expense of local employees.

In Creating Shared Value, an article published in Harvard Business Review magazine (2011), Michael Porter and Mark Kramer redefine the corporation in very different terms using the concept of the “shared value”. Departing from a model in which the corporations act as a self-contained entity, Michael Porter is proposing a model that extends the business concerns beyond “internal” processes to include “externalities” such as social and environmental issues. The practical reason is the limitations and the risks associated with a regulatory regime that as elected representatives tries to respond to the public concern by imposing laws and regulations that force the companies to address environmental and social issues.  However this solution creates a very complex environment which increases the costs of business, it reduces the speed of new jobs creation and actually incentivising corporations to consider moving some of their operations overseas.

The better option is for the corporation to have an more flexible strategy of creating shared value. This requires an approach to the value add process which incorporates the “externalities” in the business design from the very beginning. This is not a welfare initiative and this is not a “fair trading” scheme, but an adjustment of business scope beyond the creation of value for its shareholders. This works only if the corporation investigates opportunities in three areas:

  1. Reconceiving products and markets
  2. Redefining productivity in the value chain
  3. Building industry supportive clusters at the company’s locations

This creates vast opportunities, if the company has the adequate resources, brain power being one of them. The approach resembles the Blue Ocean strategy (W Chan Kim, Renee Mauborgne) which takes into consideration all the elements of the value chain and find competitive ways in which a distinct value proposition can be offered. The two main elements of the strategy are the environment and the communities. The environment includes resources and energy while the communities include local wellbeing, employment in areas that match the local skills, local economic development through planting seeds of industry green shoots that help regional development and thus supporting the existence of a sustainable market where the company can supply its goods and services.

There is an interesting point in the case of government agencies. The notion of good from the point of view of the role of the agency is the delivery of benefits to the society. This has been the case for most agencies. It sounds like a “duh” moment, but when you take a closer look, delivering benefits does not necessarily mean producing value. Value is generated only when benefits are delivered at the right cost, otherwise there is no value. In fact the focus on benefits rather than value is the cause of the current budgetary crises in local and federal governments in many countries. The benefits or even worse, the mere exercise of a function, while ignoring the cost, builds up losses after losses, hidden behind the positive news.  In the wider context these benefits cost more and at the expense of other areas which will be underfunded and neglected.  A government agency that chooses to focus on creating value by looking for opportunities in the same three areas will support society and environment in a sustainable way ensuring more equitable long term prosperity.

The shared value creation model is very appealing and it is increasingly applied by large companies with sufficient financial clout and intellectual capital. It is difficult to believe though that in general corporations will adopt this model consciously because “it is good”. The real driving engine is the necessity of managing the risk of losing reputation which threatens to destroy a company faster than many think is possible. BP almost collapsed during the disaster in the Gulf of Mexico.

The change is dramatic, but difficult. This is more so for listed companies which have a tortuous reporting cycle that forces the adoption of a short term vision. The change to a business that creates shared values is almost impossible. However the public pressure will “help” this transition. Because the reporting cycle required by sharemarkets around the world is an impediment, and most agree that it comes with negative consequences, it may be that we will see the dawn of a new investment system by which the pooling of capital will take place outside sharemarkets.

I am not referring to private equity but to a new way of public participation to enterprise ventures based on very fast global networks in which information is shared and large group of participants can take part in new start ups some of them as investors and others as creators. This new “shareholding” system is already being used to setup companies that have a different moral compass and that are made up of people who are more ethically advanced and conscious of our responsibility towards the fragile environment in which we live. This also means that people with superior societal skills, knowledge of environmental concepts, team work and creativity will be in high demand.  The eco-social capitalism is here already.