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KINGS OF THE CLOUD HAIERS ZHANG RUIMIN THE SHARING COMPANY

Proven
Paths to
Innovation
Success

Promising
Paths for the
Internet of
Things

Winter 2014
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editors letter
editors letter

Illustration by Lars Leetaru

Clear and Foggy Paths


Sometimes strategic routes in business are clear and well marked. Each
of the three types of companies described in Proven Paths to Innovation Success (page 42)Need
Seekers, Market Readers, and Technology Drivershas its own clear
R&D strategy to follow. As it happens, this annual study of the top
1,000 companies in R&D spending
(the Strategy& Global Innovation
1000) is celebrating its 10th anniversary. The key nding back in 2004,
articulated by founding author Barry Jaruzelski, remains just as true today: The size of R&D investments is
not closely correlated with nancial
performance. (The debut report featured a photo of a plaintive-looking
executive wearing a shirt that reads,
We spent $2 billion on R&D and
all we got was this lousy T-shirt.)
On page 50, youll nd another kind of path: so foggy you cant
quite see where it leads, but you may
be compelled to take it anyway. This
is the road to the Internet of Things
(IoT), an environment where well
all be living in the near future, which
will probably be a bit like Harry Potters world. Inanimate objects, such
as sensors, controllers, and personalized appliances, will all continually

come to life around us, connected


through a worldwide array of hubs
and networks. As digital technology
expert Frank Burkitt shows, the IoT
will thoroughly change the technology industry, along with the rest of
daily existence.
In the tech industry, of course,
much of the fog comes from the
cloud. Cloud computing is shifting
the way top companies in information and communications technology do business. In Kings of the
Cloud (page 22), the founders of the
annual Strategy& information and
communications technology rankingsthe ICT 50describe the
way top tech companies are rethinking their strategies.
This issue, as we do every winter, we take stock of current management thinking. In our ongoing best
business books roundup, we celebrate
the most impressive works published
during the previous 12 months
(page 62). Then on page 96, we interview Haier chief executive Zhang
Ruimin, arguably the most philosophically oriented corporate head
in the world today (and one of the
most dramatically successful). The
election of another leader from Asia,
Indian Prime Minister Narendra

Modi, provides an opportunity for


noted management author Ram
Charan, Wharton professor Michael
Useem, and Korn Ferry vice chairman Dennis Carey to consider the
qualities that compel condence in
a head of state (page 6).
Other forward-looking topics in
this issue include the B2B sharing
economy (page 8), the prospects for
large companies adopting new forms
of digital video (page 17), and the
disruption facing food retail (page
28). There are also two new Young
Profs pieces: INSEADs Erin Meyer
on improving cross-cultural communication (page 11) and Columbias Dan Wang on learning from
cross-cultural employee migration
(page 14). With articles like these,
even the foggiest path gains the clarity needed to take at least the rst
few steps.
And so executive editor Paul
Michelman is starting along his next
path. He has left our ranks to join
a digital library called Safari Books
Online. We wish him well.
Art Kleiner
Editor-in-Chief
kleiner_art@
strategy-business.com

leading ideas
6

14

Politicians for Prosperity


Ram Charan, Michael Useem, and Dennis Carey
National leaders, such as Indias new prime
minister, Narendra Modi, can make or break their
countrys business climate.

The Sharing Company


Robert Vaughan
Behind the hype of peer-to-peer economics is a quiet B2B
revolution.

11

Erin Meyer Can Make Your Global


Team Work
Christie Rizk
The INSEAD professor shows how people can communicate
across cultures.

14

The Untapped Value of Overseas


Experience
Dan Wang
How skilled return migrants can be your companys agents
of change.

17

64

Can Media Firms Become Digital


Video Mavens?
Christopher Vollmer, Sebastian Blum, and Kristina Bennin
Traditional entertainment companies are buying up new
multichannel networks in pursuit of online audiences.

20

s+b Trend Watch


Growth, Complexity, and the Prot Conundrum

essays
TECHNOLOGY

22

Kings of the Cloud


Olaf Acker, Germar Schrder, and Florian Grne
The leading companies in the tech industry are reworking
their business models to deliver everything-as-a-service.

CONSUMER PRODUCTS

28

What Mom-and-Pop Stores Can Teach


Grocery Chains
Tim Laseter and Steffen Lauster
To stave off online competitors, supermarkets should work
with their suppliers and get back to personalized service.

50

features
GLOBAL INNOVATION 1000

34

Proven Paths to
Innovation Success
Barry Jaruzelski, Volker Staack, and Brad Goehle
Ten years of research reveal the best
R&D strategies for the decade ahead.

38 Proling the Global Innovation 1000


42 Chinas Innovation Engine

ORGANIZATIONAL CULTURE

78

The Nothing Thats Everything


James OToole
INNOVATION

82

Greasing the Skids of Invention


David K. Hurst
SUSTAINABILITY

86

John Jullens and Steven Veldhoen

Tomorrows Bottom Line


John Elkington

44 The 10 Most Innovative Companies


ECONOMICS

91

50

Daniel Gross

A Strategists Guide to
the Internet of Things

THE THOUGHT LEADER

Frank Burkitt
The digital interconnection of billions of devices is
todays most dynamic business opportunity.

INTERVIEW

96

Haiers chief executive built a


winning global company by
continually reframing his
management philosophy.

Chris Curran

Best Business
Books 2014

Zhang Ruimin
Art Kleiner

57 Embedding the IoT in Your Business

62

All Things Being Unequal

TECHNOLOGY

END PAGE: RECENT RESEARCH

104

The Security Risk in the Cubicle


Next Door
Matt Palmquist

STRATEGY

64

To the Nimble Go the Spoils

Your own employees may pose a bigger IT hazard than


outside threats.

Ken Favaro
MARKETING

69

Brand Diving

Cover illustration by Harry Campbell

Catharine P. Taylor
EXECUTIVE SELF-IMPROVEMENT

73

The Human Factor


Karen Dillon

Issue 77, Winter 2014

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leading ideas

Leading
Ideas
Politicians
for
Prosperity
National leaders, such
as Indias new prime
minister, Narendra
Modi, can make or
break their countrys
business climate.
by Ram Charan, Michael Useem, and
Dennis Carey

hen a country elects


a new head of state,
business leaders watch
carefully. Its understandable: Any
changing of the guard raises questions for their survival. How friendly will the incoming government be
to their company, and how supportive will it be of economic growth?
For answers, business leaders often
look to the policies and beliefs of
the political parties that control the
government. But the skill and temperament of the leader is generally a
better guide.

A good example is the election


of Narendra Modi as prime minister of India in May 2014. Once
poised to rival China, India has seen
its development prospects fall behind since 2012. At that time, Indias annual GDP growth topped
7 percent, but today it hovers under
5 percent. Modi was elected because
he promised to give the worlds largest democracy what it needs most:
economic growth, a government
that reduces corruption and promotes widespread transparency, and
improved quality of life.
However, politicians should be
judged not on their promises but on
their ability to deliver. Even at an
early stage, one can anticipate the
impact of a new leader on the countrys business climate by looking for
the following ve signals. Applied
to Modi within months of his election as Indias chief executive, they
provide a glimpse of his potential.

is welcoming to business. Thats because this type of commitment is


closely linked to economic pragmatism and fairness. The leaders focus
on progress, and on raising the standard of living, will trump any instinct to play favorites. It wont just
be the cronies who prosper.
Modis parents were street vendors; before going into politics, he
worked at their tea stall. This background contrasts with that of most
of Indias previous prime ministers,
who were born into families of political leadership. Although a modest background doesnt guarantee
success, it gave Modi a gut-level appreciation for the daily lives of the
people in his country. He understands the grass roots, because thats
where he started; he is sensitive to
the needs of his constituents, and he
has developed connections with the
business community that will inform his political decision making.

1. How deep is the politicians

2. Can he or she get things

insight into the public interest? It


matters whether a leader is a topdown or bottom-up candidate. The
more visible a political leaders commitment to the common good, the
more effective that leader will be in
creating a political environment that

done? Virtually all leaders take of-

ce with an ambitious vision for


their country, but only a few succeed
in transforming that vision into
reality. Lee Kuan Yew of Singapore,
Margaret Thatcher of the United
Kingdom, and Sebastin Piera of

strategy+business issue 77

Illustration by Francesco Bongiorni

3. Does the leader approach


governance with a business mindset? A head of state is, in effect, the
nations CEO. Its a role that requires quick and decisive action,
along with a steady focus on driving
economic growth. Leaders who
have a business mind-set nd the
obstacles to progressand look for
ways to eliminate them. One example is unfolding in Mexico,

where president Enrique Pea Nieto


pushed through legislation to break
up the countrys telecom monopoly.
Just 11 days after his election
was announced, Modi reinforced
Indias standing in the neighborhood of nearby countries by inviting all the national leaders in the
region to his inaugurationincluding Nawaz Sharif, Pakistans prime
minister. Among other things, this
was seen as a signal that Modi would
not tolerate a bias against Muslims
within India. Then, before taking
ofce, he began opening doors to
other countries (and by extension
their companies) that might be
ready to invest in India or partner
with businesses there. Modi has
done this before: He brought companies from Japan, Korea, the U.S.,
and other countries into Gujarat.
In September 2014, Modi and
Japanese Prime Minister Shinzo Abe
announced that Japan would invest
US$35 billion in Indias infrastructure over the next ve years. For
Modi, this was a powerful move in
the rst 100 days in ofce, and it
will help change Indias reputation

as a place that rejects foreign economic involvement. It also suggests


an upward trend in foreign direct
investment; it is likely that Taiwan
will follow Japans lead.
Moreover, after assuming ofce, Modi quickly set 10 businessfriendly priorities for his new government. These include building
condence in the state bureaucracy;
welcoming innovative ideas; focusing on infrastructure, education,
health, and energy; strengthening
transparency; and implementing
policy in a timely, stable, and sustainable manner. Hes running the
government like a business, which is
new for India.
4. How skilled is the political
leader at engaging othersparticularly senior government employees?

One of the most essential factors for


national impact is the ability to
move people to pursue common
goals. It is critical for leaders to surround themselves with the right
people, and then to be able to motivate them to set and accomplish
goals that will benet the country.
During his rst two weeks on

leading ideas

Chile are among those who have


succeeded. Although many did not
agree with their respective visions,
few disagreed that they were exceptional at implementing them.
Modi is cut from the same
cloth. He has a history of making
things happen. Before his election
to Indias highest ofce, Modi ran
one of its major states, Gujarat
which has a population of more
than 60 millionfor a dozen years.
His rule was controversial at the
time; he and his Bharatiya Janata
Party were blamed for favoring Hindu interests over Muslim interests,
and especially, as the New York
Times put it, for failing to stop
bloody [anti-Muslim] riots in his
home state in 2002. As a result, he
was banned from entering the United States for more than a decade.
At the same time, however,
Modi grew the Gujarat economy
and created jobs at a rapid clip. In
one oft-cited example, when Tata
Motors was thwarted in 2008 in its
effort to build an auto assembly line
in the state of Bengal, Modi sent a
text message to the CEO of the automakers parent, saying he would
pave the way for the plant to quickly
open in Gujarat. Fourteen months
later, the facility was up and running. Now, as Indias chief catalyst
of economic development, he is promoting similarly favorable practices
and generating momentum.

5. Can the politician attract and


hold broad support? There is always

potential for reaching across partisan lines to earn the goodwill of the
general public, but many politicians
fail to do so. The struggles of the
U.S. Congress come to mind.
Here, Modis contentious past
might suggest he has difculties,
but the grand sweep of the last election indicates that he must be aware
of the problem, is acting as a pragmatist, and is actively seeking the
trust and condence of the whole
country. He and his party were
given an absolute majority rule in
Indias fractious parliament. Compared, for example, with the divided U.S. Congress, Indias parliament has relatively broad public
support. It should be able to muscle
through useful legislation in the
months ahead, with Modi at the
helm. In July 2014, Modis government increased the foreign direct

investment limit in the defense and


insurance industries from 26 percent to 49 percent, to help raise the
game in both sectors. It is likely that
more business-friendly legislation
will follow.
Of course, no one can know for
sure how political events will unfold. But any politician with a rm
grasp on these ve indicators should
inspire condence; they are universally linked with stability, consumer
condence, and growth potential.
In the case of India, Narendra Modi
knows how to execute, and has the
mandate he needs to do so effectively. Indias vast and growing consuming public has long made the
country a good economic bet, and
now its national leadership may also
make it a good investment bet. +
Reprint No. 00280

Ram Charan
ofce@charanassoc.com
is a business advisor, best-selling author,
and speaker who has spent the past 35
years working with top companies.
Michael Useem
useem@wharton.upenn.edu
is the William and Jacalyn Egan Professor
of Management and director of the Center
for Leadership and Change Management
at the Wharton School of the University of
Pennsylvania.
Dennis Carey
dennis.carey@kornferry.com
is vice chairman of Korn Ferry, where he
specializes in CEO and board recruitment
and has served more than 75 Fortune 500
clients.
Charan, Useem, and Carey are the authors
of Boards That Lead: When to Take Charge,
When to Partner, and When to Stay Out of
the Way (Harvard Business Review Press,
2014).

The
Sharing
Company
Behind the hype of peerto-peer economics is a
quiet B2B revolution.
by Robert Vaughan

ince the mid-2000s, the socalled sharing economy has


grown from almost nothing
to a pool of global businesses valued
in the billions of dollars. The conceptpeople using technology to
nd and purchase one anothers extra resourcesrepresents a triumph
of trust and crowdsourcing. Peer-topeer nancial rms such as Lending
Club, transportation services such
as Uber, and lodging brokerages
such as Airbnb have all rapidly taken off, using Internet-based platforms to connect people directly
without highly paid intermediaries.
Its no wonder investors are so intrigued, and the rest of us are a little
enervated by all the hype.
But theres a less ashy trend
emerging from the sharing economy, and even though its just beginning to attract media attention,
it probably presents a larger opportunity than consumer sharing. It is
the open sharing of resources among
businesses: peer-to-peer enterprise
exchange. In just a few years of activity, it has become clear that the
unfettered exchange of otherwise
unused major assets, including
physical space and industrial equipment, allows a sharing company to
operate more efciently than its
non-sharing rivals. Companies that

strategy+business issue 77

leading ideas
8

the job, Modi cut the number of


government ministries by almost
half. He then appointed ministry
secretariesthe nations highestranking civil servantswho he believed were ready for rapid change.
He selected people who were action
oriented and battle tested. Modi
also asked his ministers for a set of
priorities for the next 100 days,
summarized in just a few PowerPoint slides, compared to the usual
hour-long bureaucratic presentations. And he had them determine
what they could tangibly accomplish. He requires his ministers to
maintain visible lists of these priorities for their departments, and uses
dashboards to monitor progress and
ensure accountability. Early results
have been impressive; for example,
ministries have accelerated the traditionally long and complex process
for granting licenses to businesses.

Illustration by Daniel Pudles

owners and renters and help them


use these assets more effectively.
Sharemyofce.co.uk, for example,
offers a service connecting shortterm tenants to businesses with
spare ofce space. Similarly, as Rachel Botsman noted in the September 2014 issue of Harvard Business

If youre reading this in a typical ofce, half


the desks around you may be vacant. But
businesses can now nd digital platforms that
help them use these assets more effectively.
Review, the Marriott hotel chain has
converted empty conference rooms
into rentable work spaces through
the online platform LiquidSpace.
This and Botsmans other examples were largely related to
business-to-consumer opportunities. But the real power of peer-topeer enterprise exchange may be

purchases of materials with low environmental impact.


The sharing market for intangible assetsa companys brainpower, knowledge, and intellectual
capitalshows just as much promise. In many companies, for example, technical expertise is severely
underused, simply because the work

leading ideas

go further still, wholeheartedly embracing the sharing of less tangible


assets, may benet from a different
sort of change, one involving their
culture, that builds new types of
connections with, and sensitivity to,
the world outside. By tearing down
the walls and airing their secrets
whether they are we have underutilized talent or we have great knowhow but arent sure how to turn it
into something people want to
buythese companies can both
improve their own bottom line and
contribute to the collective good.
Probably the most widespread
sharing-company practice to date
involves unused real estate, which is
an increasing burden on protability. If youre reading this in a typical
ofce, half the desks around you
may be vacant. But businesses can
now nd digital platforms that create global connections between

found in B2B transactions. Take


manufacturing, where the versatility
of digital fabrication and other exible manufacturing technologies allows companies to share their production facilities and equipment.
This matters when todays factories
operate at an average of 20 percent
below capacity. In 2011, MedImmune (the biologics unit of pharma company AstraZeneca) agreed
to share its manufacturing facilities
with fellow pharma giant Merck
pairing the formers excess capacity
with the latters desire for greater
exibility. As online platforms that
are oriented toward industrial companies emerge, it will be more feasible to share large raw materials,
distribution infrastructure, and other capital costs. For example,
FLOOW2, a Dutch startup, facilitates the sharing of equipment,
manufacturing assets, and employee
time by making them transparent
and tradable on its online exchange.
The company also develops proprietary technological platforms that
allow companies to build sharing
into their product offerings. Shared
sourcing platforms could also improve sustainability efforts, making
it easier for companies to pool their

Recognizing this, in 2013, General Electric injected $30 million


into its partnership with Quirky, an
online inventor community. The
deal gave Quirkys inventors open
access to GEs patents and technology, and GE beneted from Quirkys
playful consumer product inventions. The companies plan to bring
several products to market over the
coming months, including a smartphone-controlled window air conditioner; a propane tank gauge that
indicates when fuel is low; and a
home monitor that consumers can
set up to track motion, sound, light,
or temperature at their discretion.
(In September 2014, Quirky lost access to GEs appliance patents when
Electrolux acquired GEs appliance
business, a bid that Quirky didnt
win, but the partnership is continuing in other areas.)
The potential here is not just
to garner ideas from outside inventors through open innovation. Nor
is it to open up a platform for thirdparty developers to introduce ancillary products and software, as computer companies have done for
decades. The real potential is for
new platforms to evolve that offer a
segment of a companys intellectual
property base to the world at large,
so that others may do things with it,
and the patent holder may prot.
In the current form of this relationship, the two parties collaborate
to bring innovations to market. The
Chinese appliance company Haier,
for example, invites inventors from
outside the company to propose innovations they could produce together (see The Thought Leader
Interview: Zhang Ruimin, by Art
Kleiner, page 96). But collaboration
might not always be necessary. A
company with a patent for a new
type of battery technology, for in-

stance, might choose not to develop


it, but by placing the battery technology on an exchange, the company
could make a connection to another
company with a complementary
technology that would otherwise
never have been made.
In some technology-intensive
industries, a more liquid market in
intellectual property is seeing competitors become collaborators. Apple
announced a wide-ranging patent
licensing deal with HTC in 2012.
Google and Samsung have just
agreed to share all new patents led
over the next decade. There is potential for such deals to help prevent
costly patent wars, freeing up resources with which companies can
focus on innovation.
Experience with consumersharing efforts like Airbnb suggests
that participants become more collegial and empathetic because their
experience is not just transactional.
They are staying in one anothers
homes. Something similar could
happen in business, as executives
and employees share their resources,
their intellectual property, their
time, and their work space. That
could be the greatest benet of all,
resulting in greater efciency, a more
energized workforce, and new products and services that meet consumers needs. The opportunities are
constrained only by the imagination
of decision makers. As they create
exchanges that facilitate more B2B
connections, and use those exchanges efciently and creatively, they will
nd more and different ways to
prot from their efforts as sharing
companies. +
Reprint No. 00281

Robert Vaughan
robert.p.vaughan@uk.pwc.com
is an economist with PwCs economics and
policy team, and is based in London.

strategy+business issue 77

leading ideas
ideas
10

of the R&D staff doesnt t with the


companys current strategic priorities. But rather than divest its facilities, a company can share its staff.
In a sense, companies have been
exchanging their brainpower this
way for years. Early-stage R&D investment in the pharmaceutical and
automotive industries often takes
place through a consortium of partners, with secondment of key people
occurring whenever leaders see the
right opportunity. But now experts
can be lent to other companies in a
much more uid, comprehensive
fashion, through platforms for staff
exchange. One online stafng market run by Elance and oDesk, exchange sites for freelance work that
merged in 2013, brokered US$750
million worth of work that year.
Such platforms allow rms to
recruit a exible, task-oriented workforce without worrying about how
to keep them busy during a downturn. They are also likely to draw
more talented people, who can now
gain the kinds of creative opportunities at multiple companies that are
typically available only to short-term
contractors, while retaining the substantial benets that accrue to valued staffers with a single employer.
This best-of-both-worlds approach
could come to be seen as the most
enviable way to work: Its like freelancing with a pension.
Intellectual capital is another
intangible asset with sharing potential. Technology-intensive companies amass huge stockpiles of patents. The top ve U.S. patent
lersIBM, Samsung, Canon,
Sony, and Microsofttogether led
more than 21,000 in 2013 alone.
But only a fraction of all patents
led are put to productive use, because of the investment involved in
bringing products to market.

The INSEAD professor


shows how people can
communicate
across cultures.
by Christie Rizk

Photograph courtesy of Kim Durdant-Hollamby, KDH Creative

n a multicultural workplace,
misunderstandings happen. If
your British manager tells you
something is interesting, does he
really mean the opposite? Why do
your Dutch coworkers feel so comfortable talking back to the boss?
Erin Meyer helps companies
navigate these subtle cultural cues.
In her new book, The Culture
Map: Breaking through the Invisible
Boundaries of Global Business (Public
Affairs, 2014), the afliate professor of organizational behavior at
INSEAD looks at the ways people
from different cultures can learn one
anothers social cues in professional
settings. According to Meyer, multinational companies have spent signicant time and energy trying to
gure out how to appeal to a wide
array of consumers, and not enough
time guring out how to help their
own employees work together.
It all starts with communication, Meyer saysbeing open about
a colleagues behaviors that might
seem different from yours, talking
about those differences, and sharing
that knowledge with other colleagues. Her research has powerful

S+B: What are some of the key


challenges multinationals face when
designing global teams?
MEYER: Most multina-

tional companies think,


Cultural differences, thats
about how to exchange
business cards, or what
kind of gifts to buy, instead of recognizing that [managing
these differences] is really about understanding psychologythe subtle differences in what types of arguments we nd persuasive and what
leads us to trust a person from another part of the world. Companies
often put someone in a leadership
role abroad simply because that person was a top performer at home.
They think, This guys a dynamo,
lets give him more responsibility.
But sometimes, the people who have
been the most successful in their
own cultureespecially, for instance, if theyre over 40, and theyve

had some 20 years of thorough conditioning on how to succeed


struggle when put in charge of a
team in another country because it
calls into question much of what
they have learned over their career.
The people companies hire for
global positions need to be extremely
exible. They need to understand,
for example, that in Denmark it motivates people when the boss acts like
a facilitator among equals, but in
Russia the staff responds better when
the boss is clearly in charge. Fifteen
years ago, when companies werent
so globalized, managers mostly just
had to be good at motivating people
from their own country. But now
multinational companies need to
think hard about how to prepare
their managers to adapt their leadership style to be effective in all the
different countries they might be
working in, and thats complex. [For
more on the challenges that come
with international work, see The
Untapped Value of Overseas Experience, by Dan Wang, page 14.]
Of course, youre not going to
nd someone who knows how to
motivate employees in every world
culture. Even if you could, trying to
adapt to every member of a global
team just leads to chaos and inefciency. What you need is someone
who knows when to adapt to different team members cultural norms
and when to set a strong team culture to supersede those norms and
bring everyone onto the same page.
S+B: When looking for managers
to lead global teams, how valuable
is international experience?
MEYER: I generally see that people

Erin Meyer

who are living in a foreign country


react one of two ways: either by
learning a lot or by totally shutting
out the new culture. The best

leading ideas

Erin Meyer
Can Make
Your Global
Team Work

implications for managers leading


multicultural teams. Meyer (@ErinMeyerINSEAD), who appeared on
the 2013 Thinkers 50 On the
Radar list, recently spoke with
strategy+business about how her work
can help companies make the most
of their global resources.

11

S+B: What are companies doing


wrong in their hiring process?
MEYER: One problem that arises

and this often happens with U.S.


companiesis that they have a
strong American culture in their organization. When theyre in China,
for example, and are hiring Chinese
employees for their company, theyre
choosing the most American Chinese talent they can find. Internally,
that makes things easier. But it has
two clear disadvantages: First, it
may make it more difficult for these
firms to be close to their customers.
I worked with one Brazilian sales
director for a big American consulting firm. His explicit communication style and task-based approach
was perfect for his American boss,
but not at all suitable for his Brazil-

ian clients. Its because [company


leaders] hired him with their American lens.
Second, people in various parts
of the world are trained since childhood to see things differently. If you
recognize that, and you manage a
global team, it can be a huge advantage to have some team members
who see the forest while others see

and Thai coworkers, the Americans


did 90 percent of the talking, and
their interpretation of the situation
was that their Thai counterparts
were shy and had nothing to contribute. Neither point was true. In
an American environment, we are
trained to make our voices heard at
all costs. We sometimes interrupt
one another, and we dont like si-

VIDEO FEATURE
How to Lead a Successful
Global Team
INSEAD professor Erin Meyer
discusses how companies can boost
the efficiency of their multinational
teams by focusing on how they
communicate across cultures.

the trees. But if youve hired the people who are the most similar to your
own culture, then you lose out on
the advantage of diversity.
S+B: Has the type of cultural
sensitivity that weve fostered,
especially in the U.S., impeded
multinationals efforts to approach
multiculturalism as youre suggesting? How do we work around that?
MEYER: In the United States, be-

cause of our history, we are sensitive


about discussing group identity.
And culture is the personality of a
group. People worry, If I start talking about culture, then I may be
suggesting that everybody from that
culture is the same.
But the problem is, if you dont
talk about culture, everyone continues to view everything through their
own lens. And then they make erroneous or negative assessments of
whats going on. For example, when
I worked with a team of American

lence. In Thailand, people are conditioned to wait carefully for the


other person to finish speaking.
They leave a moment of silence to
really consider what the other person has said, and then they speak. If
the Americans had known this, they
would have realized it wasnt about
personality, but rather about cultural differencesand they could have
implemented a few simple meeting
rules to achieve a more balanced
participation.
We all come from somewhere.
Where we come from affects the
way we view things, and the way we
understand one another. In every international situation, some things
are cultural, and some things are
personal. If its cultural, then you
need to help people in the room understand that, for example, when
someone speaks in a way that is startlingly direct, thats because where
he comes from, that communication
style is appropriate, and is not con-

: Meet the next generation of business thought leaders


at strategy-business.com/youngprofs.

strategy+business issue 77

leading ideas
ideas
12

interview technique to find out if


someone is going to be good at
working in another country is to ask
them, When you were living
abroad, what are some things that
you noticed and learned about how
people there work differently? People who are going to be effective will
give positive descriptions of what
that other culture did differently. If
they say, Whats great about them
is that they are so hierarchical in
that culture that when the boss says,
Go right, everyone goes right, and
it creates this beautiful efficiency,
its a sign they can look at something
that would be foreign to their own
culture and see the positive in it.
But many people, when you ask
them that question, will respond
by telling you what people from another culture did inappropriately:
Theyre not good communicators.
Theyre chaotic. They dont voice
their opinions in front of the boss.
And that is a sign that those individuals may have more difficulty.

EXECUTIVE
EDUCATION

S+B: Are there trade-offs or negative aspects to multiculturalism?


MEYER: The advantage to having

people from all over the world on a


team is that you may find that you
have more innovation and creativity,
and that youre closer to your local
markets. The disadvantage is that
multinational teamwork is usually a
lot less efficient than monocultural
teamwork. When were all from the
same culture, we dont have to talk
about how we work together. We
have the same assumptionswe just
get to work. If were from all over the
world, and if we dont spend time
talking about how were going to
work, we end up wasting a lot of
time because we have different assumptions. Global teamwork has
big rewards, but it also requires a
big investment.
Some companies today are just
starting to focus on what Germans
do best, what Indonesians do best,
what Brazilians do best, and so on,
and how they can take those skill
sets and leverage them as assets for
the company. If youre mixing up
cultures in a random way, without
encouraging openness and dialogue
and preparing people to understand
how to truly collaborate, then youre
losing those benefits. Companies
need to think about all of these
things when designing multicultural teams. +
Reprint No. 00282

Christie Rizk
rizk_christie@strategy-business.com
is associate editor of strategy+business.

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leading ideas

sidered rude. If its personal, then


you need to sit down with that person and teach him to improve his
communication skills. Once the dialogue gets going and everyone has a
language with which to start articulating these differences, its much
easier. Its not a big deal anymore.

How skilled return


migrants can be
your companys
agents of change.
by Dan Wang

iktor had worked for several


years as a programmer for a
global software company in
Eastern Europe when his manager
chose him for a prestigious assignment in the companys Silicon Valley
headquarters. The experience opened
his eyes to several operations practices that he knew would be valuable
back in his home country. But when
he returned a year later, he was surprised to nd himself ignored.

growth, skilled immigrants are being lured back home in large numbers. These workers are often heralded as catalysts of their countries
future economic development.
In China, for example, enticing
skilled workers to return is a key
part of the governments talent strategy. Research by Haiyang Li at Rice
University revealed that China has
experienced a 17-fold increase in the
annual return migration rate over
the past 10 years. And in Brazil, the
wealth generated by natural resources has fueled the growth of knowledge-based industries. A 2008 study
by the Organisation for Economic
Co-operation and Development
(OECD) found that nearly 11 percent of the Brazilian skilled migrants

Only 48 percent of employees returning from


overseas assignments reported having shared
knowledge and then having seen it implemented.
overseas assignments, and they increasingly view such assignments as
essential for would-be leaders. According to PwCs Talent Mobility
2020 report, annual international
assignments will increase by 50 percent between today and 2020
having already increased by 25 percent over the last 10 years.
Voluntary return migration is
also on the rise, as more skilled
workers around the world who have
been working abroad are attracted
by economic opportunity at home.
According to the National Science
Foundations annual survey of doctoral recipients, since 2000, the
United States has seen a yearly decrease in the percentage of foreign
nationals with Ph.D.s from U.S. institutions who wish to stay in the
country. In particular, as developing
countries experience unprecedented

abroad were attracted home, up


from an estimated rate of return of
less than 2 percent in 2000. Other
countries in Asia, Eastern Europe,
and South America have reported
similar trends.
Senior leaders expect these employees, often called returnees, to
bring back new ideas and technical
skills, the social and professional relationships to connect their rms to
foreign markets, and the ability to
bridge cultural gaps. As companies
explore new markets abroad, having
a local understanding of regulatory
and cultural differences is critical to
making a successful entry. Firms
such as eBaywhich lost out to domestic competitors despite rstmover and resource advantages in
both Japan and Chinaknow this
painfully well.
To understand why the impact

Illustration by Carlo Giambarresi

leading ideas
ideas
14

The
Untapped
Value of
Overseas
Experience

There was plenty that I could contribute, but my coworkerseven


my supervisordid not listen.
Viktors story is all too common: Many companies that send
employees abroad or hire people because theyve worked overseas are
not taking advantage of that global
experienceeither because the
companies are not prepared to learn
from the employees or because company leaders have not made
an effort to overcome cultural barriers. Yet at the
same time, international
work experience has become a critical part of the
path to success in multinational
rms. Such rms are developing or
expanding programs for temporary

returnees have on home companies


is falling short of leaders expectations, I conducted the largest survey
of skilled return migrants ever collected. The 4,108 respondents represented 81 countries of origin, and
had spent between three months
and two years in the U.S. at some
point during the years between 1997
and 2011 under a category of the
J-1 visa designated for professional
training. All had bachelors or masters degrees, as well as work experience in elds such as aviation engineering, software development,
architecture, and nancial services.
They spent time alongside U.S. colleagues in large rms such as Google
and JPMorgan Chase, as well as
thousands of small startups and
midsized companies.
The results conrmed our worst
suspicions about global knowledge
transfer: Almost all of the respondents reported having learned about
practices overseas that they could
implement in their home countries,
but only 67 percent reported having
shared any of this knowledge upon
their return. Worse, only 48 percent
reported having shared knowledge
and then having seen this knowledge
implemented. This means that on
average, for every two workers with
international experience hired by a
given rm, only one will successfully
share knowledge from overseas at
some point during his or her tenure.
But the survey results also offer
senior leaders a way to rethink their
expectations, and to set up their returnees for success. Although I focused on workers who traveled to
the U.S. for their overseas experience, the following three ndings
can apply to people going to any
country, including the rising number of U.S. employees who are sent
to developing markets.

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just as much as experience abroad.

As part of my survey, I developed


a ve-point workplace embeddedness scale to measure the richness
of returnees work experiences in
their home country before going
overseas, and also in the U.S. during
their time abroad. (A 5 indicated the
richest experiences.) The scale relies
on questions about the workplace
activities in which respondents participatedfor example, group presentations, technical training sessions, town hall meetings, and
socializing with coworkersand

work experience, and 25 percent of


returnees scored a 5 for their home
country experience, only 2 percent
of returnees achieved the highest
score on both.
2. Not all knowledge is created
equal. The traditional model of

sending workers abroad or of hiring


workers with international work experience has focused on technical
skills. The idea is that people will
acquire technical knowledge about
the procedures needed to perform a
specialized task, whether its testing
a new pharmaceutical drug or developing components for an aircraft,

Microsoft. When a developer writes


code for a new software project, he
or she has to have it tested by a coworker before it is formally implemented. The procedures for peer
code review can be complex, especially in ensuring quality control
and maintaining efciency in rotating review assignments, and can potentially slow down development
cycles. Returnees who shared this
practice often faced initial challenges from their domestic coworkers,
but many reported eventual success
through a combination of demonstrating and localizing the process.
3. Cultural bias can thwart the

The returnees who most successfully shared


knowledge had engaging work experiences at
home as well as abroad.
the frequency with which they took
part. I found that having a rich work
experience abroad means little for
returnees if they lack a strong cultural and professional familiarity
with workplace practices in their
home countries. Thus the returnees
who most successfully shared
knowledge had engaging work experiences at home as well as abroad;
that is, they had a high embeddedness score for both workplaces. A
high score in only one area did not
increase their success.
The importance of having an
engaging experience abroad may
seem obvious. The importance of
the home country experience is less
soyet upon reection it makes
sense: People who have a deep understanding of and connection to
their home country workplace will
know how best to reintegrate themselves and share their knowledge
upon their return. Unfortunately, I
found that although 30 percent of
returnees scored a 5 for their U.S.

that might otherwise be unattainable in their home country. My survey, however, showed that the currency of international talent mobility
lies not in these types of skills,
but rather in realizable practices. Returnees were more likely to transfer
nontechnical knowledge about managing relationships and coordinating
work among employees than assetor industry-specic technical knowledgeand they placed a much
higher value on the former, as well.
Workow knowledge tends to
be tacit, difcult to demonstrate or
describe. This is why the returnee is
valuable. Respondents who were effective at transferring such workow
practices were also skilled at adapting them to local environments. Respondents who worked in software
development often cited their attempts to institutionalize peer code
review practices that they had
learned in the United States. Peer
code reviews are a standard practice
in companies such as Google and

best intentions. Firms often, unfor-

tunately, ignore the cultural barriers


to incorporating workplace practices
from abroad. Indeed, many of the
returnees in my survey reported resistance from their home country
colleagues, not because of the quality of their knowledge, but because
it came from a culturally unfamiliar
place. Further analysis revealed that
returnees to countries that scored
high on a standard xenophobia scale
or held negative attitudes toward the
U.S. were less successful at transferring knowledge, even controlling for
other country-level economic and
political factors.
Its not just their coworkers attitudes in play, either. Returnees often reported experiencing reverse
culture shock. Earlier research has
shown that instituting cultural diversity training among all employees
can facilitate the readjustment process for returnees by fostering a
mind-set more open to new and
foreign ideas. Repatriation or readjustment training, through which
workers regularly discuss their expectations and experiences with cultural training professionals, is also
critical. Back in 1999, in a study of

strategy+business issue 77

leading ideas
ideas
16

1. Experience at home matters

Illustration by Justine Beckett

Reprint No. 00283

Dan Wang
djw2104@columbia.edu
is an assistant professor of management at
Columbia University.

Can Media Firms


Become Digital Video
Mavens?

leading ideas

multinational companies based in


Europe, INSEADs Hal Gregersen
and his colleagues found that more
than half of those who returned to
their home country ofces quit
within a year of coming back, largely because of reverse culture shock.
However, the researchers also found
that readjustment training reduced
the quitting rate to less than 25 percent. For those who began this
training prior to their return, the
rate dropped to less than 10 percent.
Fifteen years later, this advice remains sound, and can help ease cultural barriers to knowledge sharing.
For multinationals, the potential payoff of integrating employees
with overseas experience into their
workforce is huge. But it wont come
easy. An overwhelming majority of
respondents to my survey reported
that although they were hired because of their overseas experience,
their home country workplaces offered little opportunity for them to
share the skills or knowledge they
had gained abroad. When instituting policies on international work
experience, whether for current employees or potential new hires, companies need to understand the value
of such policiesand how to capture that value. Its critical for them
to do so. When returnees bring
home practices, they are almost never replicated exactly. But it is through
the process of adaptation that new
practices can emerge, making these
workers a wellspring of innovation
that in all too many companies today remains untapped. +

Traditional entertainment companies are


buying up new multichannel networks in pursuit
of online audiences.
by Christopher Vollmer,
Sebastian Blum, and Kristina Bennin

ach month, YouTube draws


1 billion unique visitors who
watch a combined total of
more than 6 billion hours of video.
Attracted by this massive user base,
which is equal to 40 percent of the
worldwide online population, a new
breed of companythe multichannel network (MCN)has emerged
in recent years. MCNs aggregate
thousands of digital video channels
and large communities of content
producers, partnering with YouTube
to syndicate and monetize their content as well as distributing videos on
their own websites. For example,
Maker Studios, the largest MCN,
has 55,000 channels and more than
5.5 billion video views monthly.
About 80 percent of the Maker
Studios audience is in the highly desirable 13-to-34 demographic, and

half of it originates outside the U.S.


These numbers have captured
the attention of major media companies, which are now trying to get
in on the action by buying stakes in
MCNs or acquiring them outright.
In 2013, DreamWorks Animation
paid US$117 million to purchase
the youth-focused AwesomenessTV.
In April 2014, Disney purchased
Maker Studios in a deal that could
total nearly $1 billion if certain performance milestones are met. And
in the autumn of 2014, Otter Mediaa joint venture between telecommunications giant AT&T and
media and entertainment portfolio
company the Chernin Groupacquired a majority stake in Fullscreen,
valuing that MCN at a reported
$200 million to $300 million. For
established players, these deals all
follow a similar strategic logic: Secure a leading content and distribution position in the digital video
ecosystem as audiences and advertisers begin to shift online.
However, if these investments
are to truly drive growth, media
companies will need to rethink their
old playbook. The same strategies
that drove success in broadcast
TV, cable, and lm wont be sufcient to expand, monetize, and integrate MCNs. For one, the content
is markedly different. Although
MCNs are typically organized by

17

such as gaming, e-commerce, merchandising, and licensing.


As both sides begin to see the
value in combining their complementary capabilities, more deals are
likely to move forward. The following strategies can help large media
companies make multichannel networks a growing and protable part
of their portfolios.
Platform diversication. In
general, YouTube is the principal
platform used by MCNs, yet thus
far, MCNs that depend on YouTube
alone have struggled to build a
sustainable, stand-alone digital business. Currently, MCNs reportedly
share about 45 percent of their revenue with YouTube and pay an additional 35 to 40 percent for creative
talent. As a result, MCN margins
may lie between 15 and 20 percent,
but this arrangement leaves little
room for prot, because they also
have to invest in technology, marketing, sales, overhead, and so on.
So although YouTube will remain a
must-have partner for MCNs in the
foreseeable future, it shouldnt remain their only partner. Options
include other major digital platforms such as Facebook, Yahoo, and
AOL, as well as other digital video
services such as Hulu and Netix.
In addition to seeking distribution alternatives to YouTube, media
companies should consider building
out their MCNs digital properties
under the MCNs own brands. For
instance, they could use YouTube to
acquire online video users, and then
migrate these fans to other, wholly
owned digital assets with more favorable economics. Large media
companies experience in pushing
content and audiences across different channels and driving cross-promotion should give them an advantage here.

Global expansion. Cisco pro-

jects that consumer Internet trafc


from video use will account for 79
percent of all trafc worldwide in
2018 (up from 66 percent in 2013).
In the U.S., millennials are increasingly likely to watch online video in
place of traditional television. But
the effect is even more pronounced
in emerging markets. According to
a 2013 Nielsen report, some 15 percent of mobile users in Brazil and 17
percent in China watch videos online three times a day. These users
in emerging markets will play an
ever more important role in driving
digital video consumption. Media
companies partnering with MCNs
should actively pursue these new
audiences, even as they continue to
grow their positions in the U.S. and
Europe. To do so, MCNs should
broaden their content offerings to
suit markets around the world, especially through mobile video, and focus increasingly on pursuing local
partnerships.
Content creation. MCNs already aggregate and create their own
content through their maker communities. But media companies
should prioritize investment in more
original content, supporting their
MCN partners in moving from
pure aggregator to aggregator
producersimilar to how Netix
has produced original programming
such as the series Orange Is the New
Black and House of Cards. The goal
is to more cost-effectively create distinctive content that still appeals to
younger audiences who are seeking
alternatives to traditional video programming. Armed with data from
their thousands of online video
channels, MCNs can generate insights on whats working, whats being viewed, and whats being shared.
Such insights are not typically a

strategy+business issue 77

leading ideas
18

programming genres similar to


those of cable/pay-TV networks
such as news; sports; entertainment;
and lifestyle interests like cooking,
shopping, and fashionthe tone
and production value of MCN content emphasizes an unltered authenticity that is designed to appeal
to a young audience. Most important, MCNs produce content that is
designed from the start not just to
be watched, but also to be shared on
social media.
And its not content alone that
sets MCNs apart. These new, highgrowth companies have succeeded
in building large audiences on YouTube by moving rapidly and being
willing to experiment and innovate.
Big media companies therefore arent
just buying digital market growth
when acquiring MCNs. They are
hoping to add a variety of attractive,
digital-rst capabilities that they
have struggled to develop from within, by leveraging the creative talent,
technology, and ideas that make
MCNs so appealing to the next generation of video consumers.
Of course, larger players bring
many capabilities to the table that
can complement MCNs and make
their business models more viable.
Theyre typically better at monetizing content (via both advertising
and subscriptions), they know how
to package and integrate brands
across distribution platforms, and
they have well-established relationships with marketers and the advertising-buying community. The big
media companies also have signicant intellectual propertysuch as
brands and characters from television and lmthat MCNs can access and distribute via their digital
channels. And large companies can
also accelerate MCN revenue generation in other high-growth areas,

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not just sustained or even accelerated, but turned into prot. +

such as the ability to upload and


share seles of their makeup looks.
Media companies will need to pursue these kinds of opportunities aggressively in order to maximize the
revenue generation potential of multichannel networks.
Large media companies recognize how important digital video
is today and how important it will
be tomorrowand they know that
theyll need new digital capabilities
that have thus far eluded them if
they are to succeed in the rapidly
transforming video ecosystem. Increasingly, they see MCNs as their
way in. But the question is whether
they, as owners, can support and
eventually expand MCNs and their

Reprint No. 00284

Christopher Vollmer
christopher.vollmer@strategyand.pwc.com
is a partner with Strategy& based in New
York. He leads the rms global media and
entertainment practice and is the global
managing director of Strategy&s Digital
Services.
Sebastian Blum
sebastian.blum@strategyand.pwc.com
is a principal with Strategy&s communications, media, and technology practice, and
is based in New York.
Kristina Bennin
kristina.bennin@strategyand.pwc.com
is a senior associate with Strategy&s
communications, media, and technology
practice, and is based in New York.

s+b Trend Watch


The Profit Conundrum
As companies develop new products, expand their geographic reach, and add distribution channels,
their revenues increase. But according to a new cross-industry analysis of more than 300 firms,
this complexity also raises the cost of goods sold (COGS)and often means that operating margins
fail to meet expectations.

Revenues go up...

but so do costs...
80%

$25

Average
%-Point
Change,
200712
(% of
Revenue):
0.7%

COGS

US$ Billions
Avg. Revenue, 200712: 9.2%

75%
70%

$20
65%

and even with overhead cuts...


25%
Overhead

$15
20%

0.2%
15%
10%

$10

15%

company leaders dont see


the expected benefits of scale.
Operating Profit Margin

$5
10%

0.4%

5%
0%

$0

2007

2012

2007

2012

Source: Winning with complexity: Operations capabilities that drive profitable growth, by Rich Kauffeld,
Arvind Kaushal, and K.B. Clausen, Strategy& white paper, Aug. 2014, www.strategyand.pwc.com/COGS;
additional analysis provided by Strategy& senior analyst Jennifer Ding

strategy+business issue 77

leading ideas
20

strong suit of incumbent media and


entertainment companies, which
still largely use viewer metrics and
programming development processes that lack a digital-rst focus.
Monetization.
Advertising
dollars are beginning to follow the
growth of MCNs. Major buyers like
Verizon Wireless and Mondelez International, for instance, have recently shifted double-digit portions
of their television ad budgets to online video. But for media companies
looking to monetize their newly acquired MCNs, the focus should not
be solely on selling ads. Several lifestyle-focused MCNs have begun to
explore business models that go beyond digital advertising, such as
product placement and sponsored
reviewsespecially where they can
match the tone of the clips they precede. Others are pursuing B2B partnerships in content production.
Finally, licensing and merchandising is emerging as a potentially
attractive revenue stream, in which
an MCN personality or content
brand embeds products or merchandising into the programming, such
as Kohls move to launch a new juniors fashion linethe S.o. R.a.d.
Collectionvia a Web video series
developed with MCN AwesomenessTV titled Lifes S.o. R.a.d. Another example is Endemol Beyonds
Michelle Phan, YouTubes top beauty guru, whose most popular episode has garnered more than 50
million views. Phan struck a deal
with global cosmetics rm LOral
to launch her own cosmetics line.
The brand speaks authentically to
Phans core audience, and the video
star credits her young followers with
inspiring her to develop the new
products. Likewise, the makeup
lines dedicated online store boasts
features targeted at young shoppers,

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22

Kings of the Cloud


The leading companies in the tech industry
are reworking their business models to deliver
everything-as-a-service.
by Olaf Acker, Germar Schrder,
and Florian Grne

he transition to a digitized
business environment is
happening with remarkable
speed. Companies are gathering and
analyzing huge amounts of data,
transforming their manufacturing
processes with digital fabrication
and other technologies, and incorporating the Internet of Things in
their products and processes (see
A Strategists Guide to the Internet
of Things, by Frank Burkitt, page
50). The companies at the forefront
of these technology industry trends
have already gained a competitive
edge over their slower rivals.
A key factor has been the move
to cloud computing. Virtually every
large organization is using interconnected, shared infrastructure
comprising servers, software, connections, and informationin a

utility-like fashion, connected over


the Internet. Both public clouds
(shared by customers) and private
clouds (dedicated to one company) are rapidly increasing their

business digitization possible.


Current technology trends are
lowering the prices of IT services
and software, and shifting them
from outright purchases to exible
subscriptions. For the suppliers of
digitization, this may initially push
down IT revenues, but in the longer run it could lock in customer
relationships, enable speedier customization of products and services,
and intensify innovation and global
expansion. The net effect may be to
concentrate business further around
the top few industry players, which
will all offer cloud-based platforms
at a massive global scale.
These trends are evident in
Strategy&s third annual analysis
of the Global ICT 50, the leading
providers of enterprise computing.
Each year, we analyze and rank the
inuence and business success of the
50 largest publicly held companies
that supply digitization-related products, services, and infrastructure to
businesses, governments, and other
organizations around the world.
Our goals are to provide the industry

Current trends are lowering the


prices of IT services and software,
and shifting them from outright
purchases to exible subscriptions.
power and prevalence. Without the
cloud, it would be far more difcult for companies to gather, store,
analyze, and use the mountains
of data so critical to success today.
And as cloud computing becomes
ubiquitous, it affects just about
every aspect of the information and
communications technology (ICT)
industry, the industry that makes

with a view of its strongest companies and to help large customers better understand their technological
options, especially in building their
own distinctive capabilities.
The Global ICT 50 rankings
are based on a carefully weighted
formula that takes four critical criteria into account: nancial performance, portfolio strength, go-to-

Illustration by Lars Leetaru

essay technology

TECHNOLOGY

HW and Infrastructure

Software and Internet

IT Service Providers

Telecom Operators

Alcatel-Lucent

Amazon

Accenture (global)

AT&T

Apple

Google

Atos (regional)

BT

Cisco Systems

Microsoft

Capgemini (global)

China Mobile

Ericsson

Oracle

Cognizant (offshore)

Deutsche Telekom

EMC

SAP

CSC (global)

KDDI

Fujitsu

Amdocs

HCL (offshore)

KPN

Hitachi

Sage

IBM (global)

NTT

Hewlett-Packard

Symantec

Infosys (offshore)

Orange / France Telecom

NEC

TCS (offshore)

Telefnica

Ricoh

Wipro (offshore)

Verizon

Samsung

Automatic Data

Vodafone

Toshiba

Capita

Xerox

CGI

Intel

Fidelity National

Adobe

Lenovo

Fiserv

CenturyLink

Qualcomm

WATCH LIST 2014*

China Telecom
China Unicom
Huawei

Entered ICT 50

Salesforce.com
SoftBank
*Fast-growing companies with expected significant impact on ICT services industry

Windstream

Source: Strategy& analysis

ZTE

market footprint, and innovation


and branding. We select the 50 largest public companies serving enterprises overall, divide them into four
major sectors based on how they
generate the most revenue, and rank
them within those sectors (see Exhibit 1). Because the Global ICT 50
rankings are weighted toward business-to-business activity, they tend
to favor companies in that sphere.
Major consumer-oriented companies, such as Apple and Google, tend
to appear on the list, but not at the
top. The sectors are:
Hardware and infrastructure. Companies such as Apple,

Cisco Systems, Hewlett-Packard


(HP), and Xerox make the PCs,
smartphones, tablets, routers, and
telecom networking equipment
that underpins our digital world.
As their products become commoditized, many hardware makers are
diversifying into software, services,
and other businesses.
Software and Internet. Companies such as Google, Microsoft,

Oracle, and SAP produce programs,


data systems, and Internet-based
(increasingly cloud-based) services.
This sector has seen considerable
change; three of the eight companies
on last years list have been replaced.
IT service providers. These
companies offer critical IT services, including network hosting,
enterprise-level business application
management, and hardware and
software integration. There are three
subcategories: Global service providers, such as Accenture, CSC, and
IBM, serve clients around the world.
Regional service providers, whose
business is limited to local relationships, continue to struggle; ve out
of seven dropped off the 2013 list,

replaced by a new ve. Offshore service providers, including HCL, Infosys, and Wipro, are mostly based
in India but offer their wares worldwide. They continue their long and
robust expansion into new markets.
Telecom operators. Companies such as AT&T, NTT, and
Vodafone offer a variety of communications servicesincluding xed
and mobile voice and broadband,
and often Internet-based television.
This years results suggest that
competition in the ICT industry
is much more difcult than it was
even 12 months earlier. Enterprise
customers for hardware, software,
and services have more options and
are becoming more sophisticated in
linking their technology purchases
to strategy. Consolidation is also
having an effect: For example, although telecommunications companies continue to struggle for growth,
their protability is improving after
a year of mergers and acquisitions.
Global reach, in the form of a broader geographic footprint, is becoming
a prerequisite for success in this industry, particularly in services.
Most important, activity is rapidly migrating to online interconnected computing resources. The
top competitors in the Global ICT
50particularly the top ve, which
are IBM, Microsoft, SAP, Oracle,
and Cisco Systemsmight not have
been considered one anothers direct
competitors a few years ago (see Exhibit 2, next page). Now they offer

This years results suggest that


competition in the ICT industry
is much more difcult than it was
even 12 months earlier.

essay technology

Exhibit 1: The 2014 Global ICT 50, plus Watch List

23

RANK

Company

2014

2013

IBM

Microsoft

SAP

Oracle

Cisco Systems

Apple

10

Google

Hewlett-Packard

10

Accenture

11

11

TCS

12

13

Amazon

13

21

EMC

14

12

Infosys

15

18

HCL

Samsung

Source: Strategy& analysis

a number of similar products and


services, all with a cloud-based portfolio. Elsewhere on the Global ICT
50 list, companies with a cloud orientation are moving up, while others move down or even drop off the
list. The industry leaders are seeking dominant positions, wanting to
become the kings of the cloud. As
a group, they are putting distance
between themselves and the second
tier of followers.
Changing Currents

On the surface, the Global ICT


50 list might seem relatively stable,
especially for its highest-ranked
companies. Only two rms moved
out of the top 15 this year. Atos, a
services rm based in Europe, lost
ground to companies with broader
geographic markets, and Adobe
dropped all the way out of the top
50 because of a steep one-time decline in revenue following its abrupt
shift from a licensing to a subscription software model. Its revenues
are expected to revive soon, at which
point it will likely rejoin the list.
Replacing those two in the top 15
were EMC, a U.S.-based cloud stor-

age and services company (and the


fastest-growing among the top 15),
and HCL, an offshore IT services
rm, which is also rapidly moving
into cloud-based services.
Nonetheless, a full 22 percent of
the list is different from last years.
A few well-known global companies slipped off, including Adobe
(as noted), BlackBerry (RIM), Dell
(because it is no longer a public company), and Yahoo. Companies joining the list include Intel, Lenovo,
Qualcomm, and Symantec (see
Lenovo Goes Global, by William
J. Holstein, s+b, Autumn 2014). We
also keep a watch list of companies
whose rapid growth suggests they
could be contenders for future lists.
These include the Japanese telecommunications rm SoftBank;
four Chinese companies (Huawei
and ZTE [hardware] and China
Telecom and China Unicom [telecom]); and four U.S. companies
(Adobe, Salesforce.com, and two
telecom companies that provide Internet-based services, CenturyLink
and Windstream Communications).
The nancial picture also indicates signicant underlying change.
Together, the companies that make
up this years Global ICT 50 posted
US$2.22 trillion in revenues, 2 percent more than they did the year
before, while the companies average prot margin stayed stable, at
15.4 percent. Software and Internet
companies, as usual, performed disproportionately well, with revenues
up 11 percent, to $284 billion. But
their margins, although the strongest of any category, were down
from the previous yearfrom 25
percent to 22.5 percent of revenues.
This supports the conclusion that
the ascending products and services,
such as cloud computing and other
subscription-based services, dont

produce the earnings that licensebased services have in the past.


The hardware and infrastructure sector experienced respectable
growth in revenues this year, reaching $858 billion, up 3 percent from
the prior year, but margins overall
have not improved at all in what is
increasingly a commodity business.
Most of the companies in this category made little or no prot. The
exceptions included Apple, which
captured more than 40 percent of
the prots in smartphones and tablets, and Samsung, Intel, and Cisco,
which each had prots of more than
$10 billion.
Given maturing markets and
legacy technologies, it isnt clear how
well the IT services sector can keep
up with the changing market
particularly the move to the cloud,
which makes some traditional outsourcing offerings less relevant.
As for telecom, although its prot
margins rose in 2014 by 3 percentage points, to 18 percent, the reason
probably had to do with short-lived
events: consolidation and costoriented restructuring efforts. The
boom in mobile telephony helped
revenues, but at the same time competition intensied. If you are a telecom company leader, this is not a
time for complacency.
The data on geographic footprints shows the increasing importance of global expansion. Among
the service providers, for example,
global companies are thriving most,
thanks to their ability to apply their
capabilities around the world. Some
are building massive hubs in lowcost labor centers such as India.
The offshore IT services players are
similarly broadening their footprint,
aggressively buying up market share
in mature, high-spending markets.
Their footprints remain small, much

strategy+business issue 77

essay technology
24

Exhibit 2: The Top 15 in the ICT 50

it, through innovation and M&A,


and this has given each of them an
advantage in scale and scope. If the
ranking criteria (nancial performance, portfolio strength, go-tomarket footprint, and innovation
and branding) are, as we believe,
accurate predictors of digitization
impact, then IBM, Microsoft, SAP,
Oracle, and Cisco Systems could become the pacesetters of cloud computing, competing to bring enterprises a new level of prociency.
IBM has been an active proponent of migration to the cloud.
Starting with its on-demand offerings in the early 2000s, it has led
more than 1,500 cloud-related patents, and has made at least 15 cloudrelated acquisitions valued at more

All ve of the top-ranked


companies appear to be basing
their future on cloud computing.
In 2014, six of the 10 most innovative companies from the Strategy&
Global Innovation 1000 study (see
page 34) were also in the top 15 of
the Global ICT 50: Amazon, Apple,
Google, IBM, Microsoft, and Samsung. This is signicant because
the Global Innovation 1000 contains companies from all industries.
There is also some correlation with
Interbrands 2013 study of brand
reputation, which placed six Global
ICT 50 companies among its top 10
global brands: Apple, Google, IBM,
Amazon, Microsoft, and Samsung.
Fighting for the Cloud

All ve of the top-ranked Global


ICT 50 companies appear to be basing their future on cloud computing. They have invested heavily in

than $7 billion. In 2013, it took in


$4.4 billion in cloud-based revenue,
up 69 percent from the prior year.
IBMs offerings for the cloud
include infrastructure-as-a-service
(IaaS) for underlying storage and
computing capacity, platform-asa-service (PaaS) for application development and deployment, and
software-as-a-service (SaaS) for serving end-users within enterprises.
Together, these represent one of the
companys three main strategic imperatives. The others are big data
and analytics, and enterprise mobility. The cloud is particularly critical
to the companys strategy, because
it provides the underpinning fabric
that makes the other two imperatives possible.
Microsoft is similarly intent on

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essay technology

smaller than those of the global giants, but with strong momentum.
Telecom companies remain tied to
their investments in local infrastructure, but the cloud makes it easier
for global competitors to move in.
ICT growth in emerging markets has slowed, particularly as
economic growth has peaked in
countries such as Brazil, India, and
Russia. China is still a major ICT
purchaser, on a par with Japan, but
ICT market activity is shifting to
mature economies, at least in the
short term, as organizations convert
their legacy IT systems to the cloud.
The nal component in our
ranking involves the relative strength
of the companies innovation efforts
and the value of their global brands.

the human capital software company SuccessFactors. SAP recently


announced the creation of a new
business unit devoted to cloud-based
products for vertical industries, including the Internet of Things and
e-health offerings.
SAPs move into the cloud has
led to a growth rate of 60 percent
in cloud-based revenues in early
2014, even as it plans to maintain
its slower-growth but higher-margin
non-cloud business. In the Global
ICT 50, the company is currently
ranked number three in its subsector
in nancial health, and, should its
combined cloud and non-cloud plan
work out, it should maintain or even
improve that ranking.
Oracle was both early and cautious in moving to the cloud. It
introduced its CRM On Demand
offering in 2006, and made a number of high-prole, cloud-relevant
acquisitions: J.D. Edwards, PeopleSoft, Sun Microsystems, and Responsys, a provider of cloud-based
B2C marketing software. Oracle
ranks rst among the Global ICT

No single provider can be all


things to all enterprises, and there
are plenty of protable niches.
IT professionals is a critical strength.
Its brand is ranked number ve by
Interbrand, and it has more than
$80 billion in cash to help it ght
the battle for the cloud.
SAP, which offers enterprise
computing infrastructure, data
analytics, and software platforms
tagged to industry verticals, is a
relative latecomer to the cloud. It
began the transition around 2012,
with help from the acquisition of

50 in portfolio strength, and its


cloud services are increasingly responsible for this, especially in private systems tailored to individual
companies. It is launching its own
cloud-based database platform to
compete with similar offerings from
Amazon and others.
But Oracle also lags behind its
rivals in offering cloud-based CRM,
SaaS, and ofce productivity solutions. Just 3 percent of its 2013

revenue was derived from its cloud


offerings; its success has largely depended on providing database and
CRM software through a noncloud, premises-based model. It is
reframing its software portfolio as an
enterprise app store, letting customers decide whether to go the cloud
route or maintain their existing system behind its corporate rewalls.
Whether it decides to more tightly
integrate all of its acquisitions into a
full-service cloud offering for enterprises remains to be seen.
The fth-ranking company,
Cisco Systems, takes a distinctive approach. Rather than offering cloud
services directly to enterprise endusers, it provides them with the infrastructure and platforms needed to
build computing clouds themselves.
Cisco isnt the rst entrant into this
market, but according to the Synergy Research Group, it sells more
of the hardware on which the cloud
is based than does any other player.
It also emphasizes integrated solutions; for example, Ciscos Unied
Data Center and UCS IaaS products
unite computing, networking, storage, management, and virtualization into a single system oriented to
improve operating efciencies.
Given this focus on selling
underlying componentsespecially
networking hardware and servers
it is natural for Cisco to pursue an
open, standards-based approach. Its
goal is to help customers avoid being locked into a single vendor or
platformwhile relying on Cisco,
of course, for a good share of the
technology. Cisco has a long history of supercharging its innovative
capabilities through strategic acquisitions. It has acquired more than
170 companies since 1993. Over
the next two years, it plans to invest
more than $1 billion to build its ex-

strategy+business issue 77

essay technology
26

migrating its enterprise infrastructure and application business to the


cloud. Despite the challenges this
company has encountered on the
consumer-facing side of its business,
it is extremely successful overall. The
enterprise division, which is made
up of the servers, cloud computing,
and programming tools businesses,
represents almost half of Microsofts
total $80 billion in revenue, and almost two-thirds of its $60 billion in
gross earnings.
The rm is expanding its cloudbased software-as-a-service business,
which has consistently had doubledigit annual growth or better, and
which currently has more than $1
billion in annual revenues. The twoyear-old cloud-based Ofce 365 offering has also been successful, more
than doubling its revenue in its second year. Microsofts other cloudbased offerings include Azure (IaaS)
and customer relations management; it competes directly with the
category leader, Salesforce.com. The
companys well-established capability for building relationships with

Consolidation and Competition

What are the implications for companies in the technology industry?


This years study shows just how
competitive and concentrated the
industry has become. The battle for
a share of the cloud services market
is erce, but the same can be said for
providers of big data and analytics,
social media, and, increasingly, the
Internet of Things. Size matters,
too, especially when selling to large
corporationsas IBMs number one
spot in the rankings this year demonstrates. And the fact that all of the
top ve Global ICT 50 companies
are growing their businesses aggressively through acquisition suggests
the importance of building complete portfolios quickly.
But no single technology provider can be all things to all enterprises, and there are plenty of
protable niches to be found in the
market. Success will come to those
ICT companies that focus on a distinctive edge, nding a combination
of capabilities and product portfolios that best enable them to pursue
their chosen strategy.
The greatest opportunity in
this story is for the technology users;
the companies that purchase ICT
and use it to serve their customers in their own distinctive ways.
The rise of the cloud has leveled
the playing eld, broadening access
and lowering costs for many types
of ICT offerings. Specialized access to enterprise ICT is becoming
a commodity; small companies can
benet from the same services as in-

dustry leaders. Cloud-based services


can build on modular designs to
create unique capabilities that fulll
their own strategies, without having to replicate the functions, or the
best practices, of their competitors.
Technology can now more easily be
a vehicle for strategic choice: a way
to determine what a company can
do best, and to put that understanding into practice. The information
and communications technology
providers that realize this, and make
it more feasible through their offerings, will be the leaders of the Global ICT 50 for many years to come. +

Germar Schrder
germar.schroeder@strategyand.pwc.com
is a partner with Strategy& based in
Frankfurt. He focuses on communications
clients and ICT service providers, and has
led several initiatives for product development, go-to-market, and operating model
design, specically for the cloud.
Florian Grne
orian.groene@strategyand.pwc.com
is a principal with Strategy& based in New
York and Berlin. He works with communications, media, and technology companies
on new customer experiences, products,
and services, and building operating and
technology models for the digital age.
Also contributing to this article were
Strategy& senior associate Florian Muhss,
associate Markus Weiss, and s+b contributing editor Edward H. Baker.

Reprint No. 00285

Olaf Acker
olaf.acker@strategyand.pwc.com
is a partner with Strategy& based in
Frankfurt and Dubai. He focuses on
business technology strategy and digital
operating model transformation programs
for global companies in the telecommunications, media, and technology industries.

essay technology

panded cloud business. Thanks to


its strong cash position, it can afford
to keep building out its portfolio.
It will probably become a key enabler of the growth of the Internet
of Things.

This article is based on the third annual


Strategy& Global ICT 50 study. For the full
report, the methodology, and previous
years studies, see www.strategyand.pwc
.com/2014-ICT50.

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27

28

What Mom-and-Pop
Stores Can Teach
Grocery Chains
To stave off online competitors, supermarkets
should work with their suppliers and get back to
personalized service.
by Tim Laseter and Steffen Lauster

t a typical suburban home


in the year 2020, Cecilia receives a text message
from her favorite grocery store. Its
a reminder that the family-sized
box of cereal she or her husband,
Andrew, typically buys every two
weeks might be running low. In fact,
she poured the last bowl for her son
this morning. She adds the item to
the familys virtual shopping basket
with a simple voice command. She
then reviews and conrms the rest
of the staples in the basketcoffee, bananas, chicken, bread, milk,
and diapersand texts Andrew to
remind him to pick up the groceries
on his way home.

Two days earlier, in anticipation of her familys typical weekly


shopping trip, night-shift employees
at the store had gathered the longshelf-life items from Cecilias virtual basket in the backroom. Now,
triggered by Andrews arrival in
the parking lot, the pickup counter
employee adds the perishable items.
When Andrew enters the store with
his reusable jars and containers, he
is greeted by a professionally trained
chef, who offers a dinner menu suggestion based on the chicken breast
in his order and a few seasonal
vegetables delivered to the store by
a local farmer that morning. Andrew has her scan a prepackaged
box of ingredients and place it in
his cart. As he heads toward the

pickup counter, he grabs a bottle of


wine recommended by his frequent
shopper store app. Just 15 minutes
after he arrived, Andrew heads out
of the store with the bulk of his
familys grocery needs, plus a few
special items.
For traditional grocers, this
tailored and engaging customer experience harks back to the days before the self-service model came to
dominate the industry. Its only in
the last century that supermarkets
have relied on customers entering
their stores, wandering the aisles,
and largely helping themselves. But
reestablishing a customer-centric approach today is possible, and it
wont require a technological breakthrough in hardware or software.
All the pieces exist. It will, however,
require a fundamental rethinking of
the customers grocery shopping experience, as well as the supply chain
and store operations to support it.
At rst glance, the prospects for
supermarkets may not seem dire.
Overall, groceries remain an exception to the impressive growth of
Internet retailing over the past two
decades. According to estimates by
Brick Meets Click, online grocery
sales in the U.S. currently hover just
above 3 percent. In the United Kingdom, which has among the highest
penetration rates, research by Kantar Worldpanel puts the share at
only 5 percent. PwCs 2014 Achieving Total Retail survey of more than
15,000 online shoppers worldwide
reported that only 13 percent of
consumers shop online for groceries, compared with 32 percent of
consumers in all category purchases.
A 2014 Nielsen survey found that
74 percent of shoppers believe that
shopping for groceries in the store is
more convenient than shopping for
them online. And the industry lag is

Illustration by Lars Leetaru

essay consumer products

CONSUMER PRODUCTS

History Repeats Itself

Nearly a century ago, Piggly Wiggly and other regional chains began
experimenting with the self-service
format and ushered in the modern
grocery industry paradigm: an ever-

increasing selection, in ever-larger


stores. Prior to this model, however,
small general merchandise stores
served customers dry goods and other nonperishable staples at a counter
typically staffed by no more than
two or three clerks. Located within
neighborhoods and small communities, these stores also delivered goods
to their customers (often on credit,
because the store owners personally
knew their clientele).
The self-service innovation
marked the rst step in the transition away from service-based to

of packaged goods and perishables,


dominated grocery sales in the newly
developed suburbs. Unfortunately,
some of the behemoths of the industry failed to make a smooth transition. For example, A&P, a company
dating back to 1859 and once the
worlds largest retailer, with nearly
16,000 stores, began a long decline
in the early 1960s, ultimately declaring bankruptcy in 2010.
In the late 1980s, even the most
successful grocery stores started
to feel squeezed by the entrance
of a new player. It was then that

Over the coming decade, growth


will be at or will decline across all
grocery formats except online.
price-based competition. The second step was the nationwide expansion of grocery chains, designed to
capture the scale benets in purchasing. During the 1920s, these chains
began stocking perishable meats
and produce, but the rst modern
supermarket didnt come into existence until 1930. That year, Michael
Kullen opened a massive store, King
Kullen, on the fringes of New York
City that was scaled to sell 100 times
the volume of a typical chain store of
Kroger or A&P, his former employers. The no-frills store housed within
a former warehouse offered wider variety and rock-bottom prices.
Over the next 20 years, the
national chains converted their
small-footprint stores into the new
supermarket format, generally reducing their overall store counts but
expanding the average size of each
store. In the 1950s and 60s, what
todays shopper would recognize as
a modern grocery store, with a mix

Walmart entered the grocery business with its rst supercenter. This
Wall Street darling had achieved
$1 billion in sales a mere 10 years
after its 1970 IPOfaster growth
than any company, in any industry,
had previously achieved. Kmart, one
of the former kings of discount retail
(along with Sears), followed suit, but
struggled to keep up as Walmarts
growing scale advantages fueled further price reductions and a greater
variety of offerings.
Other retail formatsmost
notably convenience stores and club
storesalso emerged during the
latter part of the last century, but
as of the mid-1990s, supermarkets
still controlled more than twothirds of the grocery channel. Over
the last 20 years, however, supermarket revenue growth in the U.S.
has been at in real dollar terms.
Meanwhile, supercenter sales have
grown nearly 7 percent annually
the lions share going to Walmart. At

essay consumer products

not driven just by deeply ingrained


consumer habits and preferences.
The grocery category itself presents
challenges to an online modelfor
example, product perishability, temperature-controlled (cold chain)
distribution requirements, and items
with a low value-to-weight ratio.
However, the competitive dynamics are changing, especially
in the United States. Online competitors want to claim their share
of grocery sales, which account for
roughly half of U.S. retail spending. Our forecasts suggest that over
the coming decade, growth will be
at or will decline across all grocery
formats except online, which will
have double-digit growth rates.
Amazon established Prime Pantry as a national subscription program for dry goods and expanded
AmazonFresh from Seattle to Los
Angeles and San Francisco; expansions to Washington, DC/Baltimore
and New York/New Jersey are rumored to be in the works. Not to
be outdone, Google has announced
a US$500 million war chest to
support Google Shopping Express,
which delivers products from retailer shelvesincluding groceriesto
customer homes.
Because online players can
provide more variety than a physical store, clinging to the self-service
model is fruitless for traditional
grocery stores. To survive and thrive
in the coming decade, supermarkets
need to return to the customer-centric mind-set of oldwhile leveraging the digital tools of today.

29

Start with the Customer

The grocery industry recognizes


that the same consumer will choose
among the various channels available at different times for different
needs. Thus, rather than segmenting by customer demographics, the
industry focuses on trip types: the
stock up, the ll in, and the
quick trip. Historically, supermarket chains sought all three trip
types by building stores close to a
critical mass of customers, with convenient parking. And although they
understood that the same customer
makes different types of trips, they
inevitably hoped shoppers would
impulsively buy more as they wandered the aisles regardless of their
original intent. (Did you ever wonder why high-volume staples such as
bananas, bread, and milk are typi-

cally in opposite corners of a grocery


store?) Supermarket chains have thus
been reluctant to aggressively pursue
the online model, including curbside pickup. And for good reason:
Academic studies such as the 2008
Harvard Business School working
paper Ill Have the Ice Cream Soon
and the Vegetables Later: A Study of
Online Grocery Purchases and Order Lead Time have shown that the
delays typical of ordering online reduce shoppers impulse to purchase
hedonistic goods.
But the emerging online subscription modelssuch as diapers from Diapers.com or Amazon
Momturn the old approach on its
head. They apply a customer-centric
alternative by targeting the needs of
a specic customer segment rather
than seeking to be all things to all
people. Having found a valuable segment, these online players focus on
recurring stock up purchases and
offer exceptional service to build a
loyal customer base. Over time, they
hope to offer a wider range of products through partner sites, whether
personal hygiene products from
Soap.com or grocery dry goods from
Amazon Prime Pantry. A focus on
such staples offers a successful entry
point for emerging online grocery
models as they seek to retrain supermarket shoppers. But these staples
could also offer the foundation for
traditional grocers to rethink the instore shopping experience.
However, supermarkets cant
do it alone. They will need to partner with the large brand manufacturers, which desperately want to
move from the brute-force tools of
mass advertising and trade promotion dollars to more precise techniques for consumer engagement.
Although social media advertising
has made steady progress in erod-

ing investment in mass media, the


real challenge for packaged-goods
manufacturers is to wean their retail
partners away from trade promotion, which exceeds $100 billion annually and represents the largest category of marketing spending. This
is still the case despite the fact that
a large percentage of trade promotions fail to deliver a positive return
on investment.
These dollars could be reallocated to more targeted and protable investments if the combined
data of the retailers and manufacturers were leveraged. For example,
global brandsincluding CocaCola, Kraft, Nestl, and Procter
& Gamblehave partnered with
inMarket, a mobile platform, to
provide in-store marketing via consumers smartphones for nearly ve
years. And, using Apples iBeacon
feature, which was released in 2013,
inMarket partnered with the Giant
Eagle supermarket chain to beam
ads in grocery stores in Cleveland,
Seattle, and San Francisco. The ads
generate tailored offers based on the
customers specic location in the
grocery aisle.
Such spatial precision, combined with the wealth of data minable from retailer loyalty programs,
producer websites, and social media, could enable an unheard-of
degree of micro-segmentation. Our
experience has shown that placing
a product offer through collaboration with a retailer site increases the
click-through rate by an order of
magnitude over independent online
placement. Imagine the potential
of further collaboration to improve
in-store digital engagement. And,
as illustrated by the experience of
Andrew above, digital tools can also
enhance personal interactions in the
store. The idea is to restore the lost

strategy+business issue 77

essay consumer products


30

48 percent, traditional supermarkets


still account for the largest share of
the grocery market in the U.S., but
supercenters now have a 23 percent
share and club stores 11 percent.
Convenience stores retain the 14
percent of the market they had 20
years ago, but drugstores now capture 5 percent as they seek to own a
larger share of wallet of their pharmacy customers.
That brings us to the present, with online behemoths such
as Amazon entering the mix. And
although the extra cost of delivery
to the home adds expense in comparison with the self-service model,
customer perception has shifted as
Amazon and other online retailers tout free shipping. (Amazon
spends $6 billion on shipping while
collecting only $3 billion in shipping feesbut it still makes a prot,
albeit a small one.) Traditional supermarkets are feeling more pressure
than ever, and from all directions.

A Tailored Supply Chain

Digital tools can personalize the


grocery shopping experience, but
the key challenge for traditional
grocery stores is to cost-effectively

items from the shelves just as the


customer would have done. That
said, with some fresh thinking, grocers can cut needless costs. For example, why put high-volume staples
such as toilet paper on the shelves
for customers to sort through when
they can be more efciently packaged with other staples for customer
pickup? What other products could

The emerging online subscription


modelssuch as diapers from
Diapers.com or Amazon Mom
turn the old approach on its head.
transition away from the self-service
model. The grocery supply chain
has been designed to ship full truckloads containing pallets of cases for
shelf display in a storewhere customers do their own picking. In
online retailing, individual items are
processed in fulllment centers and
aggregated for delivery to the consumers home. Although the last
mile of home delivery adds signicant cost, bypassing the stocking of
store shelves can create offsetting
savingsat least in theory. That
was the investment thesis of Webvan
a dozen years ago, and it remains the
dream of online grocers today (see
The Last Mile to Nowhere: Flaws
& Fallacies in Internet Home-Delivery Schemes, by Tim Laseter, s+b,
Third Quarter 2000).
Traditional supermarkets face
the worst of both worlds if they
dont rethink the supply chain. Delivery from the store or even curbside pickup of a grocery order placed
online currently requires the incremental cost of an employee serving
as a personal shopper to collect

be cost-effectively processed in the


backroom of the store and picked up
at a service counter, in the tradition
of the local general merchant establishment in the days before the selfservice supermarket?
The packaging itself offers another potential opportunity. Amazon has already demonstrated the
ability to rethink packaging in the
purely online environment. Focusing on the customer experience,
Amazon introduced its frustrationfree packaging initiative in 2008. A
key target was the heat-sealed plastic
shells and wire twist ties common
in consumer electronics. Traditional
packaging simultaneously provides
visibility of the product on the shelf
and hampers shopliftingneither
of which is of concern to Amazon.
In partnership with its suppliers,
Amazon now lists 200,000 items
as frustration free. Suppliers have
reported reduced costs, as the new
packaging eliminates much of the
dunnage and double handling previously used to secure the product for
visual display.

Packaging for groceries on the


store shelf needs to grab the consumers attention in less than two
seconds in order to trigger a purchase
decision. It also must be designed for
efcient handling in case quantities
in the distribution network and for
individual use in the home environment. For items ordered for in-store
pickup through a subscription model, however, package design could
focus on different parameters. If
the item is packed in the backroom
for pickup at a store service counter, it doesnt have to pop on the
shelves, but it needs to be most easily
picked at the item level.
The iQ Shelf Maximizer introduced by Campbells offers a hint of
what might be possible. Campbells
red-and-white soup can represents
one of the most iconic brands in
grocery, but it was stagnating a decade ago. Among other innovations,
Campbells developed a gravity-fed
dispenser that reduced shelf clutter
and allowed shoppers to nd and
grab the desired individual can.
Such shelving could also simplify a
store-based picking operation, but it
doesnt go far enough in streamlining the full supply chain, since stock
clerks still feed the dispenser by hand
from traditional cardboard shipping
boxes. Following the example of the
automotive industrys lean supply
chain practices, the soup cans could
be shipped with returnable containers machine-loaded at the Campbells factory. A just-in-time ow of
dispensers for soup and other canned
goods into backroom picking
operations could reduce handling
costs and help move grocery toward
the high inventory turns achieved
in automotive. Other products in
cylindrical containers, such as Morton Salt and Gerber baby food,
would be obvious candidates for

essay consumer products

art of service and personal engagement that the small-town general


merchants offered before the era of
the self-service grocery store.

31

Grocers, Take Heart

Some traditional grocers have responded to online pressures by


partnering with services such as
Instacart. This startup connects
people online with crowd-sourced
personal shoppers who receive a
cut of the fee for picking up the
customers requested items in the
store and delivering them within
two hours. Venture capitalists are
respondinghaving nally recovered from the haunting memories
of Webvanbidding up Instacart
to an eye-popping valuation of

A better customer experience that


leverages both digital and physical
assets will be the key to success.
customers (environmentally and
digitally conscious millennials, in
particular) to forgo the expedited
home delivery of AmazonFresh and
embrace next-day pickup points as a
better trade-off.
The space savings from moving
high-velocity items off the shelves
and into the backroom could free
up space dedicated to key suppliers to create an engaging customer
experience. Imagine knowledgeable
sales clerks trained by General Mills
or PepsiCo to educate consumers
on the benets of a new product
with in-store trials, and perhaps
even signing them up for a new
subscription service. The stateof-the-art live chat feature of a
purely online retailer pales in comparison with what a physical grocery store could provide. Would
a permanently staffed counter offer more value than an ephemeral end-cap display funded by
traditional trade promotion dollars?

$400 million. Although the service


is still prohibitively costly for most
consumers, the ventures funding
portends further disruption of the
status quo. But traditional grocers
cant stop there.
Sheltered for the rst 20 years
of the Internet retailing era, supermarkets and their vendors can now
learn from other retail categories
that weathered earlier attacks. For
example, Best Buy has teamed with
key vendors such as Apple, Microsoft, and Samsung to enhance
the customer experience and avoid
simple price-based competition
with Amazon. Supermarkets would
be wise to learn from this formerly
high-ying retailer as it battles the
online onslaught. Providing a better
customer experience that leverages
both digital and physical assets will
be the key to success.
Both traditional supermarkets
and grocery manufacturers need
to develop capabilities aligned to

the emerging digital world, and to


break the single-minded pursuit of
low cost and wide variety that has
driven the industry for a century.
The specic capabilities will vary by
company, product, and region, but
will in all cases require intercompany collaboration between grocers
and their suppliers, and intracompany collaboration across functions
including marketing, merchandising, distribution, and operations.
Few things are certain about the
future of the traditional grocers in
the digital world, except that decline
awaits those who sit back and do
nothing. But supermarkets should
take heartrecent research from
Cardlytics shows that loyalty to grocery store chains is higher than loyalty in any other retail category. The
shoppers are supermarkets to lose.
Its time for grocers to stop thinking
about the coming threat, and start
planning for the opportunity. +
Reprint No. 00286

Tim Laseter
lasetert@darden.virginia.edu
is a senior executive advisor at Strategy&,
a contributing editor of s+b, and a professor of practice at the University of Virginias Darden School. He is the author or
coauthor of four books, including Internet
Retail Operations (Taylor & Francis, 2012)
and Balanced Sourcing (Jossey-Bass, 1998).
Steffen Lauster
steffen.lauster@strategyand.pwc.com
is the lead partner of Strategy&s consumer and retail practice, and is based in
Cleveland. He has more than two decades
of experience leading corporate growth
strategies in the U.S. and Europe, with a
particular focus on channel relationships
and trade promotion effectiveness.
Also contributing to this article were
Strategy& partners Michael DuVall,
Rich Kauffeld, and Martha Turner.

strategy+business issue 77

essay consumer products


32

similar gravity-fed dispensers.


Or, to save packaging and provide greater customization, perhaps
some products could be shipped in
bulk and packaged in a store pickup
zone. Just as many consumers now
carry reusable shopping bags, they
might also embrace the reusable
containers of the past, such as milk
bottles, or new special-purpose containers such as plastic cereal or coffee storage containers designed to be
relled through a subscription model with their favorite grocer. Such a
sustainability focus could lead some

feature innovation

34

1000

Ten years of research reveal the best


R&D strategies for the decade ahead.

Illustration by Harry Campbell

by Barry Jaruzelski, Volker Staack,


and Brad Goehle

The success of corporate R&D is on every


C-suite agenda. Yet wide disparities persist
in how well innovation investments actually
pay off. As a consequence, R&D is often
seen as a black box, where large sums of
money go in and innovative products and
services only sometimes come out. One of the
aims of the Global Innovation 1000 study,
our annual analysis of R&D spending, has
been to demystify the processand to nd
universal principles that can be applied by
any company, in any industry.

feature innovation

Proven
Paths to
Innovation
Success

35

feature innovation
36

Volker Staack
volker.staack@
strategyand.pwc.com
is a partner with Strategy&
based in Chicago, and is a
senior leader of the rms
innovation practice. He works
with automotive, industrial,
and technology companies,
helping them build competitive
innovation capabilities from
strategy to execution, improve
new product development
efciency and effectiveness,
and achieve strategic product
cost reduction.

This year, the 10th anniversary of the study, we


looked back at a decades worth of research on R&D
spending patterns and surveys of innovation executives,
plus anecdotal insights about how companies have been
improving their innovation performance. We also surveyed more than 500 innovation leaders in companies
large and small, across every major region and industry
sector, to ask what they have learned in the last 10 years
about why some investments work and others do not.
We found that its really not that mysterious: Over the
years, weve identied the core strategies that can improve a companys return on its R&D investment, and
weve witnessed some consensus around the key success
factors that drive results. For example, one of the main
messages we heard is that innovation leaders feel they
have made real progress in better leveraging their R&D
investments, particularly by more tightly aligning their
innovation and business strategies, and by gaining better insights into customers stated and unstated needs.
And in fact, 44 percent of our 2014 survey respondents
say that their companies are better innovators today
than they were a decade ago, while another 32 percent
say they are much better. Only 6 percent say they are
doing worse.
For our 2014 study, we also looked ahead to the
next decade, asking our survey respondents how they
expect their innovation practices to evolve. We found
tremendous opportunities for improvement: Only 27
percent feel they have mastered the elements they will
need for innovation success over the next 10 years.
Gaining that expertise will be important as companies
innovation goals change in the future. Many of our respondents said their companies plan to shift their R&D
spending mix over the next decadefrom incremental

Brad Goehle
brad.goehle@
strategyand.pwc.com
is a principal with Strategy&
based in Washington, DC,
and is a member of the rms
innovation practice. He works
with aerospace and defense,
industrial, and automotive
companies to drive growth
and innovation performance
in areas that span the product
life cycle, including front-end
strategic planning, product
development, and portfolio
management.

Also contributing to this


article were s+b contributing
editor Rob Norton, and
Strategy& senior campaign
manager Josselyn Simpson,
senior analyst Jennifer Ding,
and campaign manager Kristen
Esfahanian.

innovation to new and breakthrough innovation, and


from product R&D to service R&D.
Our study also provides some insight into trends
in R&D spending during the last decade. The rate of
growth in innovation expenditures for the Global Innovation 1000 slowed sharply in 2014, to just 1.4 percentthe slowest rate of growth in the past 10 years
for the 1,000 global companies that spent the most on
R&D. (R&D spending declined only once during this
time period: in 2010, in the wake of the nancial crisis
and recession, and then only modestly.)
The last two years of decelerating growth3.8
percent growth in 2013 and 1.4 percent in 2014
could be attributed to the general mood of uncertainty
overhanging todays global economy or the unusual
amount of geopolitical turmoil in the world. Looking
at 10 years of data, however, suggests another, simpler
explanation: reversion to the mean. The slowdown
followed two years of above-average growth in 2011
(10.3 percent) and 2012 (9.7 percent), and R&D spending growth will likely move closer over time to the average 5.5 percent compound annual growth rate from
2005 to 2014. It also may be that innovation spending
slows about ve years after a market disruption. After
all, the next-lowest year of R&D spending growth was
in 2006, ve years after the 2001 dot-com bubble burst
(see Exhibit 1).
Another possible explanation for the slowdown in
R&D spending growth is that companies, over time,
have been learning to do more with less. The long-term
rate of R&D intensity (innovation spending as a percentage of revenues), for example, has declined over
the last decade at a compound average rate of 2 percent
per year. This also reects one of the major ndings of

strategy+business issue 77

Barry Jaruzelski
barry.jaruzelski@
strategyand.pwc.com
is a senior partner with
Strategy& in Florham Park,
N.J., and global leader of the
rms engineered products and
services practice. He created
the Global Innovation 1000
study in 2005 and continues
to lead the research. He
works with high-tech and
industrial clients on corporate
and product strategy and
the transformation of core
innovation processes.

1000
Only 27 percent of respondents feel
they have mastered the elements
they will need for innovation
success over the next 10 years.

Exhibit 1: R&D Spending Growth, 200514

$700
$600

Total R&D Spending


US$ Billions

$500
$400
$300

Mr. Innovation himself, the late Steve Jobs, put it


more pointedly in Fortune magazine in 1998: Innovation has nothing to do with how many R&D dollars
you have. When Apple came up with the Mac, IBM
was spending at least 100 times more on R&D. Its not
about money. Its about the people you have, how youre
led, and how much you get it.
Softwareand ChinaRising

$200
$100

2005

2006

2007

2008

2009

2010

2011

2012

1-yr. Growth Rate

2.2%

9.3% 12.2% 7.3%

2013

2014

9-YR. CAGR: 5.5%

5.6% 10.3% 9.7%

3.8%

1.4%

Source: Bloomberg data, Capital IQ data, Strategy& analysis

our Global Innovation 1000 research, which has been


reafrmed in each of the last 10 years: There is no statistically signicant relationship between sustained nancial performance and R&D spending, in terms of
either total R&D dollars or R&D as a percentage of
revenues. Our inaugural study, in 2005, Money Isnt
Everything, found that R&D spending levels have no
apparent impact on sales growth, gross prot, enterprise
prot, market capitalization, or shareholder return.
Since then, we have conducted more than 10,000 statistical analyses of the relationship of research and development spending to corporate success, which have all
led to the same conclusion. The only exception is when
companies R&D spending falls into the bottom decile
compared with their peers spending, which does compromise performance.

The industry shares of total R&D spending among the


Global Innovation 1000 during the previous 10 years
have been consistent: The computing and electronics,
healthcare, and auto sectors have together accounted
for two-thirds of total spending. The largest percentage increase in R&D spending, however, has been in
the software and Internet category, which over the last
three years accelerated from single-digit to doubledigit growth. Growth in the computing and electronics and healthcare sectors decelerated over the last two
years, while spending in the auto and industrials sectors continued to rise steadily (see Proling the Global
Innovation 1000, next page). Interestingly, growth in
R&D spending in the latter two sectors, along with
aerospace and defense, may primarily reect new outlays on software within those companies, resulting from
the increasing prevalence of software and computercontrolled systems in both the products they make and
the factory automation they deploy.
Ten years ago, a car radio was a radio with a twoline display and a bunch of buttons, says Tim Yerdon,
vice president of design, marketing, and connected services at Visteon, which supplies cockpit electronics and
heating and cooling thermal management systems to
automakers. Today, the radio is basically a computer
(continued on page 40)

feature innovation

With one exception, each year of the Global Innovation 1000 study has
witnessed an increase in R&D investment.

37

Proling the
Global Innovation
1000

gains in 2011 and 2012 as innova-

Exhibit A: R&D and Revenue

tion spending bounced back after

R&D spending totaled US$647 billion in 2014,


an increase of just 1.4 percent over 2013.

the nancial crisis. Revenues for the


Global Innovation 1000, meanwhile,

3.5

$18.4 trillion) in 2014. As a result,

3.0

mid an unsettled world out-

R&D intensityinnovation spend-

look, R&D spending among

ing as a percentage of revenuefell

the Global Innovation 1000 totaled

slightly to 3.5 percent, close to its

US$647 billion in 2014, just 1.4 per-

long-term average (see Exhibit A).

cent more than in the previous year.

R&D
Spending

2.5
2.0
Revenue
1.5

The slow growth in total inno-

This is the second year in a row of

vation spending for 2014 is a big-

below-average growth, following

company phenomenon: The top 100

unusually strong (about 10 percent)

innovation spenders accounted for

1.0

R&D Spending
as a % of Revenue

0.5

2000
00

2005

2010
01

Source: Bloomberg data, Capital IQ data,


Strategy& analysis

Exhibit B: The Top 20 R&D Spenders

The two biggest spenders from 2013, Volkswagen and Samsung, held their positions. Although their industries, along with healthcare, continue to
dominate this list, the software and Internet sector increased its presence in the top 20 this year, with Amazon making its first appearance.
Companies that have been among the Top 20 R&D Spenders every year since 2005

Rank

Company

2014 2013

R&D Spending

Headquarters
Location

Industry

5.2%

Europe

Auto

2014
US$ Billions

Change
from 2013

As a %
of Sales

Volkswagen

$13.5

18.9%

Samsung

$13.4

28.0%

6.4%

South Korea

Computing and Electronics

Intel

$10.6

4.6%

20.1%

North America

Computing and Electronics

Microsoft

$10.4

6.1%

13.4%

North America

Software and Internet

Roche

$10.0

1.8%

19.8%

Europe

Healthcare

Novartis

$9.9

5.6%

17.0%

Europe

Healthcare

Toyota

$9.1

7.0%

3.5%

Japan

Auto

10

Johnson & Johnson

$8.2

6.8%

11.5%

North America

Healthcare

Google

$8.0

17.1%

13.3%

North America

Software and Internet

Merck & Co.

$7.5

8.1%

17.0%

North America

Healthcare

2.3%

4.6%

North America

Auto

12

10

11

11

General Motors

$7.2

12

14

Daimler

$7.0

4.8%

4.4%

Europe

Auto

13

Pfizer

$6.7

15.1%

12.9%

North America

Healthcare

14

30

Amazon

$6.6

43.8%

8.8%

North America

Software and Internet

15

23

Ford

$6.4

16.4%

4.4%

North America

Auto

16

15

Sanofi

$6.3

0.1%

14.5%

Europe

Healthcare

17

13

Honda

$6.3

6.6%

5.4%

Japan

Auto

18

16

IBM

$6.2

1.2%

6.2%

North America

Computing and Electronics

19

17

GlaxoSmithKline

$6.1

2.4%

14.8%

Europe

Healthcare

20

24

Cisco Systems

$5.9

8.3%

12.2%

North America

Computing and Electronics

TOP 20 TOTAL

$165.3

5.4%

8.0%

Source: Bloomberg data, Capital IQ data, Strategy& analysis

strategy+business issue 77

feature innovation
38

Indexed to 1998

increased by a solid 3.7 percent (to

1000

less than 1 percent

percent. This was a continuation from

of the 2014 increase

2013, when telecom R&D spending

in R&D spending,

was down 2.2 percent. Pricing pres-

compared with 45

sures, combined with the need for

Exhibit C: Change in R&D


Spending by Industry, 201314
Five industries decreased their R&D spending this
year, but the software and Internet sector forged
aheadincreasing spending by 16.5 percent.

percent the previous year. Yet despite

increased capital expenditures to up-

the slowdown among the 100 larg-

date networks to the latest technolo-

Height = Change in spending from 2013


Width = 2013 R&D spending

est, overall, nearly 60 percent of the

gies, likely led telecom companies

Software and Internet 16.5%

companies that were also on the list

to shift investment away from R&D.

in 2013 increased their R&D spending.

Innovation spending was up modestly

(Calculations are based on compa-

in the chemicals and energy, industri-

nies reported R&D spending in the

als, and auto sectors, with the biggest

last scal year, as of June 30, 2014.

increasea solid 16.5 percent gain

For more details, see Methodology,

in the software and Internet sector

page 48.)

(see Exhibit C).

Although big companies scaled


back their rate of R&D spending

At nearly 12 percent, that sector


has had the highest compound average growth in R&D spending over the

lions share of total R&D spend-

10-year history of the Global Innova-

ing. The top 20 companies, in fact,

tion 1000 studyboosted signicantly

accounted for more than 25 percent

by double-digit increases in each

of the total in 2014. Several newcom-

of the last three years. This is not

ers joined the ranks of the top 20,

surprising, given the dynamism of

including Amazon (at number 14),

the industry. What may be surprising,

Ford (number 15), and Cisco (number

however, is that the chemicals and

20) (see Exhibit B). Overall, however,

energy sector and the industrials sec-

the top 20 list has remained fairly

tor had the second- and third-highest

consistent over the 10 years that

rates of growth, respectively, both in

weve analyzed the Global Innova-

2014 and over the last 10 years.

tion 1000. Thirteen companies have

Despite the impressive growth of

Industrials 4.1%
Other 3.2%
Auto 2.1%
WEIGHTED
AVERAGE:
1.4%

Aerospace and
Defense 0.5%
Healthcare 1.2%
Computing and Electronics 1.8%
Consumer 1.8%
Telecom 7.5%

Source: Bloomberg data, Capital IQ data,


Strategy& analysis

Exhibit D: Spending by Industry,


2014
The computing and electronics segment
remains the top R&D spender, with healthcare
close behind.
Computing and Electronics 25.9%
Other 1.7%
Telecom 2.1%

been listed every year: GlaxoSmith-

innovation spending in the software

Kline, Honda, IBM, Intel, Johnson &

and Internet category, four other

Johnson, Microsoft, Novartis, Pzer,

industries spent more absolute dol-

Roche, Samsung, Sano, Toyota, and

lars on R&D in 2014: computing and

Chemicals and Energy 6.5%

Volkswagen.

electronics, healthcare, auto, and in-

Software and Internet 9.2%

dustrials (see Exhibit D). In fact, three

Industrials 10.7%

The slowdown in total innovation


spending growth for 2014 reects

of themcomputing and electronics,

declines in ve of the nine industries

healthcare, and autohave spent

we track. Although R&D spending fell

more on R&D than the software and

less than 2 percent in the aerospace

Internet industry in each of the last 10

and defense, healthcare, computing

years. This shows that there has been

and electronics, and consumer sec-

and continues to be a huge amount of

tors, these cutbacks are particularly

innovation spending going on outside

notable because the four sectors

Silicon Valley and other tech clusters.

Aerospace and Defense 3.3%


Consumer 3.3%

Auto 16.2%
Healthcare 21.1%

Source: Bloomberg data, Capital IQ data,


Strategy& analysis

(see Exhibit E, page 40). Japan, mean-

Looking at the regional data, R&D

while, continues to retrench. R&D

total Global Innovation 1000 R&D

spending growth in 2014 has slowed in

spending was down 14 percent for

spending. The telecom sector posted

both North America (a 3.4 percent

Japanese companies in 2014,

the steepest decline, dropping 7.5

increase) and Europe (2.5 percent)

(continued on page 40)

spending represents 53 percent of

feature innovation

growth, they still accounted for the

Chemicals and Energy 4.2%

39

Exhibit E: Change in R&D


Spending by Region, 201314

(continued from page 39)


following a 3.4 percent decline in

of slower growth, despite a few

Companies headquartered in China continued


to invest heavily in R&D, even as growth in
other regions slowed or decreased.

2013. Innovation spending in the rest

standouts, but the story of the last

of the world, a category that includes

10 years is one of sustained invest-

Brazil and India, rose by a solid 12.9

ment. Even at the depth of the Great

percent, but that also represents a

Recession, spending contracted only

slowdown from the 13.7 percent in-

modestly, far less than the decreases

crease in 2013. The clear exception to

in capital expenditures or revenues.

2014s generally downbeat trend was

In fact, the level of spending needed

China, where R&D spending was up

for a company to be included in the

an impressive 45.9 percenta further

Global Innovation 1000 has more than

acceleration from the 34.4 percent

doubled, from $37 million in 2005

rate of increase in 2013. (For a closer

to $83 million in 2014. And the

look at Chinas continuing rise as an

amount of spending needed to break

innovation power, see Chinas In-

into the top 20 list has grown by 46

novation Engine, by John Jullens and

percentfrom $4.1 billion in 2005

Steven Veldhoen, page 42.)

to $5.9 billion in 2014.

45.9%

12.9%
3.4%

WEIGHTED
AVERAGE:
1.4%

2.5%

14%
China

North Europe
America

Bloomberg data, Capital IQ data,


Strategy& analysis

Japan

(continued from page 37)

thats attached to the car and comes with a large display,


anywhere from six inches to as much as 17 inches in a
Tesla, for example. The software enables a reduction in
the complexity of the hardware because as you add software for that display, it can be applied across different
vehicle lines.
The pervasiveness of software, Yerdon continues,
means that auto suppliers are innovating moreand
more quicklythan ever before. If you think of the
auto sector as three spinning gears, automotive is a
fairly large gear and spins on a four-year cycle, because
thats how long it generally takes to develop a vehicle.
The consumer electronics wheel is spinning six to eight
times faster, because every six months theres a new
phone or other device or app. As a global supplier, were
the meshing gear between the two.
Across regions, we have seen both incremental and
radical change in R&D spending patterns over the last
10 years. On the one hand, companies headquartered in
North America, Europe, and Japan continue to dominate the total amount of global R&D spending. Yet despite their dominance, Europes share has been at over
the last decade at around 30 percent, North Americas
share has declined from 42 percent to 40 percent, and Japans share has fallen from 24 percent to 18 percent. The
rise of China as an innovation powerhouse, on the other
hand, has been startling. Chinas R&D spending is rock-

eting upward at sustained double-digit rates, and recent


studies suggest that more innovation and ercer technological competition with established Western players are
on the way from Chinese rms (see Chinas Innovation
Engine, by John Jullens and Steven Veldhoen, page 42).
Alignment and Insight

Our 10-year analysis shows that companies have been


raising their innovation game by focusing on two areas:
business capabilities, and organization and processes.
The ve specic capabilities and processes that respondents most often report having improved over the last
decade were, in order of selection frequency: (1) aligning the innovation portfolio with customer needs and
wants, (2) developing and retaining people with the
right technical knowledge, (3) ensuring that innovation
leaders and business leaders are aligned, (4) understanding new product- and service-related technologies and
trends, and (5) pursuing lean product development. Our
analyses have also shown that such focus pays off: The
top 25 percent of companies measured by sustained nancial performance concentrate on a shorter, more coherent list of innovation capabilities rather than trying
to be good at everything.
These observations correspond to key ndings
from our earlier studies. For example, almost two-thirds
of our respondents report that their companys innova-

strategy+business issue 77

feature innovation
40

Rest of
World

The story in 2014 may be one

1000
There has been a strong push
over the last 10 years to align
what you do in R&D with what
you do in the business, says
Nestls Oliver Nussli.
panies or industries dened what the markets needed.
Nowadays, consumers are not just asked for their advice
and inputthey are dening what the products and
services should look like, and can even drive and create
products themselves on [crowdfunding] platforms like
Kickstarter.
As we noted in our 2007 study, The Customer
Connection, companies can spend more money, hire
the best engineers, develop the best technology, and conduct the best business market research, but unless their
R&D efforts are driven by a thorough understanding of
what their customers need and want, their performance
may fall short. We tested this hypothesis and found that
over a three-year period, companies that directly captured customer insights had three times the growth in
operating income and twice the return on assets of industry peers that captured customer insights indirectly,
as well as 65 percent higher total shareholder returns.
The Need Seeker Advantage

Ten years worth of research and insights also illuminate the strengths and challenges of the three different
ways that companies approach innovation. In 2007, the
Global Innovation 1000 study identied three fundamental kinds of companies, each with its own distinct
way of managing the R&D process and its relationship to customers and markets. Every company tends
to follow one of these three innovation models; we thus
categorize companies as being Need Seekers, Market
Readers, or Technology Drivers.
Of course, all three models share the same broad
innovation goals. Every company wants to have superior product performance and quality, to make a strong
connection with customers, and to feel passion and pride

feature innovation

tion strategy has become better aligned with its business


strategy. This has been a theme throughout our Global
Innovation 1000 work, developed most fully in our
2011 study, Why Culture Is Key. We have found that
companies with more tightly aligned business and innovation strategies had 40 percent higher operating income growth over a three-year period, and 100 percent
higher total shareholder returns, than industry peers
with lower strategy alignment.
There has been a strong push over the last 10 years
to align what you do in R&D with what you do in the
business, and it has gotten better, says Oliver Nussli,
head of project and portfolio management at food and
beverage manufacturer Nestl. Many companies have
streamlined their R&D portfolios because there were
too many things going on that were leading nowhere
or had little chance of success. Recently, Nussli says,
Nestl completed a study to design foods that would
better meet the needs of elderly people (whose nutritional requirements differ from those of younger people
because of bone, joint, and muscle conditions). Both the
business and the R&D organizations were intensely involved, and as a result, he says, the business side knows
what its going to get, and the R&D side knows what it
has to work on.
Nestls recent study also ties into another key nding from previous years: the importance of gaining deeper insights into customers wants and needs. This year,
more than three-quarters of the participants said their
understanding of customers had become notably more
detailed over the last decade. One of the big changes
is the way companies bring in consumer insights, says
Frank Dethier, innovation manager at chemical manufacturer Huntsman Corporation. Ten years ago, com-

41

by John Jullens and Steven Veldhoen

tens of millions of midmarket con-

they dont reect the signicant R&D

sumers. Innovation is often a C-suite

spending in the country by multina-

responsibility, in Chinese companies,

tionals headquartered in other re-

which are trying to catch up with

gions. For example, in 2008, when the

more experienced competitors from

Global Innovation 1000 study factored

developed countries. And because

in the R&D activities of multinationals

Chinese companies must migrate into

in China, the country was already the

higher-value-added activities quickly

n 2005, only eight China-based

fourth-largest for corporate inno-

if China is to move beyond the so-

companies ranked among the

vation spendingand undoubtedly

called middle-income trap, innovation

would be ranked even higher today.

is also a top priority of the central

Global Innovation 1000. By 2014, the


number had risen to 114a 1,325

feature innovation
42

innovation activity in China, because

Chinas emergence as an engine

government.
Our studies have found that

percent increase. Chinese companies

of innovation has been driven by

are also increasing their R&D spend-

a characteristically Chinese ap-

contrary to common perceptions

ing much faster than companies in

proachone that is top-down, fast,

outside the country that associate

other regions: The rate of increase in

and decisive. In the countrys dynamic

Chinese companies with rigidity and

2014 was 46 percent, compared with

market, erce rivalries have devel-

a copycat mind-set, these companies

rates in the low single digits in Europe

oped between domestic and multi-

embrace a combination of openness

and North America. Moreover, these

national rms, as they compete to

to outside ideas, a pragmatic ap-

numbers understate the full extent of

fulll the needs and wants of Chinas

proach to experimentation, and ruth-

regarding its portfolio. And all three models pursue capabilities for understanding emerging technologies,
engagement with customers, and product platform
management. Each model, however, also has distinct
characteristics and priority capabilities that inuence
how the company develops and launches new products
and services.
Need Seekers, such as Apple, Procter & Gamble,
and Tesla, make a point of using superior insights about
customers to generate new ideas. They gain this insight through direct engagement with customers (for
instance, Apple routinely learns from interactions at its
retail stores) and through other means, including analysis of big data. Most important, they develop new products and services based on this superior end-user understanding. Their goal: to nd the unstated customer
needs of the future, and to be the rst to address them.
Their cultures encourage openness to new ideas from
customers, suppliers, competitors, and other industries,
and they prioritize directly generated consumer/customer insights and enterprise-wide launch capabilities.
We estimate that 25 percent of the Global Innovation
1000 companies are Need Seekers.
Market Readers, such as Samsung, Caterpillar, and
Visteon, make up some 40 percent of the Global Inno-

vation 1000 companies. They focus largely on creating


value through incremental innovations to products already proven in the market. They use a variety of means
to generate ideas; most involve closely monitoring their
markets, customers, and competitors. This implies a
more cautious approach, one that depends on being
a second mover or fast follower in the marketplace.
One of their specic innovation goals is customizing
products and services for local markets, and they seek
a culture of collaboration across functions and geographies. They prioritize capabilities for managing resource
requirements and engaging suppliers and partners.
Technology Drivers, such as Google, Bosch, and
Siemens, depend heavily on their internal technological
capabilities to develop new products and services. They
leverage their R&D investments to drive both breakthrough innovation and incremental change. They hope
and expect that by following the imperatives implied
by their discoveries, they will naturally meet the known
and unknown needs of their customers. Their distinct
innovation goal is to develop products of superior technological value, and their cultures reect reverence and
respect for technical knowledge and talent. Approximately 35 percent of the Global Innovation 1000 companies are Technology Drivers.

strategy+business issue 77

Chinas
Innovation
Engine

1000

less abandonment

Strategy& white paper, Sept. 2014).

of failing projects.

These efforts are paying off:

tion as one of their top three strategic


priorities (31 percent reported that

They are willing and

Two-thirds of the multinational

it is their number-one priority). They

able to rapidly adapt

executives in China who responded

are ready to move out of China and

their business models and pursue

to our 2014 survey said some of their

up the value chain, especially in B2B

strategic acquisitions of developed-

Chinese competitors are as good as

sectors where professional buyers

market rms to gain the technol-

or better than their own company at

tend to be less brand sensitive. And

ogy they need, as Lenovo has done.

innovation. In fact, leading Chinese

again, they will do it in a way that is

Its perhaps not surprising, then,

companies such as Haier and Xiaomi

both characteristically Chinese and

that over the last three years, our

are already developing advanced

increasingly common among global

China Innovation Survey results have

innovation capabilities, enabling

companies everywhereby acquir-

indicated that the advantaged Need

them to compete for share in global

ing and integrating capabilities in the

Seeker strategy is more prevalent

markets with in-demand, high-tech

locales to which they are expanding,

among Chinese companies (37

products (see The Thought Leader

rather than bringing this knowledge

percent of companies in the 2014

Interview: Zhang Ruimin, by Art

back home to their headquarters.

study) than in the Global Innovation

Kleiner, page 96).


As Chinas companies globalize,

2014 study) (see Steven Veldhoen et

they will begin to push the innovation

al., 2014 China Innovation Survey:

bar higher. Eighty-seven percent of

Chinas Innovation Is Going Global,

Chinese globalizers named innova-

Based on our long-term view of these strategies,


we have determined that each can be successful and
can enable companies to outperform their competitors
Exhibit 2: The Success of Need Seekers
More often than Market Readers and Technology Drivers, Need Seekers
say their business and innovation strategies are highly aligned, and that
they financially outperform their peers.
Percentage of companies whose
business and innovation
strategies are highly aligned

Percentage of companies that


financially outperform their
competitors

85.1%

AVG.
64.5%

60.6%
54.8%

57.6%
AVG.
46.2%

44.9%
39.9%

Need
Seekers

Market Technology
Readers
Drivers

Need
Seekers

Market Technology
Readers
Drivers

Source: Strategy& 2014 Global Innovation 1000 survey data and analysis

John Jullens (john.jullens@strategyand


.pwc.com) and Steven Veldhoen (steven
.veldhoen@strategyand.pwc.com) are
partners with Strategy& based in China.

if executed well: Apple, Samsung, and Google are all


highly innovative, and are recognized as such by the innovation leaders who vote on our studys top 10 list (see
The 10 Most Innovative Companies, next page). In
general, the most important success factor is how well
companies execute on their chosen strategywhether
they align their innovation strategy with their business
strategy, whether they have prioritized the right capabilities, whether they have the right culture to enable their
strategy, and whether they are using the tools that will
help them develop new ideas and processes that are consistent with their innovation model. The quality of the
alignment of all these elements is the key, and it trumps
the amount of R&D spending.
Increasingly, we have come to believe that the Need
Seeker strategy is inherently advantaged. This is not the
only successful model, but it is the most consistently
successful. Our 10-year analysis supports this conclusion. Need Seekers, for example, report being better
at innovation today than they were 10 years ago at a
signicantly higher rate than companies following the
other two strategies, and they also more often indicate
that they are nancially outperforming their competitorsa claim supported by our analysis (see Exhibit 2).
Our analysis of Need Seekers in the past has sug(continued on page 45)

feature innovation

1000 (25 percent of companies in the

43

once again outperformed the top 10


R&D spenders in market capitalization growth, revenue growth, and
EBITDA as a percentage of revenues

Exhibit F: The 10 Most Innovative


Companies
Amazon and Tesla continued to move up, both
placing in the top five. P&G returned to the list,
replacing Facebook in the 10th position.

(see Exhibit G).

Companies that have been among the 10 most


innovative every year since 2010

Several of the industries repRANK

Company

R&D Spending

companies are also featured on the

2013

resented by the 10 most innovative

2014

globe consider to be the very best

top 10 spenders list: software and

Apple

$4.5

at discovering and developing new

Internet, computing and electron-

Google

products and services, and bringing

ics, and auto. But interestingly, no

Amazon

them to market? We have posed this

healthcare companies have been

Samsung

$13.4

6.4%

question in the Global Innovation 1000

selected by the R&D executives weve

Tesla Motors

$0.2

440

11.5%

survey in each of the past ve years,

surveyed over the last ve years as

3M

$1.7

79

5.6%

and the majority of participants have

among the 10 most innovative, de-

GE

$4.8

30

3.3%

consistently placed Apple and Google

spite the fact that at least four of the

Microsoft

$10.4

13.4%

at the top of the list. This year, Ama-

top 10 R&D spenders each year have

IBM

$6.2

18

6.2%

zon continued its rise up the rankings.

been healthcare companies. One pos-

10

P&G

$2.0

70

2.4%

It rst appeared on this list at number

sible explanation is that healthcare

10 in 2012, jumped to the fourth posi-

companies innovations tend not to be

tion in 2013, and then rose to number

so closely identied with their brands,

three in 2014, moving Samsung down

except, perhaps, by healthcare

a spot. Tesla, which rst appeared in

professionals.

2013 in ninth position, rose to number

In contrast, the four most in-

ve in 2014likely reecting not only

novative companiesApple, Google,

its highly rated cars, but also its move

Amazon, and Samsungall deliver

to unilaterally make its patents freely

branded products and services that

available to competitors. Procter &

are a part of most peoples daily

Gamble rejoined the list in 10th place

lives, and they make new product

after dropping off last year, while

announcements often. But making a

Facebooknumber 10 last yearfell

media splash is by no means requi-

from the list (see Exhibit F).

site to a companys selection: Slow

Consistent with one of the core

3M keeps a comparatively low media

studies over the past decadethat

prole but has products in wide use,

spending more on R&D does not drive

and has been voted among the 10

more innovation (or better nancial

most innovative rms in each of the

performance)the top 10 innovators

ve years weve asked the question.

2.6%

$8.0

13.3%

$6.6

14

8.8%

Source: Bloomberg data, Capital IQ data, Strategy& 2014


Global Innovation 1000 survey data and analysis

Exhibit G: The Top 10 Innovators


vs. Top 10 R&D Spenders
On an indexed basis, the top innovators led on
all three financial metrics for the fifth straight
year.
HIGHEST
POSSIBLE
SCORE: 100

NORMALIZED
PERFORMANCE
OF INDUSTRY
PEERS: 50

71
65

47

and steady can also win. For example,

insights of the Global Innovation 1000

32

LOWEST
POSSIBLE
SCORE: 0

51
46
33

SPENDERS

tion executives around the

2014
as % of sales
US$ bil. Rank (intensity)

INNOVATORS

feature innovation
44

hich companies do innova-

Revenue
Growth
5-yr. CAGR

EBITDA
as % of
Revenue
5-yr. Avg.

Market Cap
Growth
5-yr. CAGR

Source: Bloomberg data, Capital IQ data, Strategy& 2014


Global Innovation 1000 survey data and analysis

strategy+business issue 77

The 10 Most
Innovative
Companies

1000

(continued from page 43)

The Next 10 Years

As part of our 2014 study, we asked participants to look


to the futureto tell us about their expectations for
their innovation agendas for the next 10 years. We found
that the Global Innovation 1000 companies have some
common expectations and goals, and that there is some
convergence around areas where they hope to improve
their innovation performance. They believe that aligning
business and innovation strategies will be the most important driver for innovation success. Interestingly, this
and other key areas are the same ones that Need Seekers
are already focused on today (see Exhibit 3, next page).
All respondents report that they plan to shift their
current R&D spending mix from incremental innovations to more new and breakthrough innovations.
Today, 58 percent of R&D spending is directed at incremental or renewal innovations, just 28 percent at
new or substantial innovations, and only 14 percent at
breakthrough or radical innovations. In 10 years, respondents expect the picture will look quite different
(see Exhibit 4, next page).
At Reliance Industries, the energy and chemicals
group that is Indias largest private-sector company,
Ajit Sapre, group president of research and technology,
anticipates that R&D spending on new, substantial, or
breakthrough innovations will rise. Reliance is focusing
on potential breakthroughs in energy and materials that
could help India meet its growing demand for energy
and infrastructureparticularly by leapfrogging existing technologies used in developed markets. The outcomes are fuzzier, and they are much more risky, says
Sapre, but if we are successful, they could lead to paradigm shifts. If you focus too much on near-term goals,
you can miss the long-term opportunities. The aspira-

feature innovation

gested that they tend to focus on more tightly aligning their innovation and business models. In our 2011
study, we found that what sets Need Seekers apart is
their ability to execute on their strategyto combine
all the elements of innovation into a coherent whole,
with a culture that supports innovation. In a study we
conducted in 2012 in conjunction with the Bay Area
Council Economic Institute, we found that signicantly more of the technical leads at companies classied as
Need Seekers report directly to the CEO, and that their
innovation agendas are much more likely to be developed and clearly communicated from the top down to
the rank and le of the organization. They were also
much more likely to point to product development as
the function with the most inuence on their companys power structure. (That same study also revealed
that Silicon Valley rms are almost twice as likely to
follow a Need Seekers model than the general population of companies46 percent versus 28 percent, a
consequence of the startup/venture capital mind-set of
tightly aligned business and technology strategies.)
Our 2014 survey produced similar ndings: A
much higher percentage of Need Seekers reported that
their innovation strategy was highly aligned with their
business strategy, compared with either Market Readers
or Technology Drivers (see Exhibit 2, page 43). Such
alignment comes naturally for Need Seekers, because
their whole ethos is rooted in understanding and being
close to the customer through direct exposure to the
end-user, rather than relying on market analysis or the
views of intermediaries. Interestingly, recent research
has found that the Need Seeker strategy is more prevalent among Chinese companies than among the Global
Innovation 1000.

45

45

Exhibit 3: The Key Areas of Innovation Focus


Survey respondents across all three innovation models report similar areas of focus for their R&D programs over the next 10 yearsand most are
areas on which Need Seekers have already been focused.

Past 10 years

Next 10 years

NEED SEEKERS

MARKET READERS

TECHNOLOGY DRIVERS

Align business
and innovation
strategies

Align business
and innovation
strategies

Align business
and innovation
strategies

Integrate
functional,
business, and
geographic
silos

Organization
and
processes

Business
capabilities

Align cultural
and innovation
strategies

External
networks

Business
capabilities

External
networks

Integrate
functional,
business, and
geographic
silos

Innovation
capabilities

Organization
and
processes

Align cultural
and innovation
strategies

Business
capabilities

External
networks

Source: Strategy& 2014 Global Innovation 1000 survey data and analysis

tion to seek out new and substantial innovations is understandable, and will certainly pay off for some innovators. To capitalize on such a signicant reallocation of
spending, however, many companies will need to make
major changes in their approaches to innovation and in
46

Innovation
capabilities

Exhibit 4: Future R&D Investment


Survey respondents expect to shift their R&D investment mix from
incremental to new and breakthrough innovations.
Average allocation of R&D spending on types of innovation
60%

50%

Incremental/renewal
innovations

40%

New/substantial
innovations
30%

Breakthrough/radical
innovations

20%

10%

0%

Current
Allocation

Allocation
in 10 Years

Source: Strategy& 2014 Global Innovation 1000 survey data and analysis

their capabilities. Breakthroughs, for example, involve


higher risk than incremental innovations, so it is important to make sure both that these innovation goals
make sense given the companys market position and
strategy, and that the right risk management capabilities are established to handle a higher-beta portfolio. As
Fassi Kafyeke, director of advanced design and strategic
technology at Canadian plane and train manufacturer
Bombardier, told us, New research projects will continue to involve more collaborators, including universities, suppliers, and other industrial partners. Ultimately,
this will make product development more robust and
enable greater technology leaps, while reducing risks
and cost.
Companies also expect to allocate more R&D
spending to enabling services and less to creating products. The current allocation slightly favors product
R&D, 52 percent to 48 percent. By 2024, respondents
expect that relationship to ipwith R&D for services rising to 62 percent, versus 38 percent for R&D for
products. At Visteon, for example, Tim Yerdon is leading a group exploring services related to connected cars
and intelligent transportation systems. The group has
already delivered developments such as wireless charging

strategy+business issue 77

feature innovation

Organization
and
processes

Align cultural
and innovation
strategies

Integrate
functional,
business, and
geographic
silos

Innovation
capabilities

1000
New research will involve more
collaborators, says Bombardiers
Fassi Kafyeke. Ultimately, this will
enable greater technology leaps,
while reducing risks.

Exhibit 5: The Capabilities of Top Performers


A closer look at the capabilities on which the top 25 percent of companies
by financial performance in each strategy model are focused.

NEED
SEEKERS

MARKET
READERS

TECHNOLOGY
DRIVERS

Translation of consumer and customer


needs to product development
Market potential assessment
Open innovation
Technical risk assessment
Rigorous decision making
Directly generated, deep customer
insights and analytics
Enterprise-wide product launch
Resource requirement management
Supplier/partner engagement in the
development process
Detailed understanding of emerging
technologies and trends
Product life-cycle management

Source: Strategy& 2014 Global Innovation 1000 survey data and analysis

Prescriptions for Innovators

Despite the inherent advantages of the Need Seeker


model, its not the right approach for every company.
Indeed, many Market Readers will be more successful
if they concentrate on the capabilities, goals, and attributes that are distinct to Market Readers than if they try
to move too far toward the Need Seeker model and get
only partway there. The same is true for those following
a Technology Driver model (see Exhibit 5).
Need Seekers should hone their distinctive capabilities, which include their prociency at directly generated
deep customer insights, enterprise-wide launches, and
technical risk assessment. One priority that Need Seekers cited in our survey this year as being important to
their future successopen innovationcomplements
their approach by enabling them to seek new ideas and
insights from a networked community beyond the borders of the company and its traditional partners. They
should ensure that their products and services are advantaged by seeking out new ideas from customers, suppliers, competitors, and other industries, as well as by
building focused technical innovation networks across
the business. They should exploit front-end digital enablers such as visualization and engagement tools.
Market Readers should continue to develop their
capabilities in managing resource requirements and
engaging suppliers and partners. Their priority for innovation success going forward is to ensure that their
innovation and business leaders are aligned. Successful
Market Readers replicate and improve on competitors
innovations quickly and adroitly. Their goals should include customizing their products for local markets, and
creating a culture of collaboration across functions and
geographies to facilitate rapid, seamless response. They

feature innovation

in the car, and is actively developing wireless communication technology enabling cars to communicate with
one another. Its not a traditional business model for
an automotive parts company based in the Midwest
even for a global supplier like Visteon, says Yerdon. Its
much more like a tech company in Silicon Valley. As
more companies consider a signicant shift to services,
it will be important to ensure that the companys innovation goals are aligned with the needs of the enterprise
strategy, and that the business model includes a plan for
capitalizing on the envisioned service innovations.

47

47

performance metrics of each com-

ment, while continuing to exclude any

pany were indexed against the aver-

non-amortized capitalized costs. We

age values in its own industry.

s it has in each of the past

have now applied this methodology

nine editions of the Global

to all 10 years of our data; as a result,

has changed at companies over the

Innovation 1000, this year Strategy&

historical data referenced in the 2014

past 10 years and gain insight into

identied the 1,000 public companies

and future studies will not always

what to expect for the next decade,

around the world that spent the most

align with gures published in the

Strategy& conducted a separate on-

on R&D during the last scal year, as

2005 through 2012 studies.

line survey of 505 innovation leaders

of June 30. To be included, compa-

48

in calculating the total R&D invest-

For each of the top 1,000 com-

To understand how innovation

at 467 companies around the world.

nies had to make their R&D spending

panies, we obtained from Bloomberg

The companies participating repre-

numbers public. Subsid-iaries that

and Capital IQ the key nancial met-

sented just under US$130 billion in

were more than 50 percent owned by

rics for 2009 through 2014, including

R&D spending, or 20 percent of this

a single corporate parent during the

sales, gross prot, operating prot,

years total Global Innovation 1000

period were excluded if their nancial

net prot, historical R&D expendi-

R&D spending. They included com-

results were included in the parent

tures, and market capitalization. All

panies in all nine of the industry sec-

companys nancials. The Global In-

sales and R&D expenditure gures

tors and all ve geographic regions.

novation 1000 companies collectively

in foreign currencies were trans-

account for about 40 percent of the

lated into U.S. dollars according to

worlds R&D spending, whereas the

an average of the exchange rate over

next 1,000 largest corporate spend-

the relevant period; for data on share

ers represent 3 percent.

prices, we used the exchange rate on

In 2013, Strategy& made some


adjustments to the data collection

the last day of the period.


All companies were coded into

process to gain a more accurate and

one of nine industry sectors (or

complete picture of innovation spend-

other) according to Bloombergs

ing. In prior years, both capitalized

industry designations, and into one of

and amortized R&D expenditures

ve regional designations, as deter-

were excluded. Starting in 2013, we

mined by their reported headquar-

included the most recent scal years

ters locations. To enable meaningful

amortization of capitalized R&D

comparisons across industries, the

expenditures for relevant companies

R&D spending levels and nancial

strategy+business issue 77

feature innovation

Methodology

1000
Innovation is a function that can
be managed: There are principles
that are known, capabilities that
can be built, and levers that can be
pulled to improve the process.
This list is more important than ever. For every
shining example of a market-shaking innovation breakthrough, there are many more examples of companies
that struggle to realize adequate returns from their
innovation investments. But innovation, although different from operations, sales, and marketing, is nevertheless a function that can be managed: There are
principles that are known, capabilities that can be
built, and recognized levers that can be pulled to improve the process over time. The stakes for making
these efforts are highthe disparities in innovation
performance show that there are tremendous opportunities for getting more from your R&D spending,
and for improving your competitive position and your
nancial performance. +

feature innovation

need to be good at assessing feedback from sales and


customer support and traditional market research. Digital enablers such as monitoring tools and idea-capture
tools are critical, and are consistent with the needs of
this model.
Technology Drivers should continue to enhance
their product life-cycle management capabilities. Their
priorities are strategic platform management and gaining a detailed understanding of emerging product- and
service-related technologies and trends. They need to excel at technology road mapping and interacting with the
external tech community. Digital enablers will be particularly important for them, including big data, customer
proling, and codesign tools, as well as collaborative
environments that connect far-ung teams, customer
relationship management systems, and ERP platforms.
Of course, some key imperatives have surfaced in
the Global Innovation 1000 studies that apply to all
companies seeking innovation success:
U iwi>>i}]VV>i
throughout the organization, and identify the short list
of innovation capabilities that will enable it.
U /} >} Li >` >
strategies.
U i > > Vi >}i`
with, and supportive of, your innovation strategy.
U V`ii}`iiVi}L`rectly engaging and observing end-users of your product.
U i>iiVV>V>>i>>
the table dening the corporations agenda.
U -i>V> >>}i i ,E v] >}gressively winnowing out low-potential projects and ensuring that the right risk management capabilities are in
place to support big bets.

Reprint No. 00295

49

Resources
Barry Jaruzelski, Why Silicon Valleys Success Is So Hard to Replicate,
Scientic American, Mar. 14, 2014: Further analysis of the themes
reported in the 2012 Strategy& white paper The Culture of Innovation:
What Makes San Francisco Bay Area Companies Different?
Steven Veldhoen et al., 2014 China Innovation Survey: Chinas
Innovation Is Going Global, Strategy& white paper, Sept. 2014: How
Chinese companies and multinationals are continuing to adapt their
innovation strategies in China, and the important role that innovation
plays in Chinese companies globalization strategies.
For links to previous Global Innovation 1000 studies, from 2005 to
2013, as well as videos, infographics, and other articles about innovation,
see strategyand.pwc.com/innovation1000.
Strategy&s online Innovation Strategy Proler, strategyand.pwc.com/
innovation-proler: Evaluate your companys R&D strategy and the
capabilities it requires.
For more thought leadership on this topic, see the s+b website at:
strategy-business.com/innovation.

49

feature technology

50

by Frank Burkitt

Illustration by Lincoln Agnew

Humanity has arrived at a critical threshold in the

evolution of computing. By 2020, an estimated 50 billion devices around the globe will be connected to the
Internet. Perhaps a third of them will be computers,
smartphones, tablets, and TVs. The remaining twothirds will be other kinds of things: sensors, actuators,
and newly invented intelligent devices that monitor,
control, analyze, and optimize our world.
This seemingly sudden trend has been decades in
the making, but is just now hitting a tipping point.
The arrival of the Internet of Things (IoT) represents
a transformative shift for the economy, similar to the
introduction of the PC itself. It incorporates other major
technology industry trends such as cloud computing,
data analytics, and mobile communications, but goes
beyond them. Unlike earlier efforts to track and control large systems, such as radio-frequency identication

(RFID), the Internet connection gives this shift almost


limitless versatility. The IoT also opens a range of new
business opportunities for a variety of players. These
opportunities tend to fall into three broad strategic categories, each reecting a different type of enterprise:
U >Li>`ii>`iiiderlying technology
U }>}i>`i}]Vi>i]i}>i]>``iliver IoT services to customers
U >Vi > `ii i >i>``i`
iVi] v i iVi `i` L }>}i]
that are unique to the Internet of Things
How will your company build value in this new
world? That will depend on the type of business you
have today, the capabilities you can develop for tomorrow, and, most of all, your ability to understand the
meaning of this new technology.

feature technology

The digital interconnection of billions


of devices is todays most dynamic
business opportunity.

51

Also contributing to this article


was s+b contributing editor
Edward H. Baker.

Evolution and Opportunity

feature technology
52

At present, the Internet of Things remains a wide-open


playing eld for enterprises. Its young, heterogeneous,
>`vvVi> >ivi>iVV
impact by 2020 (as tracked by the Postscapes information service) range from about US$2 trillion to more
than $14 trillion. Companies small and large, old and
i]>iV>L}>iii iV>>i}\"iiiLii>}
to roll out an IoT-based product, and three-quarters of
V>i>ii}ii/i
ii>i>>`iVi-ii Li``}
the IoT in Your Business, by Chris Curran, page 57.)
Much early work is likely to focus on boosting efciency
and cutting costs, but the greatest long-term business
value of the Internet of Things will involve getting to
know customersboth consumers and businesses
more intimately, and providing new digital services and
iiiVi`i}i
Rarely, if ever, has a single technological platform
VLi`VVi]ii`v`iii]
global reach, and novelty among customers. Consider
the range of interconnected systems, products, and
services the IoT will enable, from simple monitoring
of home temperature and security to the quantied
ivi>V}vi>i>]`i]>`iiVi
metrics), to fully networked factories and hospitals, to
automated cities that respond to the movements and
interests of thousands of people at once.
Yet for all its power, the IoT is still at the early-adopter stage; in the words of innovation theorist Geoffrey
Moore, it has yet to cross the chasm into the mainstream. It thus behooves business strategists now to gure out the role they want to play, the capabilities they

will need to move forward, and the types of innovation


they should pursue.
The IoT has its technological roots in the decadeslong effort to monitor and control the physical environment in which people work and play. Its most basic
Vi >i iLi``i` `iVi > >i ii`
for years: thermostats that sense ambient temperature
and control heating and cooling systems, sensors that
manage braking systems in automobiles, pacemaki > i}>i i i>] >>i L>V Li >
track ight paths, and location devices that monitor
the whereabouts of industrial equipment. In the past,
some of these devices were wired together into more
Vii >iii`i`
with some intelligence, connected to the Internet, and
empowered by a new wave of technological accessibilitythrough cloud computing, smartphones, and the
prototyping capabilities of digital fabricationthat the
IoT came into being.
 i>i] i i i>} /i> iforms the fundamental function of an ordinary smart
thermostat: It monitors temperature and turns heating
and cooling systems on and off to maintain the pro}>i` >}i i i > ii `]
activity, and light, and its built-in intelligence learns
how and when the user likes to adjust the temperature.
It can even optimize the houses temperature for energy
ivwViV]}ii]`i>ii i
part of the IoT. But when its connected to a utility com> i i VV i` L }i] i
parent company) through a home Wi-Fi network, it
has far greater value. That connection allows people to
monitor and change the temperature from their smartphones, modify the heating schedule, and analyze their

strategy+business issue 77

Frank Burkitt
frank.burkitt@
strategyand.pwc.com
is a senior executive advisor
with Strategy& based in Los
Angeles. He leads the Internet
of Things and digital operations
services for Strategy&s Digital
Services. He was formerly
the CEO and founder of
ReleasePlan, a cloud-based
enterprise software company.

RARELY HAS A SINGLE


TECHNOLOGICAL PLATFORM
COMBINED THIS MUCH
COMPLEXITY, GLOBAL REACH,
AND NOVELTY.

Exhibit 1: Services Available through the Internet of Things

INTERNET OF THINGS

NO/CLOSED NETWORKS

Endpoints

Simple Hubs

Integrating Hubs

Enhanced Services

GE Software Predix and other industrial platforms for interconnecting


analytics engines and business operations

Optimize

Large-scale digital city systems like those under development at MIT


and in Barcelona

Adapt

Control

Monitor

Stand-alone GPS
navigation
devices

Progressive Snapshot and other auto insurance


telematics systems

Motion- or lightresponsive
alarms and
controls

Google Nest and other Internet-connected


systems for heating, cooling, and ventilation

Simple thermostats and motion


sensors

Jawbone UP, Fitbit, and other fitness activity


sensors and hub systems

Smartphone apps that use location tracking

Estimote Beacon, iBeacon, and other Bluetoothenabled object identification sensor systems

Apple HomeKit and other protocol-based


platforms allowing diverse devices in a
building to interconnect to one another and the
Internet

Emerging systems for


setting insurance rates
based on health and
driving behavior

WeMo and other systems for controlling lights


and appliances through remote or mobile
devices

Potential connected-car
traffic management
systems

BodyGuardian and other medical wearables


that feed data to online diagnostic platforms

53

Source: Strategy&

home heating activity. It also allows utility companies


to offer incentives for using less power at peak times or
to offer additional services.
Similarly, the Jawbone UP, a personal activity monitor worn around the wrist, automatically establishes a
Bluetooth connection to a smartphone running the UP
appcreating whats called a proximity network
and provides detailed information on exercise levels, sleep
patterns, and food consumption. Through the Internet,
Jawbones users can reach a variety of tness and nutrition services with their UP app, enabling them to analyze their levels of activity and overall health. For these
devices and many others, the greatest potential value of

feature technology

This list of IoT services is arranged on two critical dimensions. The horizontal rows (from monitor at the bottom to optimize at the top) represent the
value delivered to customers, in order of complexity. The columns (from endpoints to enhanced services) represent the technologies of the IoT as
described in this article, in increasing complexity from left to right. (Network and cloud services are not shown because they are not typically oriented
to end-users.)

the IoT lies in that connection to the Internet, and to


the many integrated services offered there (see Exhibit 1).
Technologies of the IoT

To deliver these products and services requires a


combination of ve major types of technological offerings. As you progress up the technology stack, the
devices become more complex and their connectivity
increases.
1. Endpoints are the single-function sensors and
actuators that reach out and touch the world around
them, monitoring for changes and providing feedback
to adjust to those changes. Their connectivity enables

feature technology
54

two key capabilities: gathering and analyzing data from


the environment, and reaching out through the Internet
to control objects.
2. Simple hubs are the devices that connect endpoints to broader networks. When integrated into
products such as vehicle engines; washing machines; or
home heating, venting, and air conditioning (HVAC)
systems, the computing intelligence and storage embedded in a simple hub allows these products to adapt over
time to the users behavior and to optimize for efcienV/i i>}`i>iv>iL>V
as a joining point for a relatively small number of sensors and actuators, typically located near one another.
A single building might have several simple hubs,
each controlling one function: HVAC, electricity, lighting, water, entertainment, communications, or security.
>V v ii i L } Li ViVi` i
ii  i>i] iiVV L >
usage and cost can feed data to electric power utilities,
which can then suggest the best times to use power}>>Vi}}LV>Vv>tion from multiple window sensors about the amount
of sunlight, and adjust the brightness of the articial
lighting accordingly.
3. Integrating hubs that connect simple hubs and
`iViV>ii>iVi`iVividing a diverse array of services that t more or less
seamlessly together. In May 2014, Apple introduced
one of the rst truly integrating hub offerings. Called
the HomeKit, this platform is designed to bring together simple hubs from different vendors and present all
of them in a single user interface on a smartphone or
tablet. A HomeKit hub might integrate functions such
as electric power (SolarGuard solar power systems),

iV  > V >` i >`


`i ] 6
i i] >>Vi 
smart refrigerators), window shades (QMotions electric
shading systems), entertainment (Roku audio and video
i>i] V i i Li > L] >` isonalized lighting (Hue). A family member might press
the bedtime button on his or her iPhone, and the service would then dim or turn off certain lights, lock the
doors, set the security system, close the garage door, and
lower the thermostat, all at the same time.
Apples role here isnt to provide the underlying
HVAC or lighting service, but rather to offer the software development kitmuch like the guidelines and
tools it publishes for developers of iPhone and iPad
appsthat developers can use to connect their services
with the HomeKit platform. The company also debuted
what it calls the HealthKit, designed to integrate all the
simple hubs being developed for the quantied self.
Several other major companies have begun to develop integrating hubs. Google recently introduced a
ViV v >`>` v i i > ViV
to a wide range of home services from other companies.
Oracle has a sophisticated integrating hub, which it may
or may not offer commercially, but which has already
helped win the Americas Cup yacht race, in October
2013. The Oracle-sponsored foiling catamaran that
won the race was equipped with more than 300 sensors
and video cameras that monitored position, wind direction, boat speed, pressure on the wingsail, and more.
While the boat was sailing, the teams technology specialists collected data on more than 3,000 variables per
seconda gigabyte of raw data and 200 gigabytes of
video dailyand analyzed it on Oracle servers reached
through high-speed wireless data connections. The sys-

strategy+business issue 77

THE DIGITAL CITY CONCEPT


WOULD INSTALL INTEGRATING
HUBS AT A NEIGHBORHOOD
SCALE TO CONTROL
MASS TRANSIT, TRAFFIC,
AND STREETLIGHTS.

programming languages, that can be used for IoT delivery


>``iii/}7vviiV>v
It provides endpoint connectivity, networking capabilities, and data storage and analytics, as well as a software
development kit used to write apps for customers.
5. Enhanced services is a nascent category, comprising the most technologically sophisticated comi v i / >Vi` iVi >i i
of the information collected and analyzed by other
platforms and services to deliver broad-based interaci vV  i>i] `> }iV>
telematics systems, like Progressives Snapshot system,
are integrating hubs, connecting monitors on automobiles with software that links insurance rates to driver
iv>Vi >Vi` iVi v >LiL>i`
monitoring could go much further. They could collect
data on multiple cars, aggregating it all with historical
and actuarial data to create new types of analytics related to overall insights about auto accidents. The insurers themselves might not be involved in the collection of that information, only in making use of it in the
iVi i vvi >Vi` iVi V` > i>`
to more sophisticated connected car applications, in
which real-time digital connection enables automobiles
iV>}i}>i>i>`iiment, thereby reducing accident risk or enabling better
trafc coordination.
These ve technological options, from endpoints
to enhanced services, provide a menu of diverse opportunities for companies building IoT businesses. Some
might start making stand-alone endpoints, and move
`V} L "i } >> i ipertise at integrating hubs into providing network and
cloud servicesor vice versa.

feature technology

tem sent the analysis back to the boats controls to improve its performance almost instantaneously.
Integrating hubs of far greater scope are also un`i>/i`}>VVVi]vi>i]Li}
`iii`Li/i`>>L]i7``>tion for Smart Communities (based at San Diego State
1i]>`>iV>iii iilight manufacturer Sensity Systems. It would install
integrating hubs with data analytics at a neighborhood
or citywide scale to monitor and control mass transit,
trafc controls, streetlights, and many other services
and systems. Barcelona is teaming with Cisco Systems
to develop one such system, which will manage lighting, parking, local Wi-Fi networks, and other critical
city functions.
4. Network and cloud services provide the infrastructure of the Internet of Things. They can either be
public (accessible to the population at large) or private
(protected behind an organizations rewall). These services deliver the seamless and transparent connection
to the Internet that hubs require, along with the cloud
computing power needed to collect, store, and analyze
vast amounts of data from myriad endpoints. They can
also provide the infrastructure needed to build or connect to social networks, so that users of the IoT can
V>iiiiVi>`>i`>>
Some network and cloud services, like RacoWireless, manage machine-to-machine connectivity. They
enable IoT devices to communicate with one another
across a variety of transmission channels, including
Wi-Fi, cellular, and Bluetooth. They also provide data
management services: collecting, moving, tagging, and
aggregating information. Other network and cloud services provide software platforms, including high-level

55

Enablers: Building the Technology

Enablers are primarily technology-oriented companies,


such as Cisco, Google, HP, IBM, and Intel. They build
and maintain the critical IoT infrastructure that allows
Engagers to create their own connected services. Their
offerings include the endpoint, hub, and network and
cloud service technologies: devices, connectivity hardware and infrastructure, computing and data storage systems, software platforms, and more. (See Kings of the
Cloud, by Olaf Acker, Germar Schrder, and Florian
Grne, page 22.) The market for all these elements of the

IoT is exploding. According to estimates tracked by Postscapes, the sheer growth in the number of endpoints
expected to reach 50 billion or more by 2020will push
that market from $6.6 billion in 2013 to almost $11 billion in 2020. The shift in connectivity and computing
intelligence from centrally located servers to intelligent
devices on the edge is creating a similar boom in the
semiconductor business. Revenues from the chips needed to run intelligent devices are expected to reach more
than $70 billion by 2017.
Many Enablers will remain content with relatively narrow businesses, as suppliers of endpoints toor
partners withother players that have larger ambitions.
Estimote, for example, makes tiny beacons that stick
to objects and send signals through low-frequency Bluetooth transmissions. These beacons can communicate
with enabled devices like smartphones and tablets in
environments such as retail stores. Its up to the Engager
companies to develop capabilities in proximity marketing that incorporate the beacons; for example, a retailer
might use them to augment sales data with information
about what items customers pick up and how long they
spend considering a purchase.
The larger Enablers will ght over the enormous opportunities in integration. The systems they produce
intelligent endpoints, hubs, cloud services, and plat-

Exhibit 2: The IoT Ecosystem


The overall IoT market will be divided among Enablers, Engagers, and Enhancers. These three kinds of companies will interact, working together to
provide the technology and services needed by allboth to market the IoT and to deploy it for their own operations.

Market-Facing

ENABLERS provide
technologies, applications, and services that
underlie the integrated
IoT offerings.

Internal-Facing

Source: Strategy&

ENGAGERS provide products and services that connect the IoT


with customers.

Ecosystem
DIGITAL ENTERPRISE

EMBEDDERS: The IoT engenders new types of functional and


cross-functional business operations within all companies.

ENHANCERS provide
value-added IoT services
that augment and
integrate the offerings of
Engagers, reaching
customers in
unprecedented ways.

strategy+business issue 77

feature technology
56

With all these possibilities, companies run the risk


of moving in too many directions at onceand thus
being overwhelmed by more focused competitors with
more distinctive IoT-related capabilities. Hence the
importance of the three IoT strategic models
Enablers, Engagers, and Enhancers. Few companies can
take on more than one of these ways of creating value.
The Enablers will focus on the underlying technologies
and services, from endpoints to network and cloud services. The Engagers will make use of hubs and network
and cloud services to provide market-facing offerings.
The Enhancers will focus on value-added enhanced services that extend and enrich customer engagement (see
Exhibit 2).

Li``}
the IoT in Your
Business

own operations and optimize their

manufacturing companies to monitor

own businesses. The idea of embed-

throughput and emissions. Sensors

ded things goes back at least 20

and integrated hubs are set up to

years, to Xerox Palo Alto Research

continually adjust operations, based

Center (the same research lab that

on the data, to reduce waste, cost,

produced the graphic user interface

and environmental impact. As the

and object-oriented programming),

Internet of Things evolves, its embed-

where it was originally called ubiq-

ded use in day-to-day business will

ome companies may never

uitous computing. A current-day

be a hallmark of the most successful

bring any part of the Internet

example is United Parcel Services

companies in every industry.

by Chris Curran

of Things to market, but their role

adoption of sensors and monitors

is just as signicant as that of the

on its trucks and delivery services;

Enablers, Engagers, and Enhancers.

it is using the Internet of Things to

These are the Embedders: compa-

continually improve its throughput

nies that apply sensors, monitors,

and service levels. Another example

and other devices to improve their

is the use of the Internet of Things by

formsmust not just provide connections, but manage and bill for those connections, and allow users to
customize and develop their own services. Already, IoT
opportunities are driving some hardware companies
i>`iVi`ii`>i>i]i]
traditionally a maker of semiconductors, is developing
soup-to-nuts IoT systems that include not just chips
but development platforms that will enable others to
develop their own IoT services.
Bundles of IoT-related hardware, software, and
connectivity may be tailored to specic marget segments, such as particular industries. The IoT platform
`iii >i] v i>i] vVi i Vsumer products industry. It recently teamed with appliance maker Whirlpool to provide the technology
needed to connect refrigerators and washing machines
to the Internet. Homeowners can be alerted via their
smartphones when appliances need maintenance, and
they can order new supplies automatically. The key to
V`i>i>i7>i`ipertise in connecting its appliances to the Internet, but
Arrayent provides the means to do it.
>V >Li `iV`i i >>i V>i
and scope for its business, based on the capabilities it

Chris Curran (christopher.b.curran@


us.pwc.com) is a PwC principal and chief
technologist for the U.S. rms advisory
practice.

can muster. Should it spread its efforts horizontally, becoming a broad-based supplier of IoT technology to all
`i " ` LiVi i > >Li
for a specic industry, bringing together the endpoints,
hubs, network and cloud services, and enhanced platforms needed in that vertical? If it collaborates with
i iii] ` > Li i >Li]
to broaden their technology platform? Or should the
enabling enterprise seek to codevelop a customer-facing
vvi}i} }>}i>` >Vi
i >Li`L>i>i}i
`Vi V>>Li V> vvi i] v iample, currently doesnt have the capabilities needed
to move beyond its current endpoint and connectivity
products, so it focuses on those. Arrayent has found
an appropriate scalable business in providing an IoTii`V`>vvVi}` `iiops IoT systems for hospitals and factories because those
offerings make use of its well-established capabilities in
healthcare and manufacturing.
Engagers: Connecting to Customers

These companies provide the direct link between the


IoT and the market. They use the endpoint, hub, plat-

feature technology

57

 }>}i] i Liiw v }>} > }


foothold in hubs and connected services include continuous and sustainable relationships with customers.
Consider appliance makers like Whirlpool and Haier.
In the past, these companies would capture only basic
information about the purchaser of a washing machine:
his or her name, address, email address, phone number,
and perhaps some static demographic data. At most,
the companies would then use that information to
manage the warranty and send periodic notices about
i `V ] L } i >} >Vi
to the Internet, the appliance maker captures a wealth
of data about how the device is usedhow often,
at what temperature, and with what kind of soap, as
well as what kinds of clothes are washed. It can offer
value-added services based on that knowledge, including status reports on the machines condition, suggestions for saving energy and water, and discount subscriptions for laundry detergent delivered to the home.
With that type of information, even tradition-bound
manufacturers can become innovators in human-centered design.
If the washing machine can be integrated with
the houses hub, the possibilities multiply. The manufacturer could work with the power and water utilities
to establish a schedule for washing clothes at the least
iiii]}ii6
iL>ance the heat and humidity generated by the washing
machine, and programming the entertainment system
with a playlist of laundry-day music. The company
would move beyond selling products to offering a powiv>`>>ViViiiiVi]L`}alty even as it locks customers in through the many services it can offer.

strategy+business issue 77

feature technology
58

v] >` iVi vvi} Vi>i` L i >Li


produce services for consumers and businesses. Though
most of them did not begin as IoT companies, and many
come from non-IT industriesappliance manufacturers, automakers, insurance companies, and retailers are
i>}ipiiiVitunities as the IoT gains traction.
}>}ii`Li>ViL>`ViVi`iVi-iii i>`iiKit, for instance, provide services to customers, while
collecting a rudimentary amount of data on customer
usage and maintaining a high degree of customer con>V "i }>}i iVi] L>i` Vi>}
sophisticated IoT cloud services and platforms, are
iVi7i>>Li`iViV>}i>
can provide a wealth of location-specic information to
users while collecting data about their movements (in
the real world and on the Internet), their purchases, and
their conversations.
i>`] }>}i>iVi}V`i
of human activity: the smart home, the quantied self,
the connected car, the digital retailer, the intelligent fac] i i}ii> >] >` ii> i
city of the future. The winners wont necessarily have
the most sophisticated technology or the biggest cloud;
they will have the right capabilities. They will know
}> } Vi ii` >` iiV>tions, and how to use human-centered design to develop compelling services that change how customers
Li>ii>`}i]vi>i]>iLii}>ii}ip`i}>`Vsumer insight for Apple, in data gathering and analytics
v}ipVi>iVi}iiiiVi>
will attract people to their integrating hubs.

Exhibit 3: IoT E-Health Offerings, 2014

Like the enhanced services that they often deliver, the


Enhancers are just beginning to appear in the IoT ecosystem. They provide integrated services that reframe
and repackage the products and services of the Engagers. They succeed by nding new ways of creating and
extracting value from the data, relationships, and insights generated from IoT activity.
The insurance industry offers a good example. Several companies, including MetLife, are developing ways
to gather data on health-related behavior to help design
their rate schedules and offerings. By and large, insurance companies will not want to create their own version of the quantied self. Instead, they will work with
services that already exist: the Fitbit, which measures
physical activity; emerging systems that monitor heart
rate, blood pressure, blood sugar, weight, and other
health-related metrics; and nutrition tracking devices
(set up to receive automated signals from the refrigerator and restaurants).
Once these health-tracking technologies are gathered into a hub, combined with data from additional
apps and services such as Stravas tness-oriented social
network, and integrated into an overarching service, the
insurance company can build and package value-added
services personalized to each individual. A health insurer already keeps comprehensive data on its customers health status and past medical treatments and expenses. It could augment that with individual electronic
health recordswith customers permission, of course.
It could then combine that information with its own
actuarial data, supplemented with data from drug companies, market research rms, school lunch programs,
and the government.

Although there are many e-health offerings, they are all emergent. The
space is ripe for transformation by an Enhancer that can turn information
from connected health services and outside data providers into new,
value-added services. For Enhancers, partnering successfully with a
variety of companies will be a key capability.

Endpoints and Simple Hubs


Tracking devices
Fitness trackers like Fitbit, Jawbone UP, ActiveLink
Nutrition trackers like Weight Watchers, MyFitness Pal
Insulin trackers like Lilly Diabetes monitors
Internet-connected refrigerators from LG, Haier, and Whirlpool

feature technology

Enhancers: Creating New Value

Integrating Hubs
Quantified self
Wearable multipurpose devices like Google Glass, Apple Watch
Smartphone apps for fitness and activity tracking

Social Media (via Network and Cloud Services)


Online communities
Athletic communities like Strava Social
Health and weight-loss communities like MyNetDiary

Enhanced Systems
E-health payors
Aetna and other health insurance companies offering online support
Source: Strategy&

By aggregating all this information, a health insurer could start building new services. It could offer
health insurance with coverage tailored to individuals
needs, and premiums based on their tness habits. Customers might receive regular health and nutrition status updates tagged to their individual medical needs,
along with reminders for scheduling regular exams and
remote consultations that take advantage of their past
data. There is also the possibility of teaming with other
healthcare companies to offer products and services catering to peoples specic health needs and interests (see
Exhibit 3).

59

feature technology

/i >Vi ii}} `> `ii i


types of services, many of which will undoubtedly disrupt or leapfrog past todays business models. Compai i i> >V > >Vi ` `
well to begin planning for that future now. They can
iiiLvV}>iiiirience they provide their customers. They should start
looking into technological and business issues, such as
>i`>>i}L>`iVi]>`
how to structure business partnerships. They will also
need to develop a strong innovation capability, oriented
around developing and continually updating their suite
of services connected to the Internet of Things.
Your Companys IoT Strategy

60

 i> v i i v i>V v i ii
i v / >i} `i\ >Li] }>}i] >`
>Vi i} i v>] ii] ` Li
undertaken lightly. The IoT markets newness and heterogeneity will make it difcult to negotiate, even by
those companies with the strongest capabilities and the
clearest, most compelling value propositions.
Many challenging issues remain. Customer de>` >` iiV> >i >` `Vi] >`
the hardware and software standards for the IoT are still
evolving. Billions of endpoints and intelligent devices
must be integrated. The data they produce must be
managed and analyzed. This is no small task, especially
given increasing concerns about security and reliability.

i >i V} iiV }i>i V i


their personal data, issues surrounding the privacy of
tracked information and sensitive data (such as e-health
records) are ongoing, and it is unclear how vulnerable
many of the devices and clouds that make up the IoT

>i >Vi >` >V V`i 7i iiV i


companies, and perhaps some entire industries, to be
reluctant to share data with other enterprises in an IoT
Vi]iiV>}iii>L>L
and security.
If your company wants to stake a claim with the
Internet of Things, you rst need to develop a distinctive way to playa clear value proposition that you
can offer customers. This should be consistent with
your enterprises overall capabilities system: the things
you do best when you go to market, aligned with most
or all of the products and services you sell.
With those elements in place, if you tread carefully
and methodically, the time is right. To develop a strategy
for the IoT, you could proceed by addressing, in order:
1. Your own role in the IoT.ii}>ue proposition and capabilities, are you best suited to be
> >Li] }>}i] >Vi
2. Industries and markets. Assess how your business
environment is being (or could be) transformed by the
/v>i> }>}i >Vi]>i`]
hubs, and services are already being sold in your mari  >i i iiVi` VLi 7> ii
do you have of the demand for them? The more IoT
>V > >i>` i `] > `i
in healthcare, automotive, manufacturing, and homerelated sectors, the more rapidly you will have to move.
3. Customer or business engagement. Because value
in the IoT will be created through the transformation
vViiiiVi]ii`}V>>Li
iiiVi`i} iv>i> >Li]
direct customer contact, or if opportunities for engagement appear limited in your industry, the IoT could
eventually transform your business. What capabilities

strategy+business issue 77

GIVEN YOUR CAPABILITIES,


ARE YOU BEST SUITED TO
BE AN ENABLER, ENGAGER,
OR ENHANCER?

tures. You probably already have innovation processes


in place, but they may not be customer-centric enough.
You may also need to foster more opportunities for peoi V> iii >` i> >`
about what works and what doesnt.
One virtue of the IoT is the degree to which com>i >V} iV}V> iii V> i>
i `iVi >` >v > i L` i ]
the creation and delivery of IoT services will require you
to design and prototype their new services, to manage
them once implemented, and to analyze the resulting
wealth of data.
As new and challenging as todays IoT is, it offers
a large and wide-open playing eld. The companies
that gain the right to win in this sphere will be those
that understand just how disruptive the IoT will be,
and that create a value proposition to take advantage of
the opportunities. +

feature technology

do you already have in this area, and what will you need
to develop?
4. Connected products and services. Assess your
current lineup of offerings to determine which can be
enhanced through IoT connectivity, and what new
iV`Li`iii`iivi/i
launches and innovations, take into account how connectivity will be established, how your company will
analyze and use the resulting data, and which other
companies you might collaborate withall set against
the proposed revenue model and income stream.
5. An enhanced connection.  }>}i
deploy an initial wave of basic connected devices and
services. Then they will build further services by using
analytics to gain insights from the wealth of new data
that the IoT provides them. As these deployments unv`] }>}iv>Vi>i>i/
ii >Vi Vi 7> i Li
models might emerge? Would you want to develop any
of them, or do you want to partner with other companies that can help serve this need?
6. Your organizations capabilities. Your company
will need to distinguish itself in this space. What will
you do that no other company does as well (or at all)?
What improvements and investments will you need to
make? Where will the necessary time, money, and attention come from; what activities will you need to divest or downplay so their resources can move here?
You may also need to develop some table stakes
capabilities that all IoT companies must have. These include the ability to manage and analyze huge quantities
of data, to integrate diverse portfolios of services, and
to build business relationships with other IoT-related
companies, some of which may have very different cul-

61

Reprint No. 00294

Resources
`>` >i]}">` } >>\+E/
Davenport, s+b (online only), Mar. 31, 2014: The management scholar
`iVLi`ii>vL}`>>i>i>
Tom Igoe and Catarina Mota, A Strategists Guide to Digital
Fabrication, s+b]\ >iiiiv>i}
guides describes a complementary technology.
Daniel Kellmereit and Daniel Obodovski, The Silent IntelligenceThe
Internet of Things 6ii]\->}v>`iiv
the evolution and future of this technology.
David Meer, The ABCs of Analytics, s+b (online only), Feb. 26, 2013:
How to use the big data from the Internet of Things (and everywhere
else) for competitive advantage.
For more thought leadership on this topic, see the s+b website at:
strategy-business.com/technology.

61

B E S T B U S I N E S S B O O K S 2 0 14

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Contents
&
s+b
Top Shelf

BEST BUSINESS
B O O K S 2 014
IN PICTURES

For an interactive look


at this years top picks,
go to strategy-business
.com/books2014.

Strategy

Marketing

To the Nimble
Go the Spoils
Ken Favaro

Brand Diving
Catharine P. Taylor

The Human Factor


Karen Dillon

John P. Kotter, Accelerate:


Building Strategic Agility
for a Faster-Moving World
(Harvard Business Review
Press, 2014)

Niraj Dawar, Tilt: Shifting


Your Strategy from
Products to Customers
(Harvard Business Review
Press, 2013)

Phil Rosenzweig, Left


Brain, Right Stuff: How
Leaders Make Winning
Decisions (PublicAffairs,
2014)

64

69

Executive
Self-Improvement

73

strategy+business issue 77

best books 2014 introduction


62

Best
Business
Books
2014

B E S T B U S I N E S S B O O K S 2 0 14

Organizational
Culture
The Nothing Thats
Everything
James OToole

Dave Eggers, The Circle


(Knopf, 2013)

78

book reviewer and contributing editor


David Hurst identies three books
that explore not only the how-to of
technological innovation, but also how
technology is driving innovation in every
sphere of our lives. Triple-bottom-line
pioneer and rst-time contributor John
Elkington reviews books that provide
actionable means for dealing with the
seemingly intractable challenge of
sustainability. And in the nal essay,
another notable rst-timer, economic
columnist Daniel Gross, reviews three
books that cut through the hot-button
issue of global income inequality to get
down to hard factsthe Cockney twist on
which is sometimes pegged as the origin
of the phrase get down to brass tacks.
Enjoy the readingthen, put it
to work.
Theodore Kinni

Innovation

Sustainability

Economics

Greasing the
Skids of Invention
David K. Hurst

Tomorrows
Bottom Line
John Elkington

All Things
Being Unequal
Daniel Gross

Alex Pentland, Social


Physics: How Good Ideas
SpreadThe Lessons
from a New Science
(Penguin Press, 2014)

Andrew S. Winston,
The Big Pivot: Radically
Practical Strategies for a
Hotter, Scarcer, and More
Open World (Harvard
Business Review Press,
2014)

Thomas Piketty, translated


by Arthur Goldhammer,
Capital in the 21st Century
(Belknap Press, 2014)

82

86

91

best books 2014 introduction

and directly
the seven reviewers in our 14th annual
best business books special section
get down to brass tacks. In the opening
essay, Strategy& senior partner Ken
Favaro picks the three books that offer
new thinking about strategy that is
practical and compelling. Marketing
expert Catharine Taylor peels away
the hype and spin of her discipline to
identify books that get to the essence of
the brand experience. Veteran business
editor and author Karen Dillon reviews
the books that will help you hone
your decision-making chopswith or
without an assist from big data. James
OToole continues his unbroken run of
best business books appearances by
taking on a perennially relevant topic
whose parameters he helped dene:
organizational culture. Longtime s+b

ITS STRIKING HOW QUICKLY

63

B E S T B U S I N E S S B O O K S 2 0 14 / S T R AT E G Y

Strategy
J.-C. Spender, Business Strategy:
Managing Uncertainty, Opportunity, and
Enterprise (Oxford University Press,
2014)

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Sanjay Khosla and Mohanbir Sawhney,


Fewer, Bigger, Bolder: From Mindless
Expansion to Focused Growth (Penguin
Portfolio, 2014)

John P. Kotter, Accelerate: Building


Strategic Agility for a Faster-Moving
World (Harvard Business Review Press,
2014)

To the Nimble
Go the Spoils
by Ken Favaro

carefully plotted doctoral


dissertations, countless hours of research, and contentious discussions among serious management thinkers,
strategy boils down to three fundamental questions:
First, how can you differentiate yourself from the competition in the way you create value? Second, what capabilities do you have that are distinct from those of your
rivals and essential to your particular way of creating
value? Third, what businesses should you be in, and
what products and services should you offer, given your
NOTWITHSTANDING ALL THE

chosen approach to creating value and your particular


set of distinctive capabilities?
Most companies fail to fully answer these questionsparticularly in a fashion that views them as an
integral whole. This leaves leaders without guideposts to
navigate the most pivotal challenges of corporate management, including transformation, change, agility, and
invention. As a result, instead of growth and innovation, there is only incoherence and inefficiency.
Take, for example, eBays acquisition of Skype for
US$2.6 billion in 2005. With this deal, eBay hoped to
become more than an e-commerce company; it wanted to become a global networking player. But eBays
particular online capabilities and buttoned-down,
transaction-heavy culture were ill equipped to assimilate a company in the voice telecommunications market. Moreover, it was unclear how eBays approach to
marketplace differentiation complemented Skypes, and

73 Sockwell, printed by Vote For Letterpress


strategy+business
Illustrations
byissue
Felix

best books 2014 strategy


64

B E S T B U S I N E S S B O O K S 2 0 14 / S T R AT E G Y

Innovative Strategy

In Business Strategy: Managing Uncertainty, Opportunity, and Enterprise, J.-C. Spender takes what he
calls the entrepreneurial path
to corporate growth and market
response. To the peripatetic business professor and retired dean of
the School of Business & Technology at SUNY/Fashion
Institute of Technology, strategy is the product of executive imagination and judgment, not just logic; the strategy process involves balancing the known, the unknown,
and the unknowable. The purpose of strategic analyses,
frameworks, and methods is to inspire inventiveness and
inform judgment.
Spender arrives at this position by comparing the
quantitative planning techniques popular in organizations after World War IIwhich were mostly developed by the military during the warwith the more
subjective, less rigid strategic methodologies that appeared in the 1980s and that are now widespread in the
business world. In the earlier era, the dominant idea was
to match a rms resources to the markets demands.
The companys business model was tailored to customer
needs, suppliers offerings, labor availability, logistics,
and the like. If a mismatch occurred, the resulting

inefciencies would reduce prot and threaten the


rms survival.
By contrast, explains Spender, the modern strategy
process must be a much more forward-looking activity,
because efciency is no longer enough to deliver a decisive strategic advantage in many industries; instead, a
so-called monopoly-based strategic advantage is needed.
He cites Apples dominance of the tablet business to illustrate the overwhelming necessity of innovation as a
means of securing sustainable, above-normal prots, especially where the windows of competitive advantage
seem to be opening and closing with increasing speed.
Business Strategy does an extremely thorough job
of surveying the consulting tools and academic economic models and theories available to corporate strategists. The
book describes in some detail
the salient facets of the most essential methodologies and concepts, including SWOT, Porters
ve forces, the experience curve,
the balanced scorecard, the value
chain, horizontal and vertical integration, and more. But again and
again, Spender returns to the notion that companies must avoid
letting these tools stymie their
exibility by over-objectifying decision making. Ultimately, he argues, added value stems from the
strategists choicesthe entrepreneurs imagination and judgmentnot from reams of
analysis or data-based conclusions.
By way of example, Spender compares two strategic
milestones: IBMs decision in the 1940s to turn down
the patents and processes for electrophotography developed by Chester Carlson, which became the basis of
the Xerox machine, and Intels ceding of the DRAM
market to low-cost Japanese competitors in the 1980s
in order to focus on microprocessors. Based on market
conditions at the time, IBM believed the customer base
for electrophotography was too small and chose to sit
on the sidelines; Intel, meanwhile, decided it could
build a monopolistic position in microprocessors when
neither the market potential nor the manufacturing
challenges were well understood. In Spenders view,
IBM hewed to the safety of the known to its detriment,
whereas Intel rode the wave of strategic risk by using
data analyses as the basis of a calculated leap into the

best books 2014 strategy

vice versa. Five years later, after writing down nearly $1


billion in losses, eBay sold Skype.
EBays error was an all-too-common one: Corporate executives often conate strategy with vision, mission, purpose, plans, or goals. Although these elements
may help to focus, inspire, mobilize, and challenge an
organization, they are not substitutes for a logical, articulated strategy, and they often lead to helter-skelter
corporate development.
So it is also with many business books that are supposed to be about strategy. In lieu of actually discussing
the subject, they frequently tiptoe around it. Nonetheless, several books released during the past year offer
unique ideas and new thinking for how strategy can
help businesses continually innovate, execute, and maintain the
dexterity needed to anticipate and
outpace competitive challenges
and market disruption. Each is
practical and simple without being
simplistic, and offers convincing
evidence for its core premise.

65

B E S T B U S I N E S S B O O K S 2 0 14 / S T R AT E G Y

The Opportunity Landscape

In Fewer, Bigger, Bolder: From Mindless Expansion to


Focused Growth, Sanjay Khosla, former president of
Kraft Foods developing markets unit, and Mohanbir
Sawhney, director of the Center for Research in Technology and Innovation at the Kellogg School of Management, propose a framework for sustainable growth.
Called Focus7, it consists of seven steps that begin with
searching for growth and
end with measuring and
communicating progress.
Developing strategy (or
picking your bets, as the
authors call it) is the second step of Focus7, and it
entails navigating the opportunity landscape. This
methodology has four dimensions, each with two lenses: (1) what you offer, with
brand and product lenses; (2) who you serve, with customer and partner lenses; (3) where you go to market,
with channel and market lenses; and (4) how you operate, with monetization and process lenses.
Along the way, the authors provide apt examples,
making this step refreshingly tangible. For instance,
regarding the customer lens, Khosla and Sawhney
aver that Enterprise Rent-A-Cars number one position
(by revenue) in its category is based on the companys
unique and relentless emphasis since 1957 on address-

ing a specic consumer problemthe need for a replacement car. While Enterprises competitors bloodied each other at the airports, Enterprise opened more
than 5,000 outlets in neighborhoods across the U.S. to
furnish autos to local people whose vehicles were being
repaired or who didnt own a car, but needed one for a
special occasion.
Although entertaining and informative, this section, like much of the principal argument in the book,
avoids a coherent discussion of strategy itself. Presumably, a good strategy is the product of a focused set of
bets, whereas a bad strategy results from a mindless
one. Its hard to argue with this view of the difference
between good and bad strategies, chiey because it is
a tautology. This weakness aside, the notion of an opportunity landscape does provide the basis for a higherlevel strategy debate in which all companies must engage to succeed. And the authors present a useful series
of ideas to explore in assessing your companys performance and prospects.
What most intrigued me about Fewer, Bigger,
Bolderand what makes it well worth adding to your
reading listare Khoslas in-depth anecdotes about
how he altered the fortunes of the Kraft units he led.
In those sections, the book takes on a y-on-the-wall
quality, providing a valuable insider and, yes, strategic
perspective of an executives thought processes as he effectively manages a turnaround.

Even the body language of the


ranking executive can...inhibit the
openness thats necessary for
best results.
When Khosla joined Kraft in 2007, the company
had expanded wildly into international markets, but
its earnings were coming at a premium. Its sales campaigns lacked discipline, and there was no economic
justication for the vast resources that Kraft expended
on these efforts. To x this, Khosla implemented a program known as 5-10-10, under which Krafts dozens of
product categories, 100-plus brands, and 60-country
portfolio were pared down to ve strong categories, 10
brands, and 10 markets that the company would focus
on and support. Within six years, Khoslas division tri-

strategy+business
strategy+business issue
issue7773

best books 2014 strategy


66

unknown and unknowable.


Spender devotes a chapter in the book to the role
of executives in communicating the organizations strategy to employees so that it is effectively executed. And
although he delves deeply into a variety of techniques
for disseminating a companys strategic program (rhetorical, formal and informal, group and individual),
he concedes that if successful strategiesand, indeed,
successful companiesare built on imagination, motivating people to collaborate requires equally inspired
approaches. As Spender advises: The rhetorical practice that shapes the creative actions of others is precisely
what makes the modern rm possible.
Executives will ignore at their peril the fundamental
message of Business Strategy: Once-popular mechanistic planning methodologies no longer work; they have
been replaced by innovation-based models that demand
exibility and creativity. A choice to use anything less,
Spender argues, is the precursor of corporate atrophy.

B E S T B U S I N E S S B O O K S 2 0 14 / S T R AT E G Y

The description of the international expansion


campaign that Khosla put in place is a guide to creative
executive decision making that C-suite readers can emulate to their advantage. And, although the denition of
strategy is somewhat nebulous in Fewer, Bigger, Bolder,
Khoslas success at Kraft nods at the good things that
can happen when strategy and tactics align.
A Structure for Strategic Agility

Accelerate: Building Strategic Agility for a Faster-Moving


World, by John P. Kotter, the Konosuke Matsushita
Professor of Leadership Emeritus at Harvard Business
School, is primarily about the ability to adjust strategy
quickly in response to changes in the global business
environment. This is a ripe topic
for discussion (as well as one in
which Kotter, a noted change expert, specializes).
Navigating the tension between maintaining a stable business model that has produced
consistent results and embracing
reinvention is a difcult challenge
for most companies. Strategic stability can be quite rewarding and
is the hallmark of great companies such as Wells Fargo, Southwest Airlines, Walmart, and Walt
Disney. But there are also many
once-dominant companies whose
strategies became obsolete faster
than they were able to respond to shifting market and
competitive conditionsfor example, Blockbuster and
Research in Motion, two companies cited in Accelerate.
In Kotters view, businesses today cannot afford to
be complacent. (Can they ever?) Yet he offers a convincing portrait of a typical organizations life cycle to demonstrate that, despite their best intentions, most companies naturally lose their innovative edge as they evolve.
As he depicts it, successful startups have a strong, market-focused vision, delineated initially by the entrepreneur founder. The company is more of a network than
a pyramid. At the center is the entrepreneur and his or
her closest advisors; linked to them like planets in a solar system are people managing various initiatives, often
associated with developing and testing new products
and services. At this stage, the organization chart is relatively at and the company is uid; a once-promising
initiative can be dropped on the y in favor of a better

best books 2014 strategy

pled its revenue to $16 billion, and protability grew by


50 percent.
The 5-10-10 buckets were populated through a series of global workshops that represented a substantial
shift away from Krafts centralized top-down structurean approach that executive readers hoping to
simplify decision making in large organizations should
consider emulating. Kraft regional managers, as well as
vendors, consultants, investment bankers, and consumers, attended the workshops. Although the agendas were
strict, the participants were encouraged to speak freely,
share evidence and anecdotes to back up their points
of view, and propose practical solutions. Perhaps most
important, and useful from a management perspective,
Khosla demanded that the top
brass in these meetings, including
himself, be muted. The point is
to let the discussion roam without
regard to past practices or current
favorite initiatives, the authors say.
Even the body language of the
ranking executive can tilt the proceedings and inhibit the openness
thats necessary for best results.
Khoslas decentralized approach to the workshops opened
up the possibility of more autonomy at the local level throughout
Kraft, and regional managers were
given greater latitude in decision
making and enjoyed greater inuence in the organization. This eventually led to the
most notable marketing success in Krafts recent history. During the 2013 Super Bowl at the New Orleans
Superdome, a power outage occurred just after the second half started, and the game was stopped for more
than a half hour. Almost as soon as the blackout hit,
Krafts Oreo marketing team came up with a creative
tweet to play off the cookies well-known Twist, Lick,
Dunk campaign: Power out? No problem. You can
still dunk in the dark.
That short, free ad was retweeted 10,000 times
in the next hour, and the publicity that Kraft received
for it over the next few days was priceless. The tweet,
though, was possible only because the companys leadership equation had been altered. The authority to approve the tweet had been pushed down far enough that
the decision could be made almost instantaneously, the
authors write.

67

B E S T B U S I N E S S B O O K S 2 0 14 / S T R AT E G Y

its unclear, for example, how the right-side networks


purposeto make strategy and its implementation
more agileis aligned with the companys strategy itself. Some aspects of strategy, such as pricing the value
proposition or changing the portfolio, can be remixed
relatively quickly and frequently; but other elements,
such as the capabilities that differentiate a business or
the types of customers it chooses to target, cannot be
altered overnight.
Nevertheless, as a new way of looking at agility
and exibility, Kotters thesis is extremely appealing. It
presents a valuable course of action that speaks to a particularly challenging conundrum for maturing companiesthat is, how to combine the dexterity of the startup years with the knowledge gained from experience.
For this reason, I choose Accelerate as the best business
book of the year on strategy. It brings much-needed insight as to why big companies struggle with implementing strategic innovation, and it recommends a practical
approach to solving that problem. In doing so, it has the
potential to bring inside the walls of our most successful
enterprises the benets of creative destruction.
All three books have a lot to offer. Readers who
have a solid foundation already in placeespecially a
clear denition of their strategy in mind before starting
page onewill come away from these selections better
equipped with practical and compelling ideas to help
implement those strategies in the real world. +
Reprint No. 00287

Ken Favaro
ken.favaro@strategyand.pwc.com
is a senior partner with Strategy& based in New York. A
longtime advisor to business leaders and a co-teacher
of a course on strategic innovation at Columbia Business
School, he leads the rms work in enterprise strategy
and nance.

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68

idea. This kind of agility can enable a successful young


rm to run circles around more mature competitors,
Kotter writes.
With success, however, come formal processes and
a management structurean operational hierarchy to
ensure that the company can satisfy its growing market. At the same time, the original entrepreneurial system does not fade away. The hierarchy and the network
coexist to drive efciency and innovation, respectively.
This period, Kotter contends, is extraordinary, marked
by widening prots, an excellent culture, and favorable capital markets. Unfortunately, the phase is usually short-lived. As growth escalates, operational needs
expand, and before long, the hierarchy, which increasingly controls company resources, begins to dwarf and
minimize the network. At the end of this evolution,
the company may have a strong market position, great
brands, good relations with customers, and economies
of scale, but it will have lost its agility and innovative
edge. In other words, it is now vulnerable to attack from
a nimbler startup.
Given this inevitable progression, Kotter argues,
the only way to sustain market share and simultaneously beat the competition into new markets is to re-create
the dual operating system that the company had when
it was at its best. The left side of the company would
consist of the traditional business and its hierarchy; the
right side would be populated by a volunteer army led
by a guiding coalition overseeing a dynamic network,
free of bureaucratic layers, whose job would be to drive
strategic initiatives that would stall if relegated to the
left-side bureaucracy. Kotters ve principles for forming
and managing this network are the accelerators of the
books title.
To support his point of view, Kotter tells the story
of an unnamed B2B technology company whose global
market share was tumbling primarily because it lagged
behind competitors in Asian expansion and new product development. Within two years of implementing
the dual-operating approach, the company experienced
a marked turnaround: Annual revenue growth more
than doubled, to more than 60 percent, and the company rose from fourth to second in market share. Moreover, the companys market capitalization ballooned 155
percent, to $10 billion-plus.
Because Accelerate delivers such a potentially valuable message, the fact that it does not address the significance of coherent strategy as a prerequisite for successful innovation creates a big hole. Absent that discussion,

B E S T B U S I N E S S B O O K S 2 0 14 / M A R K E T I N G

Marketing
Niraj Dawar, Tilt: Shifting Your Strategy
from Products to Customers (Harvard
Business Review Press, 2013)

Barry Wacksman and Chris Stutzman,


Connected by Design: 7 Principles
for Business Transformation
through Functional Integration
(Jossey-Bass, 2014)

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Tim Halloran, Romancing the Brand:


How Brands Create Strong, Intimate
Relationships with Consumers
(Jossey-Bass, 2014)

best books 2014 marketing

Brand Diving
by Catharine P. Taylor

marketing is slowly, but steadily,


evolving in response to the fragmentation of media,
the digital empowerment of consumers, and, particularly, the shrinking attention spans of target audiences.
Across nearly every demographic, people spend less time
onand have less patience withmarketing messages.
Theyre not just tuning out and fast-forwarding past
ads, theyre also paying for services such as Netflix that
dont include any marketing at all.
This is why there is a growing conviction among
marketing professionals that the brand experience is be-

THE DISCIPLINE OF

coming the essence of their discipline. Its also why this


years three best business books on marketingnot one
of which has the m word in its title, by the wayare
about deepening a brands relationship with its customers in ways that penetrate well below the surface transaction. Each articulates a different way of achieving
this, and they even differ in their rationales for doing
so, but the imperative is clear: If you arent doing it already, marketers, the only way to score is to go deep.
Paddling Downstream

In Tilt: Shifting Your Strategy from Products to Customers, Ivey Business School professor of marketing Niraj
Dawar provides the much-needed context for why companies have to view satisfying customers as paramount.
His argument is one that should make executives across
the entire enterprise take notice.

69

best books 2014 marketing


70

Dawar sets up a dichotomy between upstream value, the value-creation activities related to production
and products, and downstream value, which is created
where companies interact with customers. Most companies still put most of their emphasis on the upstream,
but they need to tilt their efforts (and their organizations) downstream.
The upstream, argues Dawar, is no longer a wellspring of competitive advantage; those days, which date
back at least to the Industrial Revolution, are over. In a
time when just about every IT behemoth is outsourcing some of its programming to India, and every major
clothing retailer can nd cost efciencies by producing
clothes in China or Mexico, competitive advantage in
the upstream is, at best, incremental and short-lived. By now,
your business knows what it takes
to make and move stuff, Dawar
writes. The problem is, so does
everybody else.
Upstream efciencies must
continue to be realized, but they
are no longer going to yield the
competitive advantages they once
did. Thus, it is mandatory for
companies to focus on the downstream; they simply have no choice
but to seek competitive advantage
in how they interact with customers. Toward this end, Dawar says
the rst thing companies must
ask is, Why do our customers buy from us rather than
from our competitors? The specics of the answer differ for every company, but at a higher level, the right
answer will always lie in minimizing the costs and risks
that customers incur by doing business with you (see
A Step-by-Step Guide to Winning the Customer, by
Niraj Dawar, s+b, Spring 2014).
Dawar cites Hyundai, for example, which came
up with a brilliant response to the major slump in car
sales that followed the 2008 nancial crisis. (He notes
that Hyundai saw its U.S. sales drop by 37 percent,
and it certainly was not alone among carmakers.) As its
competitors made the usual downstream adjustments,
mainly price incentives, Hyundai realized that the real
issue for consumers wasnt priceit was the risk of taking on a big, new nancial obligation while the economy was in a tailspin. The company minimized this risk
with Hyundai Assurance, a program that allowed car

buyers to return their car, with no penalties, within a


year of purchase if they suffered a job or income loss.
Hyundais sales doubled in the month the program
launched. The carmaker outsold Chrysler, which had
four times the number of dealerships, without having
to reduce prices.
It would be reasonable to assume that Hyundais
competitors responded by offering similar programs,
but they didnt. To Dawar, this anomaly points up an
important nuance in leveraging downstream advantage: Most companies are better at assessing customer
costs than at discerning purchasing risks perceived by
the customer. Dealer incentives speak to cost, but they
dont address risk. By focusing on risk, Hyundai gained
a competitive advantage.
ICI, a maker of explosives
used by quarries to blast rock, is
another company that gained a
critical competitive advantage by
shifting its emphasis downstream.
Finding itself in a classic commoditized price war, ICI took a step
back and realized its products were
just like Ted Levitts famous quarter-inch drill bits: ICIs customers
didnt want explosives (drill bits,
and value produced upstream);
they wanted blasted rock to sell
to their customers (drill holes, and
value produced downstream).
Since blasting rock is full of
customer costs and risks, ICI decided to clear a path out
of the price war by minimizing both. As with many of
Tilts examples, it turns out ICI already had the solution
at its ngertips. It had reams of data, which it had never
shared with its customers, about how to ensure a successful explosionessentially, a blast that produces lots of
similarly sized rock.
Pooling this data and sharing it with quarries, along
with making a strategic decision to base its pricing on
blast outcomes rather than the explosives themselves,
enabled ICI to drastically reduce its customers costs and
risks. ICI was no longer just another company selling explosives, explains Dawar, it was in the business of selling
a highly differentiated value proposition created by the
application of engineering expertise, marketing savvy,
and strategic acumen. Even better, this new approach
delivered a cumulative advantage: The more blasts ICI
conducted, the more data it collected, adds the author.

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B E S T B U S I N E S S B O O K S 2 0 14 / M A R K E T I N G

And the more rened its models and blasts became, the
further ahead it pulled from its competitors.
I think Tilt is the best business book of the year on
the topic of marketing because it paints a big picture
that all company executives should consider. In fact,
Dawar sees the upstream-to-downstream shift starting
with the CEO, and then trickling down in a mind-set
shift that spreads through the entire organization.
Building Out the Ecosystem

Since blasting rock is full of


customer costs and risks, ICI
decided to clear a path out of the
price war by minimizing both.
Wacksman and Stutzman describe how U.K. retailer
Tesco created a smartphone app that lets its customers
build their shopping lists by scanning barcodes on the
products in their homes and turning those lists into online orders, or, in stores, into an aisle-by-aisle map. Tilts
Dawar would likely peg this as an effective use of the
downstream; and, like ICI, Tesco discovered that the
service has upstream applications. The data gives Tesco
better insights into how and what it should be offering,
in addition to enhancing its ability to provide customers
with more personalized shopping experiences.
The authors also point to high-tech It Brands such
as Apple, Google, and Amazon as obvious examples of
their ideas in action. More impressive, however, are the
examples of how companies whose main thrust is not
digital are using functional integration. These include
brands such as LOral, General Motors, Nike, and, in
the books most surprising example, spice industry leader
McCormick & Company.

Love, Actually

In Romancing the Brand: How Brands Create Strong,


Intimate Relationships with Consumers, marketing
consultant and former Coca-Cola brand director Tim
Halloran urges marketers to go deep, too, but in an appealing, old-school kind of way. By distilling marketing down to the metaphor of a romantic relationship in
need of nurturing, excitement, and intimacy, Halloran
doesnt have to rely on whiz-bang technological examples. Indeed, the ways in which digital technologies are
transforming marketing barely make it into his book.

best books 2014 marketing

In Connected by Design: 7 Principles for Business Transformation through Functional Integration, Barry Wacksman and Chris Stutzman, executives at R/GA, a leading
digital agency that has worked for Nike, Capital One,
and Beats by Dr. Dre, recommend pursuing functional
integration in order to create ecosystems that succeed
by nurturing ongoing relationships with the brands
most loyal customers. In short, they want companies to
build interlocking products and (usually digital) services
that add up to more than the sum of their parts.

During the Great Recession, McCormick found itself in one of those commoditization struggles that ll
the pages of Tilt, as newly thrifty consumers turned to
less expensive generic and store brands. But the company also discovered functional integration, as well as
an unlikely link between digital services and ground
cumin, with FlavorPrint, an algorithm-driven recipe
engine. Yes, there are many online recipe sites, but as
the leader in spices, McCormick had an unparalleled
knowledge of avors that put it in a position to create
a much more robust and effective recommendation engine. FlavorPrint works like Pandora, in that it suggests
recipes based on your tastes. Tell the site that you like
raw tomatoes and cheesecake, but dislike jerk chicken
and black licorice, and it will begin to discern your palate, and suggest recipes based on it.
FlavorPrint was McCormicks answer to categorywide commoditizationa service with daily utility,
which Wacksman and Stutzman identify as one of two
core elements in a successful functional integration.
(The other is context, which
comes from guring out
how and when consumers
want to interact with your
brand.) And, they report,
people who engage with
McCormick online buy upwards of 40 percent more
of its products than the average McCormick customer.
Think of it this way: If one of the dimensions of traditional advertising messages is frequency, FlavorPrint
and the many other examples in Connected by Design
suggest a new kind of frequencya frequency generated
by digital services that are used on an ongoing basis and
that offer such utility that they imprint a brand preference on their users.

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smaller brands. Consider the example of Mamma Chia,


a quirky health beverage to be savored, not swallowed
in great gulps, in which chia seeds are suspended in a
fruit-avored Jell-O-like substance. A tough sell.
The passion of company founder Janie Hoffman
for her product and the chia seed won her distribution
in the 40 stores in Whole Foods southern Pacic region. But there was a catch: The buyer required that
Hoffman herself educate, and establish the connection
with, her potential customers. Otherwise the product would be collecting dust on the shelf, the buyer
warned, because the new brand didnt t the traditional
denition of a beverage.
So Hoffman set up tables in Whole Foods to teach
shoppers about the product, give out samples, and more.
When a shopper showed interest, notes Halloran,
Hoffman enthusiastically told the story of the magnicent chia seed, why it was important to her, and how it
could add meaning to the shoppers life. (Later, Hoffman employed word of mouth ambassadors, but they
had to be people who shared her passion, not just workers handing out the sample of the day.) Hoffman went
on to be BevNets 2012 Person of the Year, and Mamma
Chia has since gained a slot in mainstream chains.
The Mamma Chia story is the centerpiece of the
Meet Memorably chapter, which focuses on the rst
encounter between a product and a consumer. Not everyone can do this through the power of their personality, as Hoffman did, but Halloran uses the example
to emphasize that making an indelible rst impression
matters, whatever the means.
The fact that this years best business books on
marketing use different lenses to highlight essentially
the same message underscores the need to build deeper
relationships with consumers and customers. In fact,
these authors all seem to regard traditional mass advertising as almost incidental. Its not enough to sell
productsyou must nd ways to embed your brand so
deeply within your customers lives that they come back
to it, time after time. +
Reprint No. 00288

Catharine P. Taylor
cathyptaylor@gmail.com
has covered digital media since 1994, writing for publications including Adweek and Advertising Age. She currently
writes a weekly Social Media Insider column for MediaPost,
and is a frequent speaker on the impact of social media on
advertising, media, and behavior.

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Thats one of the books strengths. Technology has


so enthralled us that it can become an end in and of
itself. Certainly, weve all seen online campaigns that
seem to exist solely because a marketing team has fallen
prey to the belief that being seen on a hot new platform
equals relevance. Instead, argues Halloran, it is only by
keeping the consumers rst, by making them special,
that brands live up to the denition of a relationship.
He develops this premise by having each chapter mirror
a stage in a romantic relationship, showing brands rst
how to Know Yourself, and then progressing onward
to steps such as Meet Memorably, Deepening the
Connection, and even Making Up, when a brand has
lost its customers trust.
Halloran offers the repositioning of Powerade, a
Coca-Cola brand that he worked on in the mid-1990s,
as a case in point. The solution for the brand, which
was running well behind the 88 percent market share of
industry leader Gatorade, wasnt going to be competing
head-to-head for the categorys main demographic
athletic men ages 20 and older. Rather, the brand team
targeted a younger demographicathletic teenagers.
Linking the brand to the key emotional drivers of teen
sports would be the way that Powerade would establish
a relationship with these boys, Halloran writes.
The brand team achieved this by identifying 1 million top high school athletes (a feat thats even harder
than it seems because this initiative was pre-Internet)
and sending each of them a Powerade sport bottle and
a coupon for the product itself. It was no small thing
then for a high schooler to get a piece of mail, especially
mail that his friends didnt get. The team also asked the
athletes opinions about everything from packaging to
communication. Yes, Powerade was wooing them.
The brand team also wooed high school coaches
with Powerade-branded equipment, such as towels, that
they would receive if they agreed to install Powerade
vending machines in their schools. The ethics of aggressively imprinting a brand within the corridors of high
schools aside, this outreach to coaches and star athletes
began to create an emotional connection. (Its hard to
tell how effective this connection was; Halloran tells
us only that Powerades brand loyalty in the under-18
demographic began to equalize with Gatorades.)
Of course, romantic campaigns are a lot easier if
you have the deep pockets and unparalleled distribution of the Coca-Cola Company backing you up. So
its a relief to report that Halloran demonstrates how
intimacy-enhancing marketing tactics apply to much

B E S T B U S I N E S S B O O K S 2 0 14 / E X E C U T I V E S E L F - I M P R O V E M E N T

Executive
Self-Improvement
CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Phil Rosenzweig, Left Brain, Right Stuff:


How Leaders Make Winning Decisions
(PublicAffairs, 2014)

Christian Madsbjerg and Mikkel B.


Rasmussen, The Moment of Clarity:
Using the Human Sciences to Solve Your
Toughest Business Problems (Harvard
Business Review Press, 2014)

Claudio Fernndez-Aroz,
Its Not the How or the What but the
Who: Succeed by Surrounding Yourself
with the Best (Harvard Business Review
Press, 2014)

best books 2014 managerial


self-improvement
self-help
73

The Human
Factor
by Karen Dillon

in 2014. At the start of


the year, a study by IDG found that 70 percent of large
organizations had deployed or were soon to deploy big
datarelated projects, at an average investment of US$8
million. And analytics enthusiasts were full of sweeping
predictions: Venture capitalist Vinod Khosla rankled

BIG DATA WENT MAINSTREAM

a crowd of doctors at Stanford Medical School by declaring that data crunching could and should eliminate
many of their jobs. We are guided too much by opinions, he said, not by statistical science.
Big data is touted as the holy grail of all manner
of business needs: eliminating human error and wasted
time in decision making; identifying prospective winners and losers long before executives can; minimizing
costly hiring mistakes; and even sussing out investment
opportunities, competitive advantage, and future strategy. From this perspective, big data not only can predict
the futureit is the future.
Not so fast, say the authors of this years three best
business books on honing your executive chops. The

science of big data does indeed hold the potential to


catalytically improve many areas of business, but they
argue that the human factor still makes the difference
between good and great corporate performance in the
long run. The key, these authors suggest in three different ways, is understanding and harnessing the power of
our own mindsin conjunction with having the right
analytical data and decision-making frameworks.
Context First

best books 2014 self-improvement


74

In Left Brain, Right Stuff: How Leaders Make Winning


Decisions, IMD strategy professor (and s+b contributor)
Phil Rosenzweig contends that the increasing emphasis on clear analysis and calculationthe so-called leftbrain skillsmarginalizes the intangible right stuff necessary to
make high-stakes executive decisions. Borrowing the phrase made
famous by writer Tom Wolfe in his
chronicle of the early years of the
U.S. space program, Rosenzweig
suggests that great decision makers
must be able to summon seemingly excessive levels of condence in
their own judgment and comfort
with risk to push past boundaries
and achieve peak performance.
Though left-brain analysis
and that less denable right stuff
might seem polar opposites, for
many decisions, both are essential.
The question is when and how do left brain and right
stuff come together? As you might expect, the author
of The Halo Effect...and the Eight Other Business Delusions That Deceive Managers (Free Press, 2007) is
no fan of sweeping generalizations or add-water-andstir solutions. Nor does Rosenzweig offer his readers a
simple answer in Left Brain, Right Stuff. Instead, each
chapter explains a slightly different decision context and
how to think through which tools are needed to make
the best choice.
At the heart of the book, however, is the idea that
human beings have been too sweepingly dismissed as
irrational decision makers. Rosenzweig doesnt dispute
the value of decision-making models. Rather, he puts
them in their proper place by walking us through a series of decisions. For example, in 2010, a U.S. division
of Swedish construction giant Skanska put together
a winner-take-all bid for an enormous National

Security Agency contract to build a new computer facility, the Utah Data Center (UDC). Bill Flemming,
the president of Skanska USA Building, had numerous factors to take into account. He needed a bid low
enough to win, but high enough to earn a proteven
though the government had hemmed him in with
spending caps, and his rivals were working equally
hard to nd the magic number. His eventual answer
required a blend of left brain and right stuff. Flemming
wasnt making a choice from options he could not control: With such a long-term project, there was every
possibility that Skanska could nd real-time efciencies and cut its anticipated costs. He was bidding in a
competitionthere could be only one winner, and performance was relative. He could
draw on past history to craft the
best possible bid, but whether he
made the right choice would take
years to become clear. And nally, as an executive at such a wellknown company, he knew he had
to protect its reputation.
Eventually Flemming took a
leap of faith. He put in a bid that
came in under the governments
stated goal, but that did not guarantee protability for Skanska.
The bidding process started with
as much objective analysis as possible, but ended with what Skanskas president called gut feel. He
hoped the company could exceed performance expectations, in part because of the strength of his leadership
and his condence in his team. In the end, Skanska did
not get the contract. But Rosenzweig highlights the dilemma as typical of the complex decisions we face in all
walks of lifenot just business, but also politics, sports,
and the military. There is no formula that will lead to
success every time.
So when should we apply cold, reasoned analytical
tools to a decision and when should we allow the right
stuff to inform a judgment call? Rosenzweig tells us that
to make a great decision, having an awareness of common errors and biases is just a start. We also need to ask
ourselves key questions about the decision context:
Are we making a decision about something we
cannot control, or can we inuence outcomes? If we
cannot control the outcome, we should rely more on leftbrain analysis. If we can control the outcome, the right

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B E S T B U S I N E S S B O O K S 2 0 14 / E X E C U T I V E S E L F - I M P R O V E M E N T

sen focus their attention on perhaps the most critical


context for executive decisionswhat they call level 3
problems. Level 1 problems involve a clear-enough future with a relatively predictable business environment.
Sales are down, and you know that every additional $1
in advertising generates $1.50 in sales. Level 2 problems
involve alternative futures with a set of options available. Your newest sales reps arent performing up to expectations and you arent sure how to help them. So you
test some hypotheses until you nd the right solution.

You need to rely on the right


stuff instincts to help you win
a competitive bid, wherein if you
lose, you get nothing.

Sensemaking at Level 3

In The Moment of Clarity: Using the Human Sciences to


Solve Your Toughest Business Problems, innovation consultants Christian Madsbjerg and Mikkel B. Rasmus-

But with level 3 problems, you cant even articulate what


the problem is, never mind gure out how to solve it.
Witness Coloplast, a European manufacturer of
colostomy bags. The company hadnt missed a sales target in 50 years of continual double-digit growth, and
suddenly it missed its targets four times in a year. No
one was sure why. A wealth of data was available to analyze, including a half century of sales. One study commissioned by the company asked thousands of people
to rank 250 factors in considering their colostomy bag.
But the results only confused things more. Something
was really wrong, but the company had no idea what.
Coloplast had a level 3 problem on its hands.
Madsbjerg and Rasmussen contend that level 3
problemswhich can be as diverse as setting the direction of the company, driving growth, improving sales
models, understanding the real culture of the organization, and nding the path in new marketsneed to be
solved by a process that they call sensemaking. Sensemaking is an art, not a science, and a slowly realized one
at that. It is rooted in philosophy and ethnography, and
it rests on the assumption that breakthrough insights
moments of claritycome from a sociological approach
to understanding and solving a problem.
The traditional business approach to problem solving relies on deductive reasoning, starting with a hypothesis that is then tested. This approach works well
for level 1 and 2 problems, where you can use experience, data, and intuition to identify and solve problems.

best books 2014 self-improvement

stuff can lead to a better decision.


Are we seeking an absolute level of performance,
or is performance relative? Theres a difference between
wanting to raise your prot margin a few points (an absolute level of performance) and submitting a winnertake-all competitive bid (relative). You need to rely on
the right stuff instincts to help you win a competitive
bid, wherein if you lose, you get nothing.
Are we making a decision that lends itself to rapid
feedback, so we can make adjustments and improve a
subsequent effort? If we
have a chance to improve our work as we
go along, theres no need
to rely solely on leftbrain decision making.
The left brain might ensure the best decision is
made, but if we know we
can learn and tweak, the
right stuff can be useful, too.
Are we making a decision as an individual or as a
leader in a social setting? Making a decision as a leader
is far more complex than making one that is personal.
Leaders may have to push their staff to achieve more
than might seem possible on paper. Right stuff can play
a key role here, too.
There is hope in Rosenzweigs thinking, especially
in the reassuring idea that executives have far more inuence in many spheres of decision making than they
might realize. Decision theory puts all the emphasis on
the analysis leading to the moment of choice, Rosenzweig writes. While it is denitely important, my experience taught me that my ability to inuence whatever goes on after the moment of choice is perhaps even
more important.
Left Brain, Right Stuff is frustrating in that it
makes clear we dont yet have the tools needed to avoid
mistakes in decision making. But understanding the
context in which decisions need to be made and realizing that there are no simple solutions that apply to all
decisions is a very good start, which is why this book
is my pick as the years best business book for leaders
intent on improving themselves.

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insights is not rocket science. Its more like a blueprint


for restrainta slow process, through which leaders can
question basic assumptions about their companies and
customers, leading to transformative insights.
The Moment of Clarity is a manifesto for leadership that allows space and time for contemplation of
complex problems and decisions, not an insignicant
demand in an era of quarterly pressure to deliver results.
But the authors cite a host of companies, including Intel, Samsung, Lego, Novo Nordisk, and Adidas, as the
beneciaries of such leadership. The value of sensemaking, they suggest, is not in the process itself, but in what
a company makes of its insights, how it translates them
into new ideas and opportunities, and how it shapes a
shared perspective on the business.
That is where the right leadership
is required to help your company
nd a path out of the fog.
The Hazards of Hiring

If human judgment remains an essential factor in corporate success,


the most critical decisions a leader
can make are hiring decisions, says
Claudio Fernndez-Aroz, senior
advisor to executive search rm
Egon Zehnder. In Its Not the How
or the What but the Who: Succeed by
Surrounding Yourself with the Best,
he offers a veterans experience in
getting those decisions right.
The books title refers to an interview in Harvard
Business Review in which Amazon founder Jeff Bezos
talked about the importance of having the right people
around him as the company began to grow. Initially,
Bezos worried only about how to get things done, then
he segued to what needed to get done, and nally to the
insight that has guided the company ever since: What
mattered most was who was on his team. One way to
think about this is as a transition of questions, from
How? to What? to Who? he told HBR. As things get
bigger, I dont think you can operate any other way.
Getting the right people in place has remained so important to Bezos that he continually reminds his colleagues that hed rather interview 50 people and not
hire anyone than hire the wrong person.
Paradoxically, we are often our own worst enemies
when it comes to picking the right people to help our
companies grow. Humans arent programmed to make

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76

But a level 3 problem requires the patience to start, not


with a hypothesis, but with an effort to frame the problem correctly and gather data. Only then should you
form a hypothesis about what you have found. Breakthrough insights arent manufactured like widgets in a
factory. They dawn on us in nascent form, like the sight
of a vague shape on the horizon, the authors write.
They are rst present in our mind and bodiesas a
slow hunch.
Such hunches, say Madsbjerg and Rasmussen, can
come only from looking beyond data to see the world in
context, what is known as phenomenologythe study
of how people experience life and the problems they are
trying to solve, and by extension how they use and need
your products and services in their
own lives. If this all sounds rather
airy and unstructured, dont worry. The authors provide a ve-step
framework for sensemaking.
First, frame the problem as a
phenomenon. In Coloplasts case,
the initial framing of the problem
was wrong. The company was trying to gure out how to sell more
products. Instead, after taking
time to think, Coloplast was able
to reframe the problem by asking, What is our customers experience with ostomy care? Next,
collect data. It is at this stage, the
authors warn, that things can appear most out of focus, most difcult to discern. But
Coloplasts leadership realized that it takes time to understand the data before forming opinions about it. The
third step is to look for patterns. At Coloplast, it turned
out that the salient pattern was the customers concern
about a secure t. The aha insightstep fourwhich
dawned slowly at Coloplast, was that the features of the
customers themselves were the key. The bodies of individual people are very different. Those different bodies
required different options for the secure t of a bag that
had the potential to be either positively life-changing
or deeply humiliating if it failed. Only after that stage,
with the key insights in hand, can you move to the fth
and nal stepplanning out the business impact of
the insights. In Coloplasts case, that involved creating
products that provide the right t for every individual
body, rather than designing more bells and whistles.
The sensemaking framework for surfacing critical

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great people decisions, declares Fernndez-Aroz. He


says that we make any number of mistakes in reading,
assessing, and choosing the resource that is most critical to our companys future. Among other failings were
hardwired for is the tendency to make quick choices
in fractions of secondsbased on similarity, familiarity, and comfort. We trust and choose to hire people

essential and desirable attributes a candidate would need


in order to do the job well. Do this before a single candidate walks through the door in order to make sure your
list is not inuenced by the people you are seeing. Then
actually rate each candidate on each of these factors.
Fernndez-Arozs book is a series of short, easyto-read chapters, each of which tackles a different
challenge in nding great
people, assessing and selecting the best, helping
these chosen stars shine,
and helping teams thrive.
Its Not the How or the What
but the Who continually
reiterates the simple, essential point that great people
decisions are as important
as any other decision that has the power to transform
our companies.
At a time when companies around the world are
trying to nd Moneyball-like algorithms for strategic growth, all three of this years best business books
for executive self-improvement offer an important reminder: Great people are at the core of any great business. Each book reminds us that the continuing need
for human judgment is critical to corporate success.
In the end, data and analytics are valuable only if they
are tracking, measuring, and evaluating the right things.
And knowing what we need to learn is not something
that can simply be programmed into an algorithm. That
requires human judgment. +

As one CEO says, at most companies,


people spend 2 percent of their time
recruiting and 75 percent managing
their recruiting mistakes.

Reprint No. 00289

Karen Dillon
kdillonperez@gmail.com
has been editor of Harvard Business Review, deputy editor of
Inc., and editor and publisher of The American Lawyer. She is
coauthor, with Clayton M. Christensen and James Allworth,
of How Will You Measure Your Life? (Harper Business, 2012)
and author of HBR Guide to Ofce Politics (Harvard Business
School Press, 2013).

best books 2014 self-improvement

who seem like us, which doesnt always equate to being


the best person for the job at hand.
Further, we make snap judgments based on the information in front of us, without stopping to ask what
else we need to know to assess a candidate. We judge
people based on their title, their pedigree, and their
previous employers. But far too seldom do we think
through whether their experiences, skills, and ability
and eagerness to learn new things will serve them well
in our own companies. In short, we forget to assess their
potentialand this, says the veteran recruiter, is the
single most important factor in making a great hire.
Hiring the wrong person isnt even the worst mistake most managers make, Fernndez-Aroz writes.
Rather, its clinging to a loser as he or she sinks. It takes
far more discipline to cut your losses and invest your
resources elsewhere than it does to watch an employee
slowly drag everyone else down. As one CEO tells the
author, at most companies, people spend 2 percent of
their time recruiting and 75 percent managing their recruiting mistakes.
But although we may be hardwired to make many
hiring mistakes, Fernndez-Aroz says, with the right
knowledge, training, and practice, anyone can master
the art of great who decisions. We just have to get out
of our own way. The rst step in surrounding yourself with the best, he writes, is to recognizeand correctyour own failings.
He goes on to offer scores of practical suggestions.
One simple but clear improvement, for example, would
be to actually hold ourselves accountable to a rational
set of criteria in making hiring choices. Write down the

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Organizational
Culture

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Richard Sheridan, Joy, Inc.: How We


Built a Workplace People Love
(Portfolio/Penguin, 2013)

Malachi OConnor and Barry Dornfeld,


The Moment You Cant Ignore: When Big
Trouble Leads to a Great Future
(PublicAffairs, 2014)

Dave Eggers, The Circle (Knopf, 2013)

best books 2014 culture

little agreement about what culture is or what it entails.


You cant see it, touch it, or measure it, yet culture is said
to explain why some companies fare better than others.
The authors of the years three best business books on
culture, one of which is a novel, explore the elusive subject from widely divergent perspectives, but all end up
confirming that it is the single most powerful influence
on how people behave in organizations.

78

The Nothing
Thats
Everything
by James OToole

scholars, and
executives are coming to the conclusion that culture is
the prime driver of organizational performance. Despite
the prevalence of that point of view, however, theres

INCREASINGLY, BUSINESS CONSULTANTS,

In Joy, Inc.: How We Built a Workplace People Love,


Richard Sheridan, cofounder and CEO of software design firm Menlo Innovations, delineates the practical
steps he has taken to create and maintain a corporate
culture that makes people excited to come to work every day. The book provides a detailed look at how a
culture is intentionally designed and implemented right
from a companys start.
Although Sheridan shies away from defining the
term culture, he uses it as a shorthand way of encapsulating the unique personality of his company, which
is, in his reckoning, a highly productive organization
where a culture of joy entices workers to enthusiastically engage, without being coerced or controlled by
management. He says that Menloians willingly give
their all at work because of the intrinsic rewards they
derive from constantly learning new things and being
granted a high degree of autonomy in how they manage
their work. I think I believe him, even though the joy
part seems like a hyperbolic stretch.
The practical aspects of Menlos culture that Sheridan describes will be useful to any manager who wants
to bolster employee engagement. He offers a raft of
suggestions about how to transform work into a self-

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are working on.


After 13 years in businessand several years of
Sheridan trumpeting his approach at management conferencesit seems odd that hope is the best Menlo
can do in this regard. Convinced as I am of the value
of the companys admirable managerial practices, this
sows seeds of doubt in my mind about the real purpose
of a culture of joy. Is it just a creative way of getting
employees to work harder without fully compensating them for their efforts? I hope that Sheridan doesnt
wait another three years before cutting Menloians in on
the action, but for now, we can content ourselves with
studying his culture-building prowess.
An Anthropological View

Culture has long been the purview


of anthropologists, but oddly,
there are no previously published
books that I can think of that offer
an anthropological perspective on
corporate culture and change. Into
the breach step Malachi OConnor
and Barry Dornfeld, anthropologists with University of Pennsylvania Ph.D.s in folklore and
communication, respectively, who
turned their attention to management consulting, and more specically to the study of corporate
culture. In their manager-oriented
manual, The Moment You Cant
Ignore: When Big Trouble Leads to a Great Future, they
ably explain how culture drives strategic change.
The anthropological perspective on culture and
change is long overdue because, as the authors note,
behavior is culturally prescribed. Thus, they address
the issue of changing a company culture at its root level:
the behavior of its employees. Starting from the familiar
premise, attributed to Peter Drucker, that culture eats
strategy for breakfast, OConnor and Dornfeld offer
useful advice on how to deal with the human side of
strategy implementation: getting employees to accept
needed change.
In 1881, British anthropologist E.B. Tylor dened
culture like this: that complex whole which includes
knowledge, belief, art, morals, law, custom, and any
other capabilities and habits acquiredas a member of
[a] society. Other researchers later added the idea that
cultures are social systems, the numerous parts of which

best books 2014 culture

managed learning experience, and how to encourage


constant dialogue and discussion among all employees
in the rmincluding the shiest and most introvertedin order to share that learning across the company.
Many of these ideas are creative, some are tried and
true, and almost all are deserving of consideration. The
most innovativeeven radicalof Menlos practices
is the pairing of employees (in the main, software programmers): Two people sit together at one computer
working all day on the same task at the same time, explains Sheridan. These pairings are rotated weekly, so
eventually every employee at this midsized rm works
intimately with every other one. Sheridan makes a
strong case that this seemingly expensive and inefcient
practice actually increases organizational productivity, learning, innovation, and quality, while reducing stress and fatigue.
Other ideas include having
the paired employees describe their
projects to the entire workforce at
Lunch n Learn sessions, putting
clients on Menlo teams, replacing
rules and bureaucracy with rituals
and storytelling, and holding daily
stand-up meetings in which all
team members quickly describe
what they are working on and
where they might need help. (It
is interesting that this high-tech
company makes extensive use of
low-tech tools, such as pencil-and-paper storyboards, to
keep track of projects and clarify responsibilities.) Certain programs and policies are also aimed at making
Menloians feel that they are members of a supportive
community. For example, new parents can bring their
babies to the ofce, where fellow workers are said to
bounce crying infants when their moms and dads are
busy at work tasks.
One thing that is noticeably missing from Sheridans otherwise detailed portrait of the companys culture is a discussion of compensation. Unlike other highinvolvement organizations, Menlo seems not to make
use of prot sharing, stock ownership, gain sharing, and
other proven methods for rewarding the people who do
the work that leads to nancial success. Only at the end
of the book does Sheridan express the aspirational hope
that by 2018, his employees will trade up to 50 percent
of their own income for the upside on the project they

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As difcult as a functioning culture is to identify,


dene, and change, it is the sine qua non of organizational performance, a fact Louis Gerstner discovered
when he became CEO of then-troubled IBM in the
early 1990s. Previously, Gerstner had earned a reputation for being a quantitatively oriented top executive,
and he took on IBMs turnaround believing that his
rigorous management-by-the-numbers approach would
be sufcient to get the job done. Howeveras Gerstner explained in his account of his tenure at IBM, Who
Says Elephants Cant Dance? Inside IBMs Historic
Turnaround (HarperBusiness, 2002)he came to see
that culture isnt just one aspect of the gameit is the
game. He described how the reshaping of IBMs culture became his prime leadership task. The method he
used can be rendered in the words of OConnor and
Dornfeld: Leaders can no longer push for results but
must create pull for achieving them by mobilizing the
passion, interests, and energy of others.
Creating that pull is a tall order, which is made
even more challenging by the paradoxical nature of cultures: They become dysfunctional if they are too weak,
and equally dysfunctional if too strong. Weak cultures
encourage members of an organization to do their own
thing, which leads to a lack of focus, coordination, and
effectiveness. Because there is no unifying, collective
purpose, there is insufcient motivation and commitment. In contrast, as OConnor and Dornfeld point
out, strong cultures tend to become rigid, complacent,
and susceptible to groupthink. Because members who
dare to question fundamental organizational assumptions are viewed as disloyal, a shortage of healthy selfcriticism develops, which leads to resistance to change
and innovation. And, as we see below, a too-powerful
culture can even take an unethical turn.
The Novelists Take

High-tech company the Circle is the brainchild of novelist Dave Eggers and the setting for his best-selling
novel of the same name. The events in The Circle occur
in the future, but just barely so: Even geezers like me
might live to see the day Eggers describes. The genius of
the bookand what separates it from run-of-the-mill
science ctionis that Eggers extends Silicon Valleys
existing technology and organizational practices no further than to their next logical steps (imagine Google on
steroids), and only at the conclusion does he move to the
illogical and chilling end to which they may be heading.
Most reviews of The Circle have focused on the

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80

are complexly interrelated. Over many decades, social


anthropologists would draw several conclusions about
tribal and national cultures: They are all different; they
are not consciously designed, but instead grow organically as the result of such inuences as the local environment, available technology, and the long process of
trial and error called human experience; and they are
far easier to destroy than to consciously build.
The concept of organizational or corporate culture
is of more recent origin. (Warren Bennis and I could
nd no published references to the concept when we rst
discussed it at a gathering of social scientists at the Aspen
Institute in 1973.) As the study of organizational culture
has developed, however, it is clear that the insights of
pioneering anthropologists about societies are broadly
applicable to modern business organizations. Every
company has a culture, and each one is unique, difcult to accurately describe or model, and hard to change.
Additionally, most organizational cultures are complexly
interrelated systems that initially tend to reect the beliefs and values of their founders, which are, in turn, inuenced by such factors as local customs and norms, the
type of industry, and the technology employed.
Because the process of cultural genesis is largely unplanned, to later alter any major part of a system (the
authors focus on strategy) requires modifying other
parts to ensure compatibility and, thus, the effective
functioning of the whole. That means, in effect, that
Richard Sheridans shaping of Menlos culture from
scratch was far easier than the task faced by leaders of
established companies when they attempt to change existing cultures. OConnor and Dornfeld usefully focus
on the latter task.
Changing an existing culture, particularly in a
large organization, is so hard because its analytically
difcult to pinpoint precisely how any one part of a system interacts with any other part. Further, some parts
can be devilishly hard to detect. For instance, the actual
values of an organization are often hidden from view;
therefore, its challenging to identify and measure them
(even if the organization posts a list of Our Values on
the lunchroom wall). Nonetheless, because people typically act in ways aimed at achieving what they value,
it is possible to infer the true values of an organization
by observing the behavior of its members. In practice,
then, cultural change can be the most daunting of all
social tasks, because it goes against what an organizations members value. Thats why OConnor and Dornfelds behavioral perspective is of practical use.

B E S T B U S I N E S S B O O K S 2 0 14 / O R G A N I Z AT I O N A L C U LT U R E

they do what is good for them, because, as the Circlers


assert, We are the future. In the end, the Circle develops a culture of arrogance in which those who disagree
with the brave new world that it is bent on creating are
dismissed as being on the wrong side of history.
Eggerss characters are recognizable as people we
know, and those we know about by reputation. Mae
is Everywoman, typifying todays inexperienced, overqualied young college grad desperate to nd a good
job in a bad labor market. Her relatively uneducated,
craftsman ex-boyfriend is the voice of reason. He tells
Mae, Like everything else you guys are pushing, it
sounds perfect, sounds progressive, but it carries with
it more control, more central tracking of everything we
do. (Mae, in perfect character,
dismisses the warning as antiquarian bullshit.) And the troika
who founded the Circle are three
variations on the charismatic, visionary, self-condent, brilliant,
and obsessively single-minded
leaders found in abundance in the
tech world.
Yet the novel is not an antitechnology, antibusiness diatribe.
It is a premonitory tale about the
potential consequences of wellintentioned corporate cultures run
amok. Eggers calls attention to
the ne line between the compellingly powerful cultures found at
places like Menlo Innovations, on the one hand, and
the 21st-century equivalent of the corporate paternalism
that spawned company towns and captive workforces a
century or so ago, on the other. Although ctional, The
Circle is the best business book of the year about corporate culture because it raises ethical and philosophical
questions that are not, and cannot safely be, raised in
many companiesand not just high-tech ones. +
Reprint No. 00290

James OToole
jim@jamesotoole.com
is a longtime contributing editor to s+b and a senior fellow
in business ethics at Santa Clara Universitys Markkula
Center for Applied Ethics. He is the author of 17 books,
including Leading Change: The Argument for Values-Based
Leadership (Ballantine Books, 1996).

best books 2014 culture

frightening prospect of the loss of freedom, democracy,


and ethical judgment inherent in the privacy-invading
technology emerging in Silicon Valley, but there have
been fewer comments about the equally terrifying corporate culture that Eggers realistically limns.
If the Circle were a real company, it would sit atop
Fortunes list of the 100 Best Companies to Work For
with its platinum medical insurance, free gourmet
lunches, health club, laundry service, pet sitting, luxury commuter buses, and the Menlo-like opportunity
to be creative and learn on company time. The purpose of these perks is, of course, to encourage employees to spend more time working productively, and less
time managing their personal lives, wasting time with
friends and family, and, presumably, reading long novels like The
Circle. But the ctional company
doesnt stop there. It elevates these
goodies to the next level, satisfying
not only employee needs, but also
their wants, with rst-class live
entertainment, boozy parties, oncampus housing (with opportunities for sex), social clubs, a sense
of community and social purpose,
and even, dare I say, a dollop of joy.
Almost everything the Circle
does is, on its face, positive for
employees, customers, and society.
Thus, the novels protagonist, Mae
Holland, initially nds the company campus and her new job exhilarating: The company had so much going on, so much humanity and
good feeling, and was pioneering on all fronts. When
she discovers her father is suffering from a life-threatening disease not covered by his health insurance, the Circle generously adds him to Maes company plan. The
catch, naturally, is that Mae becomes locked into the
company, in effect signing a social contract in which
she gets all, in exchange for giving allultimately giving up her freedom, humanity, and individualism. Over
the novels fast-paced 491 pages, Mae is gradually transformed from a loving, idealistic young woman into an
unquestioningly loyal true believer willing to betray
friends and lovers in order to advance the Circles goal
of taming the chaos of an orderless world.
As in Platos Republic, creating such a well-ordered
organization ultimately requires its members to abandon their freedom to Guardians who know better than

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Innovation
Erik Brynjolfsson and Andrew McAfee,
The Second Machine Age: Work, Progress, and Prosperity in a Time of Brilliant Technologies (W.W. Norton, 2014)

Alex Pentland, Social Physics: How Good


Ideas SpreadThe Lessons from a New
Science (Penguin Press, 2014)

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Eric Schmidt and Jonathan Rosenberg,


with Alan Eagle, How Google Works
(Business Plus, 2014)

best books 2014 innovation

if innovation is the answer, the obvious next question is


how to innovate.
This years three best business books on innovation offer answers to this crucial query in intriguing and
insightful, if sometimes indirect, ways. In The Second
Machine Age, economist Erik Brynjolfsson and information technologist Andrew McAfee suggest that smart
machines are not only the products of innovation, but
also essential enablers of innovation prowess. In Social
Physics, MIT data scientist Alex Pentland offers a datadriven and eye-opening inquiry into the flow of ideas
among people. And in How Google Works, high-level
company insiders Eric Schmidt and Jonathan Rosenberg, with Alan Eagle, take us down to where the rubber meets the road.

82

Greasing
the Skids of
Invention
by David K. Hurst

THESE DAYS, IT SEEMS as though every business challenge has the same solution: innovation. Innovation is
the watchword for generating fast growth in the very
slow recovery from the Great Recession, and, thanks
largely to Clayton Christensens concept of disruptive
innovation, its the narrative center of gravity in Silicon
Valley and the rest of the global tech community. But

In The Second Machine Age: Work, Progress, and Prosperity in a Time of Brilliant Technologies, Erik Brynjolfsson and Andrew McAfee of the MIT Center for
Digital Business contend that we have entered an era
during which machines will extend our mental powers in the same way that theyve already extended our
physical might. The authors point to Googles driverless
cars and Apples Siri as the early examples of what will
soon be a flood of smart machines. The authors dont
map the exact channels that this flood will follow, but
by showing how digital capabilities have become ever
more sophisticated (and will continue to gain in sophistication in the future), they make a compelling case that
smart machines will shift and blur the line between the
human and digital domains. Routine tasks both manual
and cognitive that were heretofore reserved for humans
will increasingly become digitized.
Brynjolfsson and McAfee are convinced that the
overall effect of smart digital technologies will be profoundly beneficial. They predict that the growth of

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research and offer prizes for innovation (like the kind


awarded by DARPA that played such an important role
in the development of driverless cars), adopt tax incentives to encourage employment, and radically reform
economic metrics such as GDP that fail to capture
much that is relevant to human well-being. They make
a strong case, but Id be remiss if I neglected to note that
changing education curricula, nancial incentives, and
economic metrics are often accompanied by unintended
consequences that are neither obvious nor benign.
Brynjolfsson and McAfees ultimate goal is the development of a freestyle civilization where people and
machines work together to become powerful hybrids.
As an example of such a hybrid, they cite chess, where
computers can now routinely beat
grandmasters, but grandmasters
working with machines can muster a combination of strategic acuity and tactical knowledge that is
more powerful still. If we translate this idea to the corporate arena, it suggests that in the future, a
companys competitive advantage
will lie in the ability of its employees to sense and integrate while its
computers are busy scanning and
calculating.

best books 2014 innovation

these technologies will yield an exponential increase


in the trajectory of human social development for the
foreseeable future. As digital technologies are combined
and recombined, abundance will replace scarcity as the
norm in economics, bringing greater choice and freedom. For instance, digital technology should help us
live more lightly on the planet than the machine technologies that preceded it.
Although its not a connection the authors make
directly, the diminished physical scale of digital technologies, in comparison with their mechanical and
human counterparts, is a major contributor to the authors principal concern for the future: the uneven distribution of the economic bounty that will accompany
the second machine age. Machine
technologies like the railroad and
the automobile changed the physical landscape, which in turn created a vast ecology of new blue-collar
and white-collar jobs. But the migration of work to computers will
probably result in signicant job
losses. And if digital change occurs
faster than displaced workers can
acquire new skills, they may never
catch up.
Further, because of the winner-take-all nature of digital innovation (recall that when Facebook
acquired WhatsApp for US$19 billion, WhatsApp had only 55 employees), society could become highly polarized, with a
small group of well-paid digital knowledge workers on
one side, and on the other, a vast pool of low-paid service
workers performing the non-routine tasks that computers cant yet do. Median wages could be very low,
indicating huge income disparities between the haves
and the have-nots (see Economics: All Things Being
Unequal, by Daniel Gross, page 91). These problems,
together with the multiple signicant changes in policy
and practice required to address them, could place an
enormous burden on governments.
The authors offer some recommendations for sidestepping these problems and prospering in the second
machine age. They say that the focus of educational institutions and students should shift from rote learning
to the skills of ideation, broad-frame pattern recognition, and complex communicationwhich machines
cant deliver, as yet. Governments should support basic

Toward a Torrent of Ideas

Social Physics: How Good Ideas


SpreadThe Lessons from a New
Science, by Alex Sandy Pentland, director of MITs
Human Dynamics laboratory, offers a glimpse into the
kinds of insights that the smart machines described in
The Second Machine Age can help us surface. Pentland
is a pioneer in social physics, a new science that uses big
data and digital technologies to identify patterns and
predict outcomes in social interactions. For instance,
Pentland has developed an astonishing ability to predict
the performance of teams in different situations based
entirely on their nonverbal behavior and without knowing anything about the content of their conversations.
Although much of his work has been done with
small groups, in Social Physics, Pentland scales up his
ndings to describe the dynamics of social learning
and idea ow among people in large companies, cities,
and society as a whole. He explains that social learning
within a groupwhich includes the groups ability to
innovatetakes place when people adopt new strategies

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pends on having a steady and wide-reaching ow of


data. Pentland is cognizant of the privacy issues that
this might entail and proposes a new deal on data in
which individuals own their personal data, have full
control over its use, and have the right to dispose of or
distribute it as they see t. As were seeing, however, this
scenario is far easier described than done.
The patterns of interaction described in Social
Physics also raise implications for executives who want
to enhance the level of creativity and innovation in their
companies. For example, instead of the current focus
on employee cohesion, motivation, and satisfaction as
drivers of idea ow, the book suggests that companies
should provide employees with a wide diversity of exploratory experiences, coupled with periods of egalitarian engagement. Instead of the current emphasis on individuals and the content of communication, it suggests
that companies should elevate their focus to groups and
the modes of communication. And instead of using
conventional organization charts, it suggests that companies should map idea ows.
Sandy Pentlands Social Physics, with its emphasis
on hard data, its view of organizations as dynamic processes, and the questions it raises about the entities on
which organizations should focusteams rather than
individualsis my choice for best business book of the
year on innovation.
As Google Does

In How Google Works, Eric Schmidt and Jonathan


Rosenberg, with the help of Googles director of executive communications, Alan Eagle, take the reader on
a guided tour through the inner workings of the tech
giant. Schmidt and Rosenberg joined the company, as
CEO and product senior vice president, respectively, in
the early 2000s, after the venture capitalists who funded
its initial growth realized that some adult supervision
was in order.
The veteran IT executives quickly discovered the
aversion of founders Sergey Brin and Larry Page to traditional management approaches, including the stagegate process for managing new projects. In the Google
Boys view, it slowed innovation down too much, constricting people in the process.
Just talk to the engineers, suggested Brin and
Page. When Schmidt and Rosenberg did, they discovered that Google was staffed with smart creatives
digital knowledge workers who had deep technical
know-how, broad management expertise, and business

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84

or acquire new beliefs through experience or observation. The critical determinant of social learning is idea
owthat is, the way in which ideas spread through
the group. Pentland likens this to water: The idea ow
within a group can be swift and clear or can take the
form of a terrifying whirlpool or a stagnant pond.
The dynamic that drives idea ow is a continuous
cycle of exploration and engagement. Exploration is the
process of gathering ideas through exposure to a wide
variety of experiences and ideas; engagement, which requires interaction and cooperation, is the sifting of those
ideas and the conversion of those selected into action.
Pentland and his collaborators gured out how
to detect ideas that are converted to action using electronic sociometric instruments. Briey, the instruments
measure energy, engagement, and exploration levels
in groups, along with individual energy, extroversion,
and empathy through body language. The researchers
then couple that data with more conventional sourcessuch as surveys, purchasing records, and social network data. The result is a comprehensive view of social
interaction patterns.
As social physics reveals more patterns, Pentland is
most interested in applying them to cities. Hed like to
see the creation of mobile sensing networks whose eyes
and ears would be digital networks of wireless devices,
such as mobile phones. These would be the basis, explains the author, of a control framework: one that rst
senses the system; then combines these observations
with models of demand and dynamic reaction; and nally uses the resulting predictions to tune the systems
to match the demands being made on them. Such a
framework would help us understand and improve the
rhythms of urban life, and quicken the pulse of exploration and engagement that is the signature of a vibrant,
innovative community. In this regard, Pentlands views
on city design are supportive of those of urban activist Jane Jacobs, who fought the expressways and massive
urban renewal projects of the mid-20th century, arguing that they destroyed communities and social capital.
Pentland envisions a future in which the science of
social physics is used to design more human-centric cities. With the help of digital technology, he believes that
urban design can be based on analysis at the individual
level rather than averages and stereotypes. This will enable us to move beyond social classes to peer groups and
beyond markets to exchange networks, where enhanced
trust creates greater fairness and stability.
Of course, a mobile sensing nervous system de-

B E S T B U S I N E S S B O O K S 2 0 14 / I N N O VAT I O N

good people, setting off a virtuous circle.


The big question for readers of this book is how
transferable the Google experience is to their own company. Its one thing to sustain a generative culture as a
company grows, but, as the authors acknowledge, its
much more difcult to revitalize a stagnant culture.
Here their advice is brief and somewhat familiar: Find
the smart people, understand how the existing culture
is creating problems, encourage openness and difcult
questions, and try to nd something in the organizations
original culture that can take you where you want to go.
A closely related question is how sustainable
Googles culture of innovation is within Google itself.
The authors clearly think that it is sustainable. But the
histories of many innovation-driven companies that came before
Google suggest that there is no
sure inoculation against organizational sclerosis. Nonetheless, How
Google Works should be read as
an excellent case study in practical
applications of some of the principles of social interaction described
in Social Physics (note: the authors
do not mention Pentlands work).
All three of this years best
business books on innovation
point to digitization as the key enabler of progress at every level of
society, and their authors evince
an infectious optimism in this regard. But they also rightly acknowledge that digitization
brings with it serious concerns: job losses and widening
disparities in income, to say nothing of central issues
involving trust and power that loom larger still. That
is the other side of the cointhe possibility that digitization could produce a stultifying Taylorism ruled by
George Orwells Big Brother.
Surely the end result of digital innovation will fall
somewhere between a digital utopia and a dystopia.
The 18th-century German philosopher Immanuel Kant
probably had it right when he wrote: Out of the crooked
timber of humanity, no straight thing was ever made. +
Reprint No. 00291

David K. Hurst
david@davidkhurst.com
is a contributing editor of s+b and the author of several
books, most recently The New Ecology of Leadership:
Business Mastery in a Chaotic World (Columbia Business
School Publishing, 2012).

best books 2014 innovation

savvy. Realizing that imposing conventional control


systems on such employees could be counterproductive,
the newly hired execs decided to rethink their approach
to management.
For one thing, they decided to manage the context
for innovation rather than the content of innovation.
If you cant tell someone how to think, explain the
authors, then you have to learn to manage the environment where they think. And make it a place where they
want to come every day.
This meant that the design and management of
Googles culture became a top priority for Schmidt and
Rosenberg, as did the design of the facilities (boisterous, crowded ofces, brimming with hectic energy).
They purposely maintained wide
spans of control and organized
the company around the people
who had the highest impact on
the organization (as measured by
performance and passion), with
the corporation retaining a simple,
functional structure.
The idea is not to create a
so-called star system, but a management system built around an
ensemble. Reorganizations are undertaken oftenwith the participation of the employees being reorganizedand executed quickly
in order to minimize disruption
and uncertainty. And teams are
purposely kept small; the authors say that they hew to
Jeff Bezoss two-pizza rule (a team should never be so
large that it cannot be fed by two pizzas). Realizing that
plans were bound to change often in an industry driven
by fast-paced innovation, Google also adopted the VCs
maxim to invest in the team, not in the plan. Using
Pentlands terms, one might say that the company seeks
to promote social learning and idea ow by maintaining
a constant pulse of exploration and engagement.
Unsurprisingly, in a company where talent drives
innovation, Schmidt and Rosenberg tell us that hiring
is an essential process at Google. They describe hiring
as an egalitarian, peer-based activity that is tasked with
an unabashedly elitist goal: Find the very best people
and never let urgency compromise quality. Brilliant
generalistsRhodes scholars come in for special mentionare Googles prime target. And the company
subscribes to the view that hiring good people attracts

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Sustainability
Mark Moody-Stuart, Responsible
Leadership: Lessons from the Front
Line of Sustainability and Ethics
(Greenleaf, 2014)

John Hope Bryant, How the Poor Can


Save Capitalism: Rebuilding the Path to
the Middle Class (Berrett-Koehler, 2014)

CLICK HERE
for a slideshow of
our picks for the
Best Business
Books of 2014 in
seven categories.

Andrew S. Winston, The Big Pivot:


Radically Practical Strategies for a
Hotter, Scarcer, and More Open World
(Harvard Business Review Press, 2014)

Tomorrows
Bottom Line
by John Elkington

lyrical about paradigm shifts but fail


to grasp the dizzying, gut-wrenching impact of the
transitions that Thomas Kuhn had in mind when he
popularized the term in the 1960s. He was probing
the sort of scientific revolutions that change the way
people see the world, such as the shift from Newtonian
certainty to Einsteinian relativism. Todays business
leaders face a similar paradigm shift: from a market
reality shaped by economic demand to one shaped by
the collision of expanding human numbers and shrinkMANY OF US WAX

ing planetary limits.


The new reality involves a higher order of risk than
most business leaders are used to. Whatever their PR
folk say, corporate leaders recognize that they and their
staff are human and fallible. They accept minor tactical missteps, and even a few major strategic blunders, as
a fact of business life. But the risk associated with sustainability is systemic. The old paradigm of business as
usual doesnt change, but now it threatens to overrun
the ecological systems that make civilized life possible.
Many books have been written about sustainable
business. (By this, I mean the broad definition of sustainable business that encompasses environmental, social, and financial responsibilitythe triple bottom
line that Ive spent so much of my career exploring.)
By way of solutions, the authors of these books propose
the adoption of new rhetoric, promoting citizenship, responsibility, and organizational change. But proposals

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are only the rst step. Few companies have taken the
next stepconcrete action for making the transition to
the new paradigm. This distinction, between rhetoric
and action, shaped my choices as I confronted the task
of identifying the best business books published on this
topic in the past 12 months.
Happily, I found a number of books offering practical takes on how to drive the transformative changes
needed to build sustainable businesses. More than a few
of them are based on the real-world experiences of corporate leaders who are pioneering new forms of value
creation. Unhappily, my brief requires me to home in
on only the best of the crop.
Lessons for Leaders

best books 2014 sustainability

Few companies have been through


the sustainability wringer to quite
the same degree as Royal Dutch/
Shell. According to Mark MoodyStuart, Shells annus horribilis
came in 1995, in the middle of his
decade-long tenure as managing
director, when the company was
hit hard on two fronts. These were
the Brent Spar oil platform controversy in Europe and the outrage
that followed Nigerias execution of
environmental activist Ken SaroWiwa and his colleagues.
Moody-Stuarts Responsible
Leadership: Lessons from the Front
Line of Sustainability and Ethics, which he bills as part
memoir, part confessional, part manifesto for leadership, provides a detailed view of these events and much
more. It draws mainly on the authors 40-year career
at Shell. Moody-Stuart grew up in Antigua, where his
family had lived since the 17th century and was instrumental in the development of the islands sugar industry. He joined Shell in 1966 after earning his doctorate
in geology at Cambridge, and worked for the company
in 10 countries on his journey to becoming its managing director and chairmanposts he held until 2001.
The book, which bears my endorsement on its dust
jacket, provides candid accounts of Moody-Stuarts
dealings with prime ministers and dictators, colleagues
and competitors, and investors and NGOs. This is an
insiders view of the machinations within organizations
as disparate as Shell and the United Nations, and it engages hot-button issues, such as top team remuneration,

human rights abuses, and corruption, head-on.


But Moody-Stuart delays his account of how he
awoke to the corporate sustainability agenda until the
books biographical coda. The key moment was when
he rst became chairman of a public company, the Shell
rening company in Port Dickson, Malaysia, and attended his rst shareholder meetingthe company
was listed on the Kuala Lumpur Stock Exchange. This
is when he fully recognized his responsibility to the
thousands of people who had invested their savings
in the company he led. What is most striking about
Moody-Stuart is how this newfound sense of responsibility to shareholders continually expanded until it encompassed all of the stakeholders in a business, producing one of the wisest leaders I have
ever come across.
The themes of trust and inclusion ring through the book
not just as values to be adopted,
but as core leadership attributes
to be developed and exercised.
Moody-Stuart calls on business
leaders to take off the corporate
hat and put on the citizen hat.
This ability is key to building the
trust needed to successfully manage the kind of coordinated action
necessary in addressing global issues. Although the book is not a
detailed primer on how to work
for the common good, it contains
many forceful recommendations, with the weight of
experience behind them. For example, the best way to
build the trust needed for cooperation with the not-forprots of civil society is exceptional transparency. The
author tells us that he and Royal Dutch/Shell learned
that lesson the hard way in 1995.
Moody-Stuart extends the need for transparency
and inclusion into his views on regulation. Business
people should support sensible regulatory frameworks
instead of instinctively arguing against all forms of
regulation, he says, adding that even though business
should be involved in framing sensible legislation, to
prevent special pleading it is advisable to have input
from other business sectors as well as civil society.
Trust and inclusion are also essential to dealing
with climate change, a critical issue that emerged during Moody-Stuarts tenure at Shell and one that is covered in a key chapter in the book. The gist of the former

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mate Coalition, an industry-supported group with


the express aim of lobbying against any action on climate change. And both companies did resign, because
NGOs regarded such membership as hypocritical and
criticised both Shell and BP.
Many activists argue that such discussions among
senior corporate leaders usually end up in collusion
to protect the unsustainable status quo. But in a time
when sustainable solutions often require broad-based
cooperation, we should encourage those discussions because they also can ensure that the leaders mired in the
established paradigm do not drown out those who see
the need for change.
Beating Poverty by Bootstrapping

Whereas Moody-Stuarts social consciousness was rooted in a sense of noblesse oblige, John Hope Bryant came
by his in poverty-stricken, gang-infested South Central
Los Angeles. As Bryant explains in How the Poor Can
Save Capitalism: Rebuilding the Path to the Middle Class,
that was where he saw how major institutions abandon
the poor, after his fathera concrete contractorlost
his tenuous position in the middle class and his family
imploded. Bryant knows rsthand how capital, in the
form of business loans, mortgages, and nancial investment, can vanish from ailing communities.
What is striking about Bryant is the degree to which
he has been able to transcend, both in his own life story
and in his work, what he characterizes as a modern form
of slavery. To not understand the language of money
today is to be an economic slave, he says, and the path
out of that slavery is knowledge about nance and business. He is a successful,
self-made businessman
and CEO of Operation
HOPE, a nonprot that
he founded in 1992 in
the aftermath of the riots following the Rodney
King trial in Los Angeles. Since then, Operation HOPE has directed
more than US$1.5 billion in capital to low-wealth communities in the United States. (See Jeremy Rifkins The
Zero Marginal Cost Society: The Internet of Things, the
Collaborative Commons, and the Eclipse of Capitalism
[Palgrave-Macmillan, 2014], another top contender this
year, for more on the growing role of organizations such
as Operation HOPE in the new paradigm.)

To not understand the language


of money today is to be an economic
slave, says Operation HOPE CEO
John Hope Bryant.
days before the Deepwater Horizon disaster. (For more
on Browne and BP, and insight into responsible leadership at the middle management level, see Christine
Baders The Evolution of a Corporate Idealist: When
Girl Meets Oil [Bibliomotion, 2014], a ne book that
just missed my nal cut.) For example, Moody-Stuart
and Browne discussed resigning from the Global Cli-

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oilmans argument is that whereas business, government, and consumers have all been prone to blaming
each other, the situation now calls for a three-cornered
approach that enlists all three in the achievement of
low-carbon outcomes. For such an approach to work,
argues Moody-Stuart, two conditions must be met:
First, the solutionsalternative transportation and energythat business espouses must provide consumers
with levels of utility and cost that are similar to those
of conventional solutions. The author believes this will
translate to signicant investment in public transport,
particularly urban public transport, and work on lowcarbon vehicles.
Second, a broad regulatory framework driving efciencyas well as a framework to establish carbon cap
and trade schemes will be needed that, in essence, place
the onus for action on business. This is a case where
the market on its own will not deliver solutions, argues
Moody-Stuart, eschewing price-driven solutionssuch
as gasoline taxesfor their unintended side effects. The
framework he proposes would include building regulations, transport efciency standards, industry-sector efciency standards, and so on.
Almost as an afterthought, the author adds a third
condition: that the creativity of the market is necessary to nd solutions, to provide choice, and to guide
the allocation of resources. He does not elaborate on
this condition, but clearly he has faith that business can
deliver on it.
Theres an interesting footnote in this chapter:
Moody-Stuart says that he often discussed environmental issues with John Browne, then CEO of BPin the

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Bryant is condentperhaps overly condentin


his solution to poverty: People seem genuinely confused about how the poor get out of this mess. I am
not. But his argument is compelling: If poor people are
provided with the right tools, policies, and inspiration,
they will lift themselves upbecoming tomorrows
middle class and a new generation of customers and
entrepreneurs who will boost the entire economy.

United States, issues of money and good decision making are often wrapped up and mixed up with issues of
individual self-esteem and condence, community culture and belief systems, values, and, quite frankly, emotional and psychological depression.
Bryant stresses that he is building on the work of
C.K. Prahalad and Muhammad Yunus, and that even
though his focus is on U.S. poverty, his approach is applicable in other nations. Indeed, Operation HOPE already has begun to expand
its purview internationallyin Morocco, Saudi Arabia, South Africa, and the
United Arab Emirates.
How the Poor Can Save
Capitalism is not the kind
of deep inquiry into the dynamics of capitalism that Thomas Piketty gave us this
year (see Economics: All Things Being Unequal, by
Daniel Gross, page 91), but it is an inspirational and
invigorating book about achieving paradigm change
by reimagining the poor, understanding the critical
difference between good and bad selshness, and embracing the power of bottom-up solutions. The key to
driving change, says Bryant, is to give people a more
tangible sense of opportunity.

Sustainability can no longer be


treated as a side department or
a niche conversation within a
business, writes Andrew Winston.

best books 2014 sustainability

Toward this end, Operation HOPE is undertaking


Project 5117, a program that underscores the importance of ambition and of stretch goals when leaders decide to play into the new paradigm. The projects goals
are fourfold.
First, by 2020, it aims to raise the nancial literacy
of 5 million young people across the U.S. using nancial dignity education programs that have already been
taught successfully in 3,500 schools across the country.
These are classes that teach basic consumer nancial
literacysuch as whats an interest rate?content
that Bryant notes is woefully lacking in schools in poor
communities.
Second, it intends to help 1 million of these students become future entrepreneurs and local job creators through HOPE Business in a Box Academies
a program sponsored by Gallup that rst challenges
students to plan a business startup costing under $500
and then nances the best plans.
Third, it aims to provide nancially underserved
families with access to banking: HOPE Inside will establish 1,000 bottom-up branch banks across the
country and certify 5,000 additional banking locations.
Fourth, it intends to increase the credit scores
of people in communities with average scores between 500 and 550 to a bankable level of 700, largely
through credit counseling.
Although Bryants focus is change through nancial bootstrapping of the poor, the working class, and
the teetering middle class, he insists that this is not
just about money and not having enough of it. In the

A Seismic Shift in Mind-Set

Opportunity is also the driving force in the years best


business book in this category, The Big Pivot: Radically Practical Strategies for a Hotter, Scarcer, and More
Open World, another title for which I provided an endorsement. In it, Andrew S. Winston, a consultant and
sustainability advisor to corporations, including PwC,
describes the opportunities inherent in the three mega
challenges that we now must face: (1) climate change,
(2) resource constraints and rising commodity prices,
and (3) technology-driven demands for more transparency. (This magazine, strategy+business, is published
by PwC Strategy& Inc., a member of the PwC network
of rms.)
To capture these opportunities, Winston says, leaders rst must elevate sustainability as a strategic priority.
It can no longer be treated as a side department or a
niche conversation within a business, he writes. We
must pivotsometimes painfully, always purposefullyso that solving the worlds biggest challenges protably becomes the core pursuit of business. This pivot

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tainable goals, collaborate with all stakeholders, and


enlist customers in the cause. Coca-Cola has partnered
with Pepsi and other competitors to invest in and speed
the switchover from compressors that use hydrouorocarbon refrigerants to ones that use carbon dioxide refrigerants, which are much more climate friendly in this
application.
Finally, to create resilient companies, Winston follows in the footsteps of Nassim Nicholas Taleb and recommends diversication, built-in redundancy and buffers, fast feedback, and rebalancing of risk. For example,
oil rener Valero installed energy meters and real-time
monitoring devices to ensure optimal tank temperatures and pressures. Energy cost savings: $120 million
in the rst year.
Winston concludes with a
question that he was asked by a
client: So, should we make the
Big Pivot because its protable,
or because well sleep better, or
because well ensure a better future for all? His answer is, of
course, yes. But the challenge of
aligning environmental, social,
and nancial responsibility is not
so glibly met. In fact, its the sort
of challenge that separates great
entrepreneurs and business leadersthe Edisons and Fords and
Jobsesfrom the rest of the herd.
This is the sort of challenge that
can open up immense new panoramas of opportunity
for those with the eyes to see, the nerve to dive in, and
the stamina to persevere. When the prots, the sleep,
and a better future are slow to come, these books show
how perseverance leads to a paradigm shift. +
Reprint No. 00292

John Elkington
john@volans.com
is founding partner and executive chairman of Volans, a
corporate responsibility and sustainability consultancy.
He is the author or coauthor of 19 books, including The
Breakthrough Challenge: 10 Ways to Connect Todays Prots with
Tomorrows Bottom Line (with Jochen Zeitz, Jossey-Bass,
2014). In 2013, Elkington was inducted into the Sustainability Hall of Fame by the International Society of Sustainability
Professionals.

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will require a transformation in perspective from the


traditional view of business, which a solid majority of
Western executives still likely hold, to a more evolved
clean and green view, and then to what Winston
calls Big Pivot principles with which we canand
mustsustain the success of our businesses, economy,
and species.
To illustrate the distance between the conventional
strategic mind-set and the Big Pivot mind-set, Winston
runs through a laundry list of corporate views. For instance, the operational view of a company will have to
evolve from an internal four walls focus to a focus on
the entire value chain and then a systemic focus. The
corporate view of the sustainability function will need
to evolve from siloed to matrixed
to integrated. And when it comes
to reshaping the regulatory rules
of the game, the corporate view
will have to evolve from hostile
to defensive and nally to guiding and leveraging. Shades of
Moody-Stuart.
Of course, knowing is only
the rst step in doing. To help
leaders put the Big Pivot mindset into action, Winston devotes
the bulk of the book to describingand offering examples and
implementation advice on10
strategies aimed at creating and
executing the vision, valuation,
partnerships, and resiliency needed by a sustainable
company.
To rebuild the corporate vision, Winston says,
leaders must ght short-termism; set big, science-based
goals; and pursue heretical innovationthat is, ideas
that are disruptive enough to seem impossible. For instance, after realizing that the global apparel industry
uses an amount of water equivalent to the Mediterranean Sea every two years to dye clothing, Adidas sought
a waterless dyeing process, which it is now piloting.
To redene valuation, leaders must change incentives and build engagement; reinvent ROI; and fully
account for natural resources. Consider Pumas environmental prot and loss statement, which put a monetary cost on the natural resources used in its extended
value chainand revealed that the total cost was equal
to about half of the companys annual prot.
To reframe partnership, leaders must lobby for sus-

B E S T B U S I N E S S B O O K S 2 0 14 / E C O N O M I C S

Economics
Thomas Piketty, translated by Arthur
Goldhammer, Capital in the 21st Century
(Belknap Press, 2014)

Evan Osnos, Age of Ambition: Chasing


Fortune, Truth, and Faith in the New
China (Farrar, Straus and Giroux, 2014)

CLICK HERE
for a slideshow of our picks for
the Best Business Books of 2014
in seven categories.

Timothy F. Geithner, Stress Test:


Reflections on Financial Crises (Crown,
2014)

best books 2014 economics

with Dickensian poverty, income inequality is a prominent and often divisive debate.
Among the dozens of books on economics that
have crossed my desk in recent months, three in particular have helped illuminate the nature and impact
and resilienceof inequality in our world. One, far and
away the best and most important book on economics
of the year, is an academic tome on the progression, regression, and rebirth of inequality in Western Europe
and the United States. One is a journalistic narrative
that takes us deep into modern China, where rampant
growth is simultaneously lifting millions from poverty
and spawning unprecedented inequality. And one is a
memoir of the feverish crisis years in the United States
financial system, which inadvertently explains how the
financial industry was able to reconstitute its fortunes so
rapidly after the epic debacle of 2008.
Rentiers Redux

All Things
Being
Unequal
by Daniel Gross

rhetoric of inequality
have been inescapable over the past year. Not since the
Gilded Age have we had such vigorous debates over the
concentration of wealth and the gap between the rich
and the poor. And not just in the United States. In
China, where new fortunes are minted daily; in Europe,
where social nets are fraying amid economic crises; and
in India, where a gleaming technology industry coexists

THE POLITICS, ECONOMICS, AND

Thomas Pikettys Capital in the 21st Century, the best


business book on economics of the year, is also perhaps
the most discussed and least read book of 2014. Data
collected by Amazon via its Kindle suggested that most
readers who bought the bestseller didnt get much past
page 26 of the 577-page (before notes) volume.
On a nine-hour flight, during which I had little
else to occupy me than this 42-ounce brick of a book,
I managed to get through the whole thing. And it turns
out the book everybody was blogging and tweeting
about was quite different from the one I read. Capital in
the 21st Century is not about the 21st-century U.S. or the
hoodie-wearing boy titans of Silicon Valley. It is, in large
measure, a book about the vast, powerful forces that
have made and broken fortunes in Europeand then
made them again. Because of its focus, which is at once
sweeping and limited, I found it to be more interesting
and useful as an introductory textbook on the basics
of macroeconomics, a primer on 20th-century European

91

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92

and U.S. history, and a brief diversion into the literature


of giants like Jane Austen (from which Piketty draws descriptions of how people lived and thought about wages,
capital, and investments) than as a prophecy.
Piketty, a French economics professor, illustrates
the dynamics of wealth, capital, and growth with a simple equation: R > G. When the rate of return of capital
[R] exceeds the rate of growth of output and income
[G], as it did in the nineteenth century and seems quite
likely to do again in the twenty-rst, capitalism automatically generates arbitrary and unsustainable inequalities that radically undermine the meritocratic values on
which democratic societies are based, he declares.
For much of human history, the global economy
barely grew. Between the year 0
and 1700, world output rose at
a triing 0.1 percent compound
annual rate. The Industrial Revolution kicked up the growth rate
to 1.6 percent, which, says Piketty, is more rapid than many
people realize. This growth rate,
combined with low ination and
stable prices, was very good news
for people who already had money. Inherited wealth snowballed.
It was this dynamic that helped
construct the grand boulevards
and opulent mansions in European cities that we now regard as
paragons of equality. Sweden in
the 19th century, writes Piketty, was not the structurally egalitarian country that we sometimes imagine. In
France in 1910, the top 1 percent had 60 percent of the
nations wealth, and the top 10 percent had 90 percent.
Fraternit et libert, oui. Egalit, non.
Everything changed in the 20th century. As labor
organized, wages began to rise. The disintegration of
the colonial empires sapped the wealth of Britain and
France. World War I, the Bolshevik Revolution, the
Great Depression and the accompanying hyperination, the rise of Nazism, and the unfathomable destruction of World War II literally destroyed much of the
worlds capital. And taxes went up.
All rich countries, without exception, went into
the twentieth century from an equilibrium in which less
than a tenth of their national income was consumed by
taxes to a new equilibrium in which the gure rose to
between a third and a half, Piketty writes. Although

the U.S. suffered less from the destruction of capital, he


notes, its progressive taxes were most aggressive. Conscatory taxation of excessive incomes was a domestic
invention: The U.S. was the rst country to try tax rates
above 70 percent on incomefrom 1919 to 1922and
various surcharges brought the top rate to as high as 94
percent in 1944.
The biggest force for equality, however, turned out
to be ination. In a series of very sharp insights, Piketty
describes how public debt (government decits) builds
private wealth. Government bonds, paid for by the taxes
of the broad public, tend to become assets for the rich
people who own most of them. The ip side, of course,
is that rentiers can be utterly wiped out when ination
rises sharply, which is what happened in Europe in the period from
the 1930s to the 1950s. In France,
says Piketty, the enormous decits of the Liberation were almost
immediately canceled out by ination above 50 percent per year in
the four years 19451948. (Germany, where prices rose 300-fold
between 1930 and 1950, was the
country that, more than any other,
drowned its public debt in ination
in the twentieth century.) Thanks
in part to ination, between 1914
and 1945, capital in Europe fell
from six or seven times national income to a mere two or three times.
The high growth of the period between the 1950s and
1980s further helped labor attract a decent and growing
share of income in developed countries.
But Piketty nds that those were mere interludes
before the inevitable regression to the mean. After
1980, the reconstruction of Europe having been completed, the high-growth era subsided, the worlds central banks killed off ination, taxes on the rich were
cut, and markets soared. Fortunes reconstituted themselves. In France, for example, inheritance ows had
dropped from 24 percent of the economy in 1900 to a
low of 4 percent in 1950. But by 2000, they stood at 12
percent of the total economy. Rather than dissipating
over timeshirtsleeves to shirtsleeves in three generations, as the saying goesinherited fortunes grew rapidly in the late 20th century. Piketty writes with disdain of Liliane Bettencourt, the heiress to the LOral
fortune, who never worked a day in her life, [but] saw

strategy+business
strategy+business issue
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B E S T B U S I N E S S B O O K S 2 0 14 / E C O N O M I C S

B E S T B U S I N E S S B O O K S 2 0 14 / E C O N O M I C S

growth in per capita output exceeded 1.5 percent over a


lengthy period of time, he writes.
Its difcult to argue with Pikettys long-run trends.
But I nd his reading of history to be too fatalistic, especially as it relates to the short term. If the last 200 years
have taught us anything, it is that we should never discount the ability of discontinuities to pop up. Shocks,
disruptions, wars, and new technologies have made
those who draw straight lines innitely into the future
look like fools with great frequency. For example, there
has been no larger economic discontinuity in the past
30 years than Chinas emergence as an economic power.
Another quibble with the years best business book
in this category is that Piketty generally underplays the
role of globalization in the rise of capital. Simply put,
rich people and the companies they own now have a
much broader world to work in. When domestic markets are growing slowlyat 2 or 3 percentwealthy
rentiers have a far greater ability than, say, a small businessperson or a clerk to invest in, participate in, and
benet from the rapid growth in places such as India,
Brazil, or, above all, China.
Some Get Rich

The greatest story of our era is Chinas so-far successful


effort to become less unequal in comparison with other
economies in the world. In 1978, the average Chinese
income was $200, about one-tenth the world median
income. By 2014, it was $6,000, about half the worlds
median income. By bringing hundreds of millions
of its citizens up from subsistence poverty to a higher
standard of living, China is acting as a powerful force
against inequality between nations. But the countrys
soaring goals, captured lyrically in Evan Osnoss Age
of Ambition: Chasing Fortune, Truth, and Faith in the
New China, are also spurring inequality within China.
Whereas Piketty relies on a combination of large
data sets and ctional characters to offer an overview of
global developments, Osnos, a New Yorker staff writer,
takes us inside the lives of ordinaryand extraordinaryChinese people. Much of the media coverage of
China leads casual readers to see the countrys 1.3 billion inhabitants as an undifferentiated mass of commercially minded automatons: pragmatic and disciplined,
forgoing leisure for the sake of national development.
But Osnos introduces us to idealistic, stubborn individuals who are intent on making their mark in modern China. When Hu Shuli, the tiny, fearless founding
editor of muckraking business magazine Caijing, is

best books 2014 economics

her fortune grow exactly as fast as that of Bill Gates.


A new wrinkle emerged that helped further tilt
the scales toward those at the top. In the 19th century,
Piketty explains, people who tried to work their way to
riches were chumps. They could never match the gains
of capital that already existed. But toward the end of the
20th century, a stunning new phenomenon emerged
the very top salaries, and especially the pay packages
awarded to the top executives of the largest companies
and nancial rms, reached astonishing heights. That
was in France.
The dynamic of what Piketty calls the hypermeritocratic societya few people getting extremely
high salarieswas most pronounced in the United
States. Between 1977 and 2007, the richest 1 percent
alone vacuumed up 60 percent of the total increase of
the countrys national income, pushing inequality levels back to the pre-trust-busting days of 1910. In the
U.S., the 1 percent have been running away from the
10 percent, primarily because all-starstop corporate
executives, hedge fund managers, athletes, and top performers in a range of other eldsare raking it in like
nobodys business, in part because they determine their
own compensation. Some of those receiving outsized
salaries, Piketty notes with irony, are academic economists, who now think the system of the United States
is working fairly well, and, in particular, that it rewards
talent and merit accurately and precisely.
Happiest are those who get paid vast sums from
their labor each year, then convert it into capital by investing it. Think of a private equity partner who takes
his US$30 million annual payday and plows it into
seeding other hedge funds, buying art, and purchasing
real estate. Piketty notes, for example, that Bill Gatess
wealth, which is managed by sharp professional investors, has grown just as fast since he stopped working
as it did before. Entrepreneurs thus tend to turn into
rentiers, not only with the passing of generations, but
even within a single lifetime, he says.
What can stop these forces from corroding social
and political relations? Piketty concludes that a very
modest form of conscationa global, progressive tax
on all forms of wealthis the only way to rein in inequality while preserving entrepreneurial efforts. But
he concedes that a global tax on capital is a utopian
idea. And so he ends with a certain fatalism about the
ever-encroaching power of capital in what is sure to be
an age of slow growth. There is no historical example
of a country at the world technological frontier whose

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B E S T B U S I N E S S B O O K S 2 0 14 / E C O N O M I C S

Concentrated at the Top.


Indeed, Age of Ambition seems to offer a testament to the universality of Pikettys thesis. Growth in
China has been remarkably rapid. But the returns on
capital invested in China have risen even faster, creating the same sorts of gaping differentials in economic
circumstances that are evident in Europe and the United States. And to a degree, this is by design. Let some
people get rich rst, Deng Xiaoping, the architect of
modern China, said.
New Testament Justice

Not even the nancial crisis of 2008, which took a


healthy bite out of global capital, seemed to affect China
signicantly. In fact, it didnt even
put much of a crimp in the fortunes of the wealthy in the United
States.
Historically, Piketty tells us,
nancial crises have been great
levelers. Certainly, the 2008 crisis should have laid U.S. capital
low for a generation, much as the
Wall Street crash of 1929 and the
ensuing Great Depression did. But
thanks in part to a more robust
set of institutions (the FDIC, the
Federal Reserve) and the aggressive
solicitude of politicians of both
parties, the system swung into action to save capital from its selfinicted woundsa process that is on full display in
Stress Test: Reections on Financial Crises, an engaging,
breezy, and perversely fun memoir from former Treasury secretary Tim Geithner.
Geithner is a creature of capital, even though he
never actually worked in nance. Well-meaning, personable, profane, and highly competent, he cut his teeth
at the Treasury Department during the global nancial
scandals of the 1990s. As president of the Federal Reserve Bank of New York, he had both a responsibility to
ward off trouble and a front-row seat. Throughout, he
paints himself as a constant worrier about stability and
out-of-control capital.
As the Great Recession started, Geithner was reading Liaquat Ahameds Lords of Finance: The Bankers
Who Broke the World (Penguin Press, 2009), the magisterial history of the European and U.S. central bankers
who botched things horrically in the 1920s and 30s.

strategy+business issue 77

best books 2014 economics


94

pushed out of the magazine by the owner, who has tired


of her confrontational approach, she starts a new one.
Lin Zhengyi defected from Taiwan in 1979, eager to
participate in the rebirth of China, and became a wellknown economist. In 2008, he was named chief economist of the World Bankthe rst professional from any
non-developed market to hold that high post. And then
theres Tang Jie, a graduate student in Western philosophy, who made the highly nationalistic viral Internet
movie 2008 China Stand Up!
China reminds me most of America at its own moment of transformationthe period that Mark Twain
and Charles Warner named the Gilded Age, when every man has his dream, his pet scheme, Osnos writes.
And he vividly conveys Chinas
shady hustling, earnest bustling,
and poignant efforts to make up
for its lost centuryall being led
by an authoritarian regime whose
mixture of aggression, fear, selfcondence, and inferiority led it to
tamp down all types of aspiration
not related to making money.
In todays China, being on the
ground oor of any enterprise that
gains scale can make you very rich
indeed. Jack Ma, a former English
teacher who founded e-commerce
giant Alibaba, is now one of the
wealthiest people in the world, after his rm recently went public.
And yet, despite the rampant growth, Osnos nds that
opportunity in China is somehow constrainedby corruption, by a shortage of resources, by an overweening
state, and by a new Western import: inequality.
The longer I lived in China, the more it seemed
that people had come to see the economic boom as a
train with a limited number of seats, Osnos writes. By
2007, the top 10 percent of urban Chinese were earning 9.2 times as much as the bottom 10 percent. And
in 2010, a post charting out how many years it would
take a blue-collar worker to earn income sufcient to
buy a small apartment in Beijing (about 150) went viral. But public discussion of income inequality is verboten. Among the unintentionally hilarious text messages
Osnos receives from the Department of State Council
Information Ofce is this gem: All websites are requested to remove immediately the article entitled, In
China, 94% Unhappy with Wealth Disproportionately

B E S T B U S I N E S S B O O K S 2 0 14 / E C O N O M I C S

protability, and the S&P 500 more than doubled, as


interest rates and ination remained low. So the wealthy
recovered everything they had lost in the crisis and then
some. Meanwhile, median wages and housing prices remain far below their pre-crisis peaks.
According to Geithner, he and his colleagues did
their part to reform capital. When lobbyists for nancial trade groups came to his ofce to complain about
the DoddFrank legislation, he resisted them. My
team is beating back your proposals because theyre bad
for the country, I told them. And were going to keep
doing it.
Geithner also reluctantly supported the Volcker
Rule, and small tax increases on higher incomes, which
took a bit of wind out of the nance industrys sails.
But only a bit. In our world, the very rich get richer,
and they get richer faster than the merely rich. And
its not just because of the simple equation of R > G. As
Piketty notes, Wealthy people are constantly coming
up with new and ever more sophisticated legal structures to house their fortunes. Whats more, theyre
coming up with new and ever more sophisticated political structures to protect themfriendly government
ofcials of both parties, low tax regimes, and bailouts.
Geithners memoir proves instructive here as well.
Obama never had the re in his belly to go after the
rich the way that Franklin Delano Roosevelt did. As
Geithner describes it, the administration only halfheartedly pursued the so-called Buffett Rule, which would
ensure that the very wealthy would pay an effective tax
rate of at least 30 percent. At several different points,
Obama had opportunities to undo the Bush-era tax
cuts, which favored the wealthy. But he never pressed
too hard. After eight years of the Obama administration, tax rates on carried interest, estates, high incomes,
and capital gains and dividends will all be lower than
they were during the Clinton administration.
Capital is doing quite well indeed in the 21st centurythanks to the natural advantages it enjoys, to be
sure. But its also doing well in part because of the substantial lift it has received from Communists in China
and from the United States most progressive president
in a half century. Trs ironique. +
Reprint No. 00293

Daniel Gross
grossdaniel11@yahoo.com
is a columnist for Slate and the Daily Beast. His most recent
book is Better, Stronger, Faster: The Myth of American Decline
and the Rise of a New Economy (Free Press, 2012).

best books 2014 economics

But I had put it down after a few chapters. It was too


scary. Ever the pragmatist, he rejected the moral argument about justice, what I called the Old Testament
view. The venal should be punished. The irresponsible shouldnt be bailed out. With regard to capital,
Geithner proved to be a distinctly New Testament kind
of guy. When a crisis is raging, he says, the goal should
be to protect the innocent, even if some of the arsonists
escape their full measure of justice. This trope appears
time and again in Stress Test, as if the twojustice and
a functioning systemare mutually exclusive.
In this insider account, full of showdowns with fellow administration members such as Rahm Emanuel
and Elizabeth Warren, Geithner argues, correctly, that
the bailouts and guarantees largely worked as intended.
The TARP money was returned, and a depression was
averted. But the innocent werent really protected, and
the arsonists were rewarded richly. Geithner never adequately explains the dichotomy. The Fed easily invented
new powers and instrumentalities to shore up the stock
market and nancial system, where the rich have their
assets. But when it came to bailing out the housing market, which, um, houses the bulk of total wealth for most
middle-class people, there was a distinct lack of urgency
and effort. Old Testament justice for the homeowners;
New Testament justice for their bankers.
Among the dozens of crisis books, Geithners stands
out partly because it is well written (he was assisted by
Time veteran Michael Grunwald). But compared with
many of the other protagonists weve heard fromespecially former Fed chairman Alan Greenspanhe
also proves himself to be more pragmatic, self-aware,
and self-deprecating. Far from projecting the Olympian calm of Greenspan or former Treasury secretary
Hank Paulson, Geithner is forever worrying, nervous,
and full of self-doubt. When he was about to assume his
role as president of the New York Fed in 2004, he tells
us, he got carded at a Manhattan convenience store. Of
his rst speech as Treasury secretary, he writes, It was
a bad speech, badly delivered, rattling condence at a
bad time. He provides equally frank descriptions of the
bunker behavior of his boss, President Barack Obama,
colleagues such as Emanuel and Larry Summers, and
frenemies such as former FDIC chair Sheila Bair.
Geithner also tells us that the bailouts succeeded in
part because they temporarily transformed huge private
obligations into public ones. This nancial prestidigitation not only stopped the panic, but paved the way
for a recovery favorable to capital. Banks returned to

95

THOUGHT LEADER

The Thought Leader Interview:


Zhang Ruimin
Haiers chief executive built a winning global company by continually
reframing his management philosophy.

thought leader
96

ach year, the Academy of


Management recognizes one
of the worlds most inuential chief executives by inviting that
person to keynote its annual meeting. When Zhang Ruimin gave the
address in 2013, it was a signal that
China had produced its rst philosopherCEO. Like Jack Welch and
A.G. Laey, Zhang is recognized
not just for leading a high-performing and truly entrepreneurial global
business, but also for organizing
that company around a conceptual
framework that has guided its de-

velopment for yearsin Haiers


case, practically since its founding.
The Haier Group is the worlds fastest-growing appliance maker, and
the company with the largest market share in white goods worldwideabout 14 percent of a market
with at least seven other major competitors. It is also a world leader in
business innovation and one of the
largest non-state-owned enterprises
in China. Thats not bad for a company that was once in such desperate straits that the CEO had to borrow money to pay workers salaries,

and many of the products it was


selling needed to be repaired before
they could be used for the rst time.
But Zhang has never accepted
limitationsincluding the denition of Haier as just a manufacturing rmas permanent. Today, the
company is repositioning itself as a
provider of solutions to consumers
problems, selling not just home
appliances (refrigerators, washers
and dryers, entertainment electronics, and air and water conditioners
are among its major lines) but also
services including water safety information and other guidance designed to improve the quality of life
for consumers in China and other
emerging economies. To maintain
that identity, Zhang has steadily initiated shifts in the companys structure, moving consistently toward
participative management, decentralized decision making, and autonomous but accountable work
teams and platforms.
Haiers prowess in business innovation has yielded a continuous
stream of products and services that
serve distinctive consumer needs.
For example, it makes large washing
machines for Pakistani robes, small
ones for Chinese delicates, and
durable ones with large hoses for

Photograph by Wang Zhao

BY ART KLEINER

this type of management to fruition,


even if people inside the company
(and, for that matter, everywhere
else) still feel uncertain about how to
implement it day-to-day.
Zhang Ruimin sat down with
strategy+business at Haiers headquarters in Qingdao as part of a broader
inquiry into how companies compete with their distinctive capabilities (see Haiers Capabilities System, page 101). The conversation,
which was conducted in Mandarin
and English through interpreters,
shows how the thinking of a gifted
CEO can lead a company to greater
innovation and global inuence.
S+B: When we ask people to name
companies that consistently
succeed, year after year, through
their distinctive capabilities, Haier is
often mentioned. How have you
been able to do this?
ZHANG: Over time, some compa-

nies perform relatively better than


others. You could say these are outstanding enterprises, highly capable

and its extremely difcult to stay


abreast of them. Second, from an internal perspective, companies lose
their entrepreneurial spirit. As soon
as a company grows large, its employees learn to work in accordance
with the companys rules. As regulations multiply and companies control their employees more tightly,
everyone becomes really good at following orders. Their sensitivity to
the market decreases accordingly.
The top leaders of any major
company are also susceptible to this
loss of entrepreneurial spirit. Jim
Collins and Jerry Porras wrote in
Built to Last: Successful Habits of
Visionary Companies [HarperCollins, 1994] that many great chief executives are time tellers. They create great products and services, but
their value lasts only as long as they
are personally present. Senior executives should be more like clock
builders: focused on making a great
companya company where people
think as entrepreneurially as the
leaders do, even after those leaders

An enterprise must evolve into a


system that stands on its own, and
does not depend on the whim and
fancy of its current leader.
companies. But most of these companies todayand this includes
many big international rmswill
have an extremely hard time maintaining their outstanding position
indenitely.
At Haier, we have a saying:
Successful companies move with
the times. There are two reasons we
believe this. First, from an external
perspective, times change quickly

are gone. An enterprise must evolve


into a system that stands on its own,
and does not depend on the whim
and fancy of its current leader.
Lack of entrepreneurial spirit is
a major reason for the decreasing
competitivenessand even the
eventual collapseof big enterprises. It is an extremely difcult problem for Chinese companies in particular. In the past, business leaders

thought leader

washing vegetables on Chinese


farms. Its product line is also increasingly tailored to customer specications, and its water puriers
are designed to remove the specic
pollutants in each of 220,000 communities across China. (Haier jointly holds more than 20 water purication patents with Dow Chemical.)
Every appliance that Haier sells today is custom-crafted; each individual purchaser species colors and
features that are sent directly from
the Internet to the factory oor.
Zhang took the helm of Haier
in 1984, when he was 25. At that
time, it was a troubled company
partly owned by the city of Qingdao, one of Chinas rst enterprise
zones. Zhang was an assistant city
manager, instructed to nd a managing director who could turn the
company around; he found no one
willing to tackle the job, so he took
it himself. He quickly educated
himself in business management,
and used his new insights to establish Haier as one of Chinas preeminent producers of quality goods
rst for that countrys burgeoning
consumer population, and then for
the rest of the world.
As Haier becomes a platformbased business, every part of the organization has its own P&L, makes
autonomous decisions (including
which other parts of Haier to work
with), and can reach out independently to customers, potential employees, and collaborators. R&D
projects now often reach beyond
Haiers walls to include academics,
independent designers, and even
competitors. Zhang sees this as a
natural evolution for all major
companies, particularly those focused on business innovation in the
Internet age. He is determined to
make Haier one of the rst to bring

97

Art Kleiner
kleiner_art@
strategy-business.com
is editor-in-chief of
strategy+business.

An Entrepreneurial Spirit
S+B: Havent you maintained an
entrepreneurial platform since the
company was founded?
ZHANG: Not to the extent we do to-

thought leader
98

day. To be sure, we have felt a sense


of urgency at Haier ever since we began to rebuild the company in 1984.
Haiers previous incarnation
was an enterprise on the brink of
collapse. At that time, the overall
quality of the staff was extremely
lowthe entire factory had only
about two college graduates. From
the start, weve felt like there was an
extremely large gap between us and
more established international companies, a gap we would have to overcome. The only way to survive was
to pursue a path of constant selfimprovement.

After we got on our feet and


started making money, we looked
up and noticed that many companies around ussome that performed even better than we did
were shutting down. That just
reinforced our sense of urgency. We
saw that we werent facing just a
one- or two-day challenge. To survive and be competitive would always be a company-wide, long-term
challenge for us. Thats why we
have a culture of self-questioning.
Everyone is always challenging their
own ideas and continuously surpassing themselves.
In 1999, we ventured overseas,
opening factories in places like the

we have another saying: When


looking for a chess partner, nd a
grandmaster.
S+B: What have you specically
done to foster an entrepreneurial
spirit at Haier?
ZHANG: Most recently, we reorga-

nized. We used to have a pyramidstyle structure for our sales in China.


The people in charge of sales had to
manage business at the national,
provincial, and city level.
After the arrival of the Internet
age, we realized that under this triangular hierarchical structure, people had a difcult time adapting to
the requirements of the times. So we

If a home appliance cant


communicate with the Internet,
it shouldnt exist.
United States. At that time, we used
GE as our yardstick. Its as if the industry were a boxing ring, and we
were some barely known upstart
taking on Mike Tyson. Of course,
by conventional standards, we didnt
stand a chance. But in the company

reorganized ourselves as an entrepreneurial platform. We attened everything out, taking out all the middle management. We decentralized
the structure to one with more than
2,800 counties. Each county organization has seven people or fewer.

strategy+business issue 77

in China would tell workers that


they should love the factory and treat
the company as they would their
home. Thats how the relationship
was framed. Today, a successful enterprise must be less of a home and
more of an entrepreneurial platform:
a base for pioneering work where
employees can realize their personal
value. This shift is difcult for many
workers to accept.

This transition has been extremely challenging. As part of this


change, in an instant, more than
4,000 employees who worked for
the company were unemployed.
[Many of them were quickly invited
to reapply, but this time for entrepreneurial positions where they
could build businesses under the
Haier brand.] We know of no other
Chinese company of our size that
has done this.
Cultivating Consumer Insight
S+B: How has Haiers attened
structure affected the people inside
the company?
ZHANG: Whenever you pursue re-

We involve customers in a similar way. In the past, users would hear


through advertising which Haier
products were good, then theyd go
buy those products. Now we bring
in users to participate in the whole
process of product development. Its
not like in the past where we designed things behind closed doors.
For example, the Air Box [a smartphone-controlled intelligent device
introduced by Haier in 2014 for
monitoring and managing the climate inside a building by connecting to other heating, ltering, and
air conditioning devices] is the result
of a signicant amount of user input. This guided us on issues like
whether the AC unit should be able
to test the cleanliness of the air and
be controlled intelligently. We then
brought in Samsung and Apple to
help us meet users requirements.
The resulting product is different
from those of the past. The Air Box
can control any companys AC unit,
not just Haier products. This is
completely a result of interaction
and cooperation.
All of our products are integrated with the Internet. If a home appliance cant communicate with the
Internet, it shouldnt exist. And to
make that happen, we need to facili-

thought leader

form, there are always a signicant


number of employees who are unhappy because youve begun messing with their interests. Some may
not be able to adapt, but if they leave
and go somewhere else, they may
not be able to nd a decent job, so of
course they complain. This is a really difcult nut to crack. The only
thing we can do is provide employees with a level playing eld, where
they can compete on an equal footing for opportunities within the
company. In reality, however, even
this isnt good enough; many em-

ployees just dont have the necessary


skills. So what do we do? This is an
issue we have yet to fully resolve.
Another major challenge has to
do with making the enterprise truly
borderless. We are using digital technology to connect everyone. In your
question, you said inside the company, but in fact, we believe that
there is no inside the company
versus outside anymore. As a Haier
executive, my goal is no longer to be
a maker of home appliances, but to
be an agent of interaction and networking among people who might
be anywhere. I want to turn the
company into an Internet-based
company, a company unrestricted
by borders. Whoever is capable,
come and work with us.
We now have a lot of entrepreneurs at Haier who dont work inside the company. Some arent interested in joining, preferring to stay
outside in society, partner with the
company, and use our platform for
pioneering work. Those inside the
company are also free to leave at any
time, and still use the Haier platform for their work, though they
would no longer actually work for
the company. In the long run, there
wont be any company employees to
speak ofonly the Haier platform.

99

S+B: Why does building the company around platforms give Haier
an advantage?
ZHANG: The idea of the platform

thought leader
100

represents a stark contrast from how


we used to manage the enterprise in
the past. First, it should allow us to
bring in and integrate greater quantities of resourcesall contributors
will be able to enter unhindered. Before, there were always borders and
barriers. Second, all who join the platform as a resource should see their
returns maximized. Before, maximizing the benets for the company
took precedence. This limited us in
what we were able to accomplish.
Now that we operate in this
fashion, we at Haier are no longer
the ones directing things. We are the
glue binding everything together.
Being the glue is a difcult task; we
have to come up with myriad ways
of managing resources.
For example, we have an interactive platform devoted to solutions
for water quality and treatment. Instead of inventing everything we sell
in this domain ourselves, we are now
like a binding agent, incorporating
insights and efforts from water treatment companies around the globe, if
possible, into this one platform. We
also want to learn about and resolve
users needs through direct interaction with them. Our team tasked

with the water solution interactive


platform now has to do all of this.
S+B: How did you develop your high
level of customer insight?
ZHANG: Around 2010, we realized

that we had a lot of products for


which we had put forth great effort
in order to understand and meet the
demands of usersbut which
seemed to be giving only half the returns for double the work. In the
Internet age, when people continually identify new needs and demands, the rapid evolution of user
preferences represents a huge source
of pressure. We had products we
thought were ready to go, awlessly
researched and developed. When
they hit the market, however, results
were lackluster.
That got us thinking: How can
we make the transition from the past,
when we learned about users needs
via questionnaires and telephone
calls, to the present age, when we can
interact with users more directly?
So we put forward some new
concepts. For some appliances, we
designed a group of various modules
and invited users to select, for example, the colors and designs they
wanted. In one day, we sold more
than 10,000 television sets online.
This made us realize that our old
ways of thinking and conducting
business needed an overhaul.
Many employees, especially
those in management, had a hard
time accepting this approach. When
we started requiring that products
be developed in cooperation with

users participating in the front-end


design, employees felt like they
didnt know how to go about it.
Some atly refused, whereas others
were [passively] unwilling. As an entry point, we started with the Dizun
and Tianzun air conditioner series.
[These products include temperature precision, smartphone-based
controls, and, in the case of Tianzun, lights that change color with
the air quality in the room.]
In the beginning, we told our
employees in these groups that it
wasnt a big deal if they failed, that
it was meant to be a process of trial
and error. The employees accomplished it successfully. As a result,
we now require that all products be
developed in this way, with users as
interactive partners. At that point,
we told all of our traditional advertising partners that we werent doing direct ads anymore. A lot of advertising rms were extremely
unhappy about this, complaining
that if we didnt do ads they
wouldnt be able to earn a living.
But it was far better to change, and
meet consumers directly online.
Differentiation through Ideas
S+B: How do you decide which
aspects of the company should be
open, with an entrepreneurial spirit,
and which elementscore elements
of the companys identityshould
remain unchanged?
ZHANG: Thats an extremely dif-

cult question, and we are still working out the answer. [We have decid-

strategy+business issue 77

tate a relationship of constant interaction with the appliance itself and


with our customers. [See A Strategists Guide to the Internet of
Things, by Frank Burkitt, page 50.]

ed] that many areas that were


previously closed off and untouchable now must be opened up. For
example, when dealing with patents
in the past, new technologies and
products were kept strictly condential until the day when the new
products were unveiled. Nowadays,
we make users part of the R&D process. Even after the product is suc-

cessful, we go back for constant revisions, in which we also invite users


to participate, and competitors as
well. For example, in the research
and development of the Haier cordless home appliance, we invited industry competitors from across the
globe to participate.
This was very hard to adapt to
at rst. It means we dont keep abso-

Haiers Capabilities System

aier is one of 12 companies that were studied closely in a Strategy&


research project on distinctive capabilities and coherence.

Value Proposition: Haiers way to play in the market (its value proposition)
has gradually broadened since Zhang Ruimin became CEO in the mid-1980s.
The company rst took the role of a category leader, maintaining top market
share because of its reputation for quality in China. Then it became a customizer (adapting its products to customer demands) and a solutions provider
(helping consumers manage issues like water quality and home design). Haier
now sells not just home appliances but related services, adapted to consumer
demand in China, and, increasingly, other markets. Haier delivers its way to
play by excelling at four differentiating capabilities.
Operational
excellence, geared
to produce
high-quality
products at very low
cost through the
companys
continuous
improvement,
zero-defect, and
internal
competition culture

Management of
local distribution
networks, a
capability honed in
Chinas highly
decentralized value
chain, applied to
emerging markets
and other locales

On-demand
production and
delivery,
incorporating a
pull-oriented
distribution system
and zero-inventory
logistics, allowing
immense variety at
minimal cost

Source: The Strategy& Capable Company research project; The Essential Advantage: How to Win with a CapabilitiesDriven Strategy, by Paul Leinwand and Cesare Mainardi, Harvard Business Review Press, 2011

S+B: What do you see as the


primary differences between Haier
and other companies?
ZHANG: One of the biggest differ-

ences is our ability to remake and


overhaul ourselves. Many companies ways of thinking and operating
have ossied and become hard to
change, especially their organizational structures. At Chinese companies, its exceptionally hard to remove an executive who is not
performing well, especially if theyre
in the mid to high levels of management. At Haier, however, we can
make fast changes. We have responded to the changing environment by eliminating or adjusting
more than half of the vice-presidentlevel executive positions.
The main factor enabling this
difference is our culture. Those inside Haier, especially managers, understand that its crucial that we
adapt to the evolving needs of users
and the changing market environment. A few people who have gone
from Haier to work for other companies have written to me telling me
that the biggest difference between
Haier and their new company is
Haiers transparent interpersonal relations. They say that this is unheard
of at other companies.

thought leader

Consumerresponsive
innovation (called
customer service
leadership within
the company),
rapidly tailoring
products and,
increasingly,
services for local
markets
and specic
customer needs
most recently,
the needs of
Chinas emerging
middle class

lute secrets like we did in the past.


One can only succeed, even temporarily, if all parties perceive they will
benet. That wasnt completely true
in the past; but this is how things
are today. [See The Sharing Company, by Robert Vaughan, page 8.]

101

thought leader
102

ternet age, the biggest difference between us and other companies was
our commitment to honesty. We
had an advertising slogan, Forever
honest. Users may have felt that
other companies werent paying
enough attention to some of their
needs, but that Haier was able to address those needs immediately. Especially in the area of after-sales services, there was a widespread feeling
among users that this was the biggest difference between Haier and
other companies. This has been an
important reason that Haier has
been able to grow so quickly and for
such an extended period of time.
Today, we hope that users enjoy
an outstanding experience from beginning to end. Were still working
on this concept. Customers still
dont feel that its anything extraordinarily special. We know they are
relatively happy with our distribution. We have a guarantee, for example, that if goods dont arrive
within 24 hours in China, they are
free. No other company has been
bold enough to make this kind of
promise. On the same note, Haier is
the only producer of large appliances
that has been able to synchronize
delivery and installation. This is one
of the reasons for our cooperation
with [the e-commerce site] Alibaba.
These examples are all possible because of our back-end platforms. In
the front-end area of information
exchange, we still need to pick up
the pace.
S+B: You are known for personally
paying close attention to trends in
management theory. What theories
or ideas have most inuenced the
direction youre taking the company?

ZHANG: For me personally, the most

inuential person in management


theory has been Peter Drucker. A lot
of what he said can be summarized
with two major focal points. First,
the only correct and effective way to
increase the value of a company is
the creation of customers. Second,
employees should not be implementers; they should be individuals able
to realize their value by making decisions. Throughout our companys
history, roles have been organized
according to Druckers theories.
With the advent of the Internet
age, the people with the most inuence on us have been American experts such as Chris Anderson with
his theories of the long tail and maker culture [related to digital fabrication], and Clay Shirky with his book
Here Comes Everybody: The Power of
Organizing without Organizations
[Penguin Press, 2008]. There have
been many ideas coming out of the
U.S. regarding the Internet that have
had a huge inuence on our reforms.
We try to implant these concepts into everyones thinking. For
example, every Saturday, when we
hold our weekly management meeting, we disseminate these ideas and
encourage people to change how
they think about things. We also try
to put these concepts into practice.
To avoid big mistakes, we always
implement a small pilot test at rst.
Only after the pilot has been shown
to be successful will we initiate
things on a larger scale.
S+B: In this context, how do you
think about the growth and development of your employees?
ZHANG: In the past, we had a large-

scale select-and-train approach to


recruiting employees, like many
Western companies. This cookiecutter method of training employees

led us to cultivate people who identied with the culture and whose
implementation abilities were incredibly strongbut who lacked
creativity. The recruits werent required to have any skill with innovation, which was a major problem.
Employees today should be encouraged to think for themselves.
They should be cultivated to have an
entrepreneurial, innovative spirit,
and not just to implement orders.
From now on, enterprises such as
Haier will be like ecosystems. You
might nd yourself working together with a group of people you didnt
know yesterday, and after tomorrow
youll all go your separate ways. People come together for specic projects, after which they disperse. Its
become a very uid, dynamic type
of arrangement.
S+B: Will this wave of innovation
take you as far as you need to go?
ZHANG: Thats the eternal question.

Ill say just one simple thing: Never


follow only a single road. [In his
1939 book Business Cycles: A Theoretical, Historical, and Statistical
Analysis of the Capitalist Process
(McGraw-Hill)] Joseph Schumpeter
dened innovation as the reorganization of the factors of production.
You and your rivals have access to
virtually all the same resources. Only
by constantly thinking of new ways
to reorganize these factors can you
differentiate yourself. Its like poker.
Everyone has the same number of
cards. Its how you play your hand
that matters. +
Reprint No. 00296
strategy+business issue 77

S+B: What differences do customers


and users perceive?
ZHANG: Before we embraced the In-

Best of Multimedia:
Whats Your
Leadership Style?
It may depend on where
you live. Heres how to
navigate different ways of
managing across cultures.
CHARITY
DELICH

Price Elasticity
Has Snapped
Contrary to Econ 101,
your optimal price should
be based on a variety
of factors.
JAMES
WALKER

PEER COACHING
AS A TOOL FOR
CULTURE CHANGE
Sometimes the best
approaches to
revamp an
organizations culture
come from the
employee level,
rather than edicts
issued by senior
executives.
SALLY
HELGESEN

New posts
every week
on s+b Blogs
Visit strategy-business.com/sb-blogs for
your index to the best thinking in business

HOW TO USE A
CELL PHONE
AT WORK
If you want to
keep your coworkers happy, you
should resist the
temptation to look
at your mobile
during meetings.
MATT
PALMQUIST

Where Are the


Sinkholes in
Your Strategy?
Answering two critical
questions will fortify
your companys
strategyand your
ability to implement it.
KEN
FAVARO

THE DIGITIZATION OF
FINANCIAL SERVICES
IF IT EXPECTS TO KEEP
GROWING, THE INDUSTRY
MUST ADOPT A DIGITAL
MIND-SET.
JOHN
PLANSKY

CAITLYN
TRUONG

REMEMBERING
WARREN BENNIS
A consummate humanist and
pioneer of management thought
leadership has passed away.
ART
KLEINER

The Security Risk in the


Cubicle Next Door
Your own employees may pose a bigger IT hazard than outside threats.
BY MATT PALMQUIST

end page
104

or worms as more dangerous. But in


reality, a companys own staff can be
even more vexing: Almost 60 percent
of security professionals pinpointed
employees as the most likely source
of accidental or intentional breaches.
The most essential bulwark
against cybercrime appears to be a
happy workforce, according to the
study. The interviews revealed two
factors that led employees to consciously betray their rms: the
knowledge that the proprietary information in a database could be
sold to competitors, or a desire to
exact revenge on the company for
some kind of perceived slight.
Draconian practices seeking to
limit employees Internet access can
often backre if they sow bitterness.
Instead, managers at all levels should
appeal to their employees sense of
obligation to protect their organizations resourcesemphasizing that
other people may be harmed by their
mistake. Accordingly, the authors
advise, IT professionals should focus
on the idea of protecting others
rather than the company.
And IT experts can dampen
some of their employees interest
in nancial gain by emphasizing
how coworkers, customers, and

employees own families could be


devastated by a security breach, with
consequences ranging from identity
theft to widespread job loss.
Whether employees stay on
their toes can also depend on their
leaders attitudes. When the managers responsible for security training
project an air that all is well, employees can be lulled into believing that
they no longer need to be vigilant.
Most important, the authors write,
IT professionals should communicate the clear message that security
is everybodys job. +
Source: Bridging the Divide: A

Qualitative Comparison of Information Security Thought Patterns between Information Security Professionals and Ordinary Organizational
Insiders, by Clay Posey (University
of Alabama), Tom L. Roberts (Louisiana Tech University), Paul Benjamin Lowry (City University of Hong
Kong), and Ross T. Hightower (University of WisconsinMilwaukee),
Information & Management, July
2014, vol. 51, no. 5
s+b Recent Research Online
See more coverage of research papers at:
strategy-business.com/recent_research.

Illustration by Elwood Smith

s laptops, smartphones, and


Wi-Fi become more prevalent in the business world,
so do the risks that corporate and
customer data can be lost or stolen.
Analysts predict the information security sector will grow into a US$125
billion industry by 2015. But no
amount of data encryption or rewalls can guarantee that employees
wont misbehave. A new study says
the human element is the most vital
line of defense against cybercrime.
First, companies must overcome
the signicant difference of opinion
between IT experts and the managers
who make the routine decisions
about their rms information security. One of the starkest differences
revolves around the danger posed by
a rms own employees.
The authors conducted in-depth
interviews with frontline workers,
managers, and information security
professionalsCIOs and network
administratorsat large rms in a
variety of industries across the United States. Points of contention
quickly emerged. For example, 39
percent of managers cited hackers as
the biggest danger, whereas only 4
percent of security specialists agreed,
citing threats such as Trojans, viruses,

GR WTH
Its what the CGMA designation stands for

Officially, its Chartered Global Management Accountant . Established


by AICPA and CIMA, two of the worlds most prestigious accounting
bodies, the CGMA designation represents accomplished
professionals who drive and deliver business success, worldwide.

13345-312

Find out more at cgma.org

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