January 2010 Archives


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So the advanced estimate for 4Q GDP came out higher than people thought -- at 5.7%. Remember that the 3Q number was originally 3.5% but revised down to 2.2%. As BEA notes in the beginning of the release, "The Bureau emphasized that the fourth-quarter advance estimate released today is based on source data that are incomplete or subject to further revision by the source agency." One of the biggest sources of a revision many be the trade data. The advanced estimate notes that part of the improved GDP was due to "a deceleration in imports." That was true in October. But imports surged in November (see earlier posting). And we do not have December's data.

So don't break out the bubbly yet. It may not be as good as it sounds. And, as was noted in today's New York Times story:
"It was an excellent report, but it's not clear how sustainable this pace of growth is," said John Ryding, chief economist at RDQ Economics. "We need numbers like this for the next two years, and I just don't think we can achieve that."
We still have a lot of work ahead creating a path to sustainable and shared economic prosperity.

Bad business ideas? Not!

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Over the blog Jumpstart, Becca Braun has a listing of the 10 worst business ideas:
# Coffee shops? The world hardly needs more coffee shops. Plus, coffee shops don't scale.
# A Maine-based line of natural products that are made with bees wax? Last time I checked, the "bee" supply chain wasn't that scalable.
# Overpriced, finely made historically accurate dolls that will teach children about history? Seriously? I don't even know where to go with that.
# An algorithm that will improve upon Yahoo's web search technology? Fatal flaw: why couldn't Yahoo just do that themselves?
# Packages overnight? The infrastructure required to make that happen is prohibitively expensive. Nice idea, but too much capital risk.
# Growing a technology business in Seattle? Cow town, and too far away at that: investors want to be able to drive no more than four hours from their home. Plus, there's no entrepreneurial talent in Seattle.
# You want to trade collectibles and knick-knacks on the web? That's maybe, like, a $1,000 market on a good day.
# Your children have an "orphan disease" for which you want to find a cure? OK, so what don't you understand about the healthcare industry(?): orphan diseases are unfundable.
# Sell books on the Internet? People want the experience of touching books, opening the covers, being in a bookstore. Sorry, but the need just is not there.
# You don't want to develop computers but you do want to (basically) assemble them? There's nothing novel or even very protectable about that. If you had invented a new microprocessor or something, I might be interested. But just putting the boxes together isn't going to generate sustainable gross margins.
Of course, these are all examples of highly successful companies:
1. Starbucks, founded in 1971 and a market cap of $17.2 billion today
2. Burts Bees, acquired by Clorox for $913 million in 2007
3. American Girl, founded in 1986 and acquired by Mattel Inc. for $700 million 1998
4. Google, founded in 1998 and a market cap of $184 billion today
5. FedEx, founded in 1971 and a market cap of $27 billion today
6. Microsoft, founded in 1975 and worth $274 billion today
7. eBay, founded in 1995 and a market cap of $29 billion today
8. Novazyme, acquired by Genzyme for $225 million in 2001; see Extraordinary Measures, which came out last week
9. Amazon, founded in 1994 and a market cap of $55 billion today
10. Dell Computers, founded in 1984 and a market cap of $28 billion today
What strikes me, however, is how many of this successful "bad" ideas are business innovations -- not technological. Starbucks, FedEx, American Girl, Burts Bees are not what one would call "high-tech" companies. Even eBay and Amazon were built around a new business model using modifications of essentially existing technology. And while Dell makes a technology product, its innovation was the process -- not the product.

So why is our national innovation strategy still fixated on "high-tech"?
Without ever using the phrase, last night President Obama devoted a large part of his State of the Union address to economic competitiveness. As he reminded us:
We can't afford another so-called economic "expansion" like the one from the last decade -- what some call the "lost decade" -- where jobs grew more slowly than during any prior expansion; where the income of the average American household declined while the cost of health care and tuition reached record highs; where prosperity was built on a housing bubble and financial speculation.
. . .
Meanwhile, China is not waiting to revamp its economy. Germany is not waiting. India is not waiting. These nations -- they're not standing still. These nations aren't playing for second place. They're putting more emphasis on math and science. They're rebuilding their infrastructure. They're making serious investments in clean energy because they want those jobs. Well, I do not accept second place for the United States of America.
The President outlined four areas: Financial reform (access to credit for business); Innovation -- meaning R&D and clean energy investments; Exports; and Education. While each of these was narrowly focused, his remarks hinted at what could be a broader agenda. The President talked about innovation in terms of what the Administration has done in expanding R&D funding and investments in clean energy, and called for the passage of an energy bill. As I have argued before, that focus needs to be expanded to a full innovation agenda. He spoke of the need to make more products in the US and export them. That should be expanded to a manufacturing strategy. He spoke of the need to invest in the skills but focused on formal education -- K-12, community colleges, universities. That needs to be expanded to include all forms of worker training including on-the-job training.

Obviously, there were a number of other topics that the President needed to address. However, in a 70 minute speech, President Obama did a good job of outlining the political and economic challenges we face. The next step is to flesh out the broader agenda needed to address those challenges.

Manufacturing and services - update on Oracle

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In some earlier postings, I used the example of Oracle's acquisition of Sun to highlight how products and services are fused together. That acquisition has now been finalized and is back in the news as Oracle unveils its strategy. As the Wall Street Journal reports Oracle's Ellison Sets New Course:
With the acquisition, Mr. Ellison, who built his fortune selling computer software and shunning hardware, says Oracle's mission will change significantly. He said he plans to transform Oracle into a company that is as serious about server systems--the big back-office computers used for processing corporate data--as it is about business software.
Key is putting together all the pieces. According to the New York Times:
The company plans to offer customers databases, business software, servers, storage systems and networking equipment from one place. In addition, Oracle will do the hard engineering work to make sure all this technology works well together, Mr. Ellison said.
That is a good description of the value-added of fusing product and service.

Business innovation?

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Here is a story on an interesting innovation from MSNBC - Cold sheets? Hire a human 'bed-warmer':
International hotel chain Holiday Inn is offering a trial human bed-warming service at three hotels in Britain this month.
If requested, a willing staff-member at two of the chain's London hotels and one in the northern English city of Manchester will dress in an all-in-one fleece sleeper suit before slipping between the sheets.
However, not everyone seems sold on the idea. As our friends over at the Economist blog Free Exchange note:
Indeed, nothing is more comforting to me when I'm trying to sleep than the idea that only minutes earlier a complete stranger was lying in my bed.
Seems to me that this is a case where technological innovation may be better than organizational innovation.

Operational importance of IP as collateral

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We generally think of using collateral for a loan as solely a financial matter--something to be sold off in the case of default on the loan. But it may also have a strong operational purpose. As part of its clean energy production loan application, the Department of Energy has provided suggestions on how to make application stronger. They include following:
Access to IP in a default scenario. Where proprietary technology is essential to the operation of a project, a willingness to assign those intellectual property rights to the DOE as collateral in the event of default also strengthens the application. The purpose of providing DOE access to the company's IP is to allow DOE to continue operating the project in a default scenario.
In other words, DOE is not looking to recoup funds but to finish the project. Obviously, in that case control of the IP would be essential. It is a good sign that DOE has built this in to its process. I don't know how standard this is for other lenders/funders. I would assume that potential operational control in the case of default is standard for VCs -- another way of recouping their investment rather than liquidation.

By the way, the regulations also require a "listing and description of assets associated, or to be associated, with the project and any other asset that will serve as collateral for the Guaranteed Obligations, including appropriate data as to the value of the assets . . ." Given that DOE encourages the applicants to assign the IP as collateral to DOE for operational purposes, it would be interesting in see how the applicants value that IP collateral.

Does it pay to be a pioneer or a fast follower?

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The answer to that question is, according to a story in today's Wall Street Journal, is that "while platform creators may reap early financial gains (mostly by selling to followers), long-term advantage goes to the followers." The three authors, Gezinus J. Hidding , Jeffrey R. Williams And John J. Sviokla, state:
Out of the 15 platform industries that we studied, 14 of the current leaders began as followers in a market created by a competitor's platform. In only one market, for integrated business software, was the original platform creator still the leader--SAP AG. Five were fast followers, which we define as the second, third or fourth company to enter a market. The other nine were later followers.
. . .
online auction sites already existed when eBay Inc. founder Pierre Omidyar created his company. But those earlier sites were run by businesses selling to consumers. EBay changed the concept to one in which consumers would sell to consumers.
. . .
Research In Motion Ltd.'s BlackBerry predates the iPhone as a smart phone with PDA features, but Apple's product offered key new features of a touch screen and applications that users can purchase or design themselves.
. . .
Early on, companies like WordPerfect, VisiCalc and Harvard Graphics dominated PC applications. But Microsoft responded by making its Word, Excel and PowerPoint programs (all follower products) compatible with one another, with existing products (like Lotus 1-2-3), and with the Windows operating environment.
Interesting - and an important point for policy. We have an S&T policy that promotes inventiveness. But where is our innovation policy that promotes "fast followers"?

A step forward on the digital promise

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Here is some good news from a story in today's New York Times - Congress Finances Program to Use Technology in Education:
National Center for Research in Advanced Information and Digital Technologies, finally has Congressional appropriation through the Education Department and will be introduced Monday. It could be handing out grants by fall.
I have long been a support of this program (see earlier posting). The program holds out the possibility of transforming education -- not simply by introducing more computers but using the power of the digital technology to tailor learning to individual needs.

Interestingly, it took someone with the title of "assistant deputy secretary for innovation and improvement" to finally push the program through.

Setting the next innovation adenda

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Earlier this week, the House Science and Technology Committee began hearings for kick off the reauthorization of the America COMPETES ACT. The first hearing had representatives from the Business Roundtable, the US Chamber of Commerce, the National Association of Manufacturers and the Council on Competitiveness. All of them supported reauthorization. So did the ranking Republican on the Committee. Thus, it looks like this may move forward in a bipartisan fashion--as the original bill did. One part of the testimony of the head from the Council on Competitiveness, Debra Wince-Smith, especially resonated:
The Council on Competitiveness strongly urged the creation of a President's Council on Innovation and the legislation included such a provision, yet the reality has not matched the intent. What became clear as we sought the input and advice from leaders within government and the private sector was that the government's innovation policy was fragmented, poorly coordinated and often running at cross purposes between agencies and departments. We would urge a fresh look at this provision.
The utilization of this Council is something that I have been advocating for some time (see Crafting an Obama Innovation Policy).

The President's Council on Innovation and Competitiveness (PCIC) was created by Section 1006 of the America COMPETES Act of 2007 as a mechanism to "develop a comprehensive agenda for strengthening the innovation and competitiveness capabilities of the Federal Government, State governments, academia, and the private sector in the United States." The statutory Chair of the Council is the Secretary of Commerce and is made up of the heads of 16 departments and agencies (a nonexclusive list).

As the House S&T Committee summary of America COMPETES Act puts it, the legislation "establishes a President's Council on Innovation and Competitiveness (akin to the President's Council on Science and Technology)." It is important to note use of the phrase "akin to." The intent was clear that this Council would be a high-level activity.

However, subsection (e) of the bill allows the President to delegate the responsibilities of the Council to an existing entity. In early April 2008, President Bush delegated this responsibility to the Committee on Technology (CoT) of the National Science and Technology Committee (NSTC) in OSTP - which established it as a Subcommittee. While the NSTC is a Cabinet-level organization, neither the CoT nor its subcommittees are "principles" committees. In other words, the issue of innovation and competitiveness was relegated to a subcommittee of a committee of a committee.

Unfortunately, the Obama Administration has not activated this Council or changed the Executive Order. It might be a good idea for the House S&T Committee take up Ms. Wince-Smith's advice and "take a fresh look at this provision." One change should be to designate the President as Chairman, similar to the NSTC, and make the Vice President a member.

But we don't have to wait for legislation to do this. The President could make these changes and get PCIC up and running with the stroke of a pen (through a new Executive Order).

We need to be crafting the next generation innovation policy. That was the explicit charge to the PCIC. In an earlier posting, I outlined the tasks PCIC needs to take on to craft such a policy. But first of all, the Administration needs to activate the Council--now!

Collaboration and transaction costs

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Neil Wilkof has posting a thoughtful discussion on collaboration and IP rights over at the blog IP Finance . He notes that fashioning a collaborative agreement can be a tricky and time consuming activity. He then notes the case of the takeover of Genentech by Roche, which reportedly cut through the legal thicket to make collaborative research possible, to ask a fundamental question:
Can it be that the transaction costs in bargaining the disposition of IP rights in a collaborative arrangement between two separate parties are so daunting that the only feasible solution is for the two parties to merge, thereby eliminating the friction in the contractual bargaining?
To me, this begs the question: why are transaction cost so high? Collaborative research is not a new phenomenon. What is it about IP rights that have caused Wilkof to state that "often times devilishly difficult to find a workable arrangement for the allocation of IP rights . . ."? We seem to lack standardization of contracts -- a complaint I hear about technology licensing agreements as well.

It is not as if we don't have standardized forms. Take for example the federal government's Cooperative Research and Development Agreements (CRADAs). CRADAs are agreements between federal agencies and private companies on specific joint research projects. Agencies, such as the National Institute of Health, have model agreements. Could it be that in this case, the bureaucracy actually reduces transaction costs? I can image that federal agencies have far less bargaining room in their negotiations than private companies. A CRADA may be much more of a take-it-or-leave-it proposition. Thus the transaction cost may be in part a function of bargaining power and size.

Wilkof ends his comments with the suggestion that this issue would make a good topic for an MBA case study. Let me expand that we need more than a case study on the Roche and Genentech example. That would be a good starting point, but I sense there are a couple of Ph.D. dissertations needed here as well.

Valuing patents -- and measuring innovation

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By now, you have probably heard that IBM, for the 17th year in a row, is the company with the most patents issued in 2009. However, a Business Week story on various companies' patent portfolios argues that Microsoft is really number one (see also the accompanying BW story on The 25 Most Inventive Companies). BW bases this on an OceanTomo study of the strength of the patent portfolios.

The study is sure to spark a discussion on how one values patents. The OceanTomo rating, for example, penalizes IBM for having more service patents, which according the BW story "do not command as high a price as the video-game and software patents that heavily weigh in Microsoft's portfolio."

One especially interesting comment on all this comes from Joff Wild over at his IAM blog:
perhaps it is arguable that the biggest benefit IBM reaps from its patents is not the freedom to operate, the licensing revenue or the products and service they protect, but the notion of the company as a pre-eminent innovator that they confirm in people's minds. In other words, it's all about the brand.
As Joff notes:
In the end, abstract notions of what is valuable matter not a jot when it comes to patents. Instead, it's what you do with them that counts.
I would take that even a step further. It is not what patents you have that determines how innovative you are -- it is what you do in the marketplace. To its credit, the Business Week list is on the most inventive companies, not the most innovative. The two are not the same.

Given that, IBM may do well to fall off the top spot on "inventiveness" and start playing up its "innovativeness." After all, IBM has been repositioning itself as a "provider of customer solutions", not a hardware/gadget company. Stressing innovation would be good for the brand -- regardless of how many patents they get.

The rise of the information middle-man

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Remember the claims of the friction-less economy -- that the internet and other advanced information and communications technology would make information flow smoothly with easy access. No need for the middleman. Turns out that the ICT-enabled increase in information has brought about its own friction. A case in point is highlighted in an article in today's New York Times - The Death of the Slush Pile
It wasn't supposed to be this way. The Web was supposed to be a great democratizer of media. Anyone with a Flip and Final Cut Pro could be a filmmaker; anyone with a blog a memoirist. But rather than empowering unknown artists, the Web is often considered by talent-seeking executives to be an unnavigable morass.
As a result, publishers and producers are doing away with the age-old tradition of open submissions -- which end up in the so-called slush pile. Because of the volume, many publishers will only accept manuscripts from agents. As a result, agents have strengthened their position as gatekeepers. In the age of information overload, the power of the information middleman increases.

This begs the question however: how will agents sort through the mountains of possible books and movies? Could it be that the slush pile has not died but has been transferred to the agents? After all, there is still a lot of money to be made in finding the next Harry Potter.

Shifting manufacturing

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The Economist blog "FreeExchange" had an interesting musing last week on the role of manufacturing in the US -- The end of the revolution is nigh. The "revolution" referred to in the title is the Industrial Revolution. So the piece unfortunately it starts out repeating the myth of the shift to a "service" economy. However, it quickly moves on and ends on the right tone.
America's economic success has come from its dynamic economy, which is able to adapt to the changing global economy. Just as the role and nature of agriculture changed so will manufacturing. America will still continue to make things, but the role of manufacturing in the American economy may look very different. It will probably mean fewer low-skill manufacturing jobs, but that is exactly what the industry needs to survive.
I agree - at least in the general direction. I have often noted that just as industrialization changed but did not eliminate agriculture, the shift to a more knowledge- and information-intensive economy with reshape but not replace manufacturing. Our task is not to keep the manufacturing sector the same as in the past -- but to transform it (see earlier posting). The trick is making sure that we also create enough of the higher paying jobs in manufacturing and related activities to maintain a strong economy and prosperous society.

Competitiveness revisited

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A number of years ago I published a piece (Info Age: Recast Issues Demand New Solutions) on how our current competitiveness situation is different from the 1980s. What I said 6 years ago bears repeating (and updating) in light of current efforts to address our faltering economy.

A quarter of a century ago, the United States confronted and overcame a challenge to its economic competitiveness. The U.S. now faces a similar challenge. However, the situation today is different in profound ways while our policy responses are, in many ways, echoes of the 1980s. We need to reevaluate so that we can reformulate appropriate policies.

The global economy has entered a new era. The industrial age was driven by machines and natural resources. This new innovation age is being driven more and more by people and intangibles. Foremost are worker skills and know-how, innovative work organizations, new business methods, brands, and formal intellectual property such as patents and copyrights. Our economy increasingly runs not just on technological advances, but also on ways of expanding consumer choice through more customized products, more individualized service, and greater attention to aesthetics in order to respond to changing consumer tastes.

In the 1980s, the U.S. faced global competition in goods and loss of domestic manufacturing firms; now it faces the fusion of manufacturing and services and the opening to international competition of services sectors once thought immune to such challenges. Then, the operating issues were quality and productivity; now they are customization, speed, and responsiveness to customer needs. Then, the concern was how to build on our successful scientific research system; now we must look for ways to maintain innovation defined broadly, including understanding and harnessing new models of technological and non-technological innovation.

Then, a key concern was creating a flexible and educated workforce; now, in addition, we must foster an educational enterprise that can provide the constantly changing skills required in a knowledge- and information-intensive economy.

Then, the main financial challenge was reducing the cost of capital; today's equivalent challenge is unlocking the value of underutilized knowledge assets and ensuring the efficiency and stability of the global financial system. Then, the policy problem was raising awareness of the importance of international trade; now it is crafting policy appropriate to a globalized and interconnected economy.

Our focus in the 1980s was on individual firms and industries; now we must find ways of sustaining networks of firms and of adopting new business models. Finally, these problems and challenges, as well as myriad new ideas and technologies, are rapidly sweeping across the domestic and international economy. Their speed requires that U.S. industry, both manufacturing and services--as well as the suppliers of financial, scientific, and human capital--have the capabilities and resources necessary to prosper and grow in this new environment.

Only by understanding these changes can we begin to craft policy responses.
snapshotgraph.gifDownload graph as pdf

November trade in intangibles

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The US trade deficit in November worsened, according to this morning's trade data from BEA. The overall deficit rose to $36.4 billion compared to the $33.2 billion level in October (revised). Exports grew by $1.2 billion but imports surged by $4.4 billion. Many of the news stories are highlighting the rise in petroleum imports (see Wall Street Journal), which surged by 7%. But the non-petroleum deficit also increased by 2%. The oil import increase was due to price increases, as the New York Times notes: "The average price for a barrel of imported oil rose to $72.54, the highest since October 2008, but volume was the lowest in more than 10 years."

The positive news is that our intangibles trade surplus increased slightly in November. Exports of business services and royalties exports (payments received) increased, as did imports (payments out) of royalties. Imports of business services actually declined. The November trade surplus in intangible was over $11.5 billion. The intangible trade balance has improved now for the past 7 months.

However, the other bad news is that our deficit in Advanced Technology Products surged in November, rising to a record (I believe) $8.3 billion. The increased deficit was due to an almost across the board drop in exports, especially in aerospace, biotechnology, and information and communications technologies. The last monthly surplus in Advanced Technology Products was in June 2002 and the last sustained series of monthly surpluses were in the first half of 2001.

Intangibles trade-Nov09.gif

Intangibles and goods-Nov09.gif

Oil good intangibles-Nov09.gif

Note: we define trade in intangibles as the sum of "royalties and license fees" and "other private services". The BEA/Census Bureau definitions of those categories are as follows:
Royalties and License Fees - Transactions with foreign residents involving intangible assets and proprietary rights, such as the use of patents, techniques, processes, formulas, designs, know-how, trademarks, copyrights, franchises, and manufacturing rights. The term "royalties" generally refers to payments for the utilization of copyrights or trademarks, and the term "license fees" generally refers to payments for the use of patents or industrial processes.
Other Private Services - Transactions with affiliated foreigners, for which no identification by type is available, and of transactions with unaffiliated foreigners. (The term "affiliated" refers to a direct investment relationship, which exists when a U.S. person has ownership or control, directly or indirectly, of 10 percent or more of a foreign business enterprise's voting securities or the equivalent, or when a foreign person has a similar interest in a U.S. enterprise.) Transactions with unaffiliated foreigners consist of education services; financial services (includes commissions and other transactions fees associated with the purchase and sale of securities and noninterest income of banks, and excludes investment income); insurance services; telecommunications services (includes transmission services and value-added services); and business, professional, and technical services. Included in the last group are advertising services; computer and data processing services; database and other information services; research, development, and testing services; management, consulting, and public relations services; legal services; construction, engineering, architectural, and mining services; industrial engineering services; installation, maintenance, and repair of equipment; and other services, including medical services and film and tape rentals.

Manufacturing and better "people management"

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I'm just catching up with a study released in September by Deloitte Consulting LLP, The Manufacturing Institute, and Oracle -- People and Profitability: A Time for Change. As the title suggests, the report focuses on how companies manage their workforce. It finds that "Even during this period of significant economic challenge and among this hard-hit industry group [manufacturing], the importance of careful talent management to business success is resounding." For example, skill shortages remain even in the downturn for skilled production workers and for scientists and engineers.

What I found especially troublesome was how companies are responding:
Manufacturers, especially the most profitable, say they place high priority on having a high-skilled, flexible workforce, but they continue to rely on traditional approaches to managing and developing their employees. Layoffs are prevalent, and progressive management tactics seem to have gained little traction. Many manufacturing organizations are still guilty of "New Aspirations, Old Tactics" as originally diagnosed and described in the 2005 Skills Gap Report.
That 2005 report highlighted a growing disconnect between employers and employees:
There is a growing disconnect between what today's workforce wants and what employers traditionally offer. The phrases used to describe this disconnect are familiar - lack of employee engagement, loss of company loyalty, and the need for a new employer/employee "deal."
The dramatic changes in the employer/employee relationship became acute in the past decade. Trends such as downsizing, merger mania, and globalization created an ever-shifting work environment that has resulted in negative and cynical views about the workplace. In recent years, organizations that regularly survey the U.S. workforce, such as The Conference Board and The Gallup Organization, have warned that employee opinions about the workplace are at an all-time low.
It also described the failure of companies to address the disconnect:
Despite an emerging desire for building a high-performance workforce and attracting highly engaged employees, the majority of respondents to the survey continue to use mostly traditional recruiting strategies. Manufacturers cited competitive wages, and health care and retirement benefits as their top methods for attracting employees - which for most employees are considered a given rather than differentiators.
Implicit in the 2009 study is that the traditional economic-centered approaches to human capital are still inadequate, despite the recession. Simply because there is heightened economic insecurity does not mean that economic incentives alone are sufficient.

This latest report does see some bright spots:
More fundamentally, the survey data may suggest that participating companies are beginning to adopt a new approach to the employment relationship and are endeavoring to promote employee engagement through emphasis on communications, information sharing, company culture and values.
However, the report concludes with this warning:
We believe a quantum leap is needed regarding People Management Practices with companies taking proactive steps toward preparing their workers for the challenges that lie ahead.
One part of the way forward is increased worker training. As readers of this blog know, I have long promoted the idea of a knowledge tax credit. According to the 2005 report, 61% of companies surveyed thought a tax credit for worker training would be an effective policy. A knowledge tax credit would have the dual effect of improving our human capital and increasing consumer demand as companies would use the funds to pay workers to take classes (thereby creating more employments slots for others to fill the working hours of those in the classes). As I have said over and over again, rather than pay workers to stand in unemployment lines, let's pay them to sit in a classroom.

But a knowledge tax credit is only one item. We need to be more creative in ways in which pubic policy can promote the high performance work organizations (see previous posting). It is not as straightforward as other policy areas - as it goes to the heart of the internal management of companies. But it is an area we need to address if we are to revive the economy, as the Deloitte study notes.

December employment

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This morning's news from BLS on the December employment data was not what many have hoped for. The economy still lost jobs (85,000) and the unemployment rate stayed at 10% -- not a month of real job creation. But, here is the kicker: November was the month when the data turned positive. The November numbers were revised upward to slow a net job gain of 4,000!

Once again the number of involuntary underemployed (part time for economic reasons) and those part time because of slack work both declined. As I said last month, I would not put too much emphasis on a single month's numbers -- positive or negative. But the trend (as the chart below shows) is in the right direction. Involuntary underemployment essentially peaked in March. This confirms that the fall is over. It also points to a slow recovery.


Innovation, entrepreneurship and size

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In a Wall Street Journal piece today, Ethan Penner reminds us that Big Business Creates Jobs Too. He also makes an important point that innovation is not confined to small businesses:
It is actually within large companies that an entrepreneur can find, already in existence, much of what it takes to insure a venture's success. This includes the capital required to fund startup costs, the marketing presence to create a near-instant reach to customers, and the standing required to gain trust of both vendors and customers. The two largest bond fund managers in the world, Pimco and Blackrock, were born inside of existing large companies--Pacific Mutual Life and Blackstone, respectively--and flourished under entrepreneurial leadership. Blackrock then went on grow immensely after it was sold to Mellon Bank.
Apple Computer, a great example of a small company success, at one point was solely focused on computers. Yet in the past several years Apple's success has been driven by many new business lines including the iPod and iPhone. These product-line successes illustrate how a big company can entrepreneurially exploit its brand name, related technological expertise in the industry, access to capital, and sales and marketing reach. There is no doubt that if someone tried to launch either the iPhone or the iPod from his garage the results would not be what they have been for Apple.
Just as technology does not encompass the entire concept of innovation, neither does entrepreneurship. Supporting entrepreneurship helps support innovation. But support to entrepreneurship is not all we need to be doing. We need to find ways to support innovation in large organizations as well -- beyond technology policy. How can we foster the movement to open innovation, user-driven innovation, and greater collaboration? How can we foster "design thinking" as an innovation-creating process? As I noted earlier, these are the key trends in innovation. But we have yet to understand the public policy implications of this shift.

Only those with myopia didn't see this coming

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Here is an interesting story in today's New York Times -- Asian Computer Makers Move Into Riskier Ventures:
For years, the process remained relatively static: PC makers like Hewlett-Packard and Apple, with well-staffed research labs and design departments, would dream up their next product and then hire a Chinese or Taiwanese fabricator to manufacture the largest number of units at the lowest possible cost.
But lately, this traditional division of labor has been upended. Many of those Asian companies have moved well beyond manufacturing to seize greater control over the look and feel of tomorrow's personal computers, smartphones and even Web sites.
The investment arms of large Taiwanese and Chinese manufacturers have created an investment network in Silicon Valley operating under the radar that pumps money into a variety of chip, software and services companies to gain the latest technology. As a result, some Asian manufacturers have proved more willing than entrenched Silicon Valley venture capitalists to back some risky endeavors.
My only question is why anyone would be surprised by this. We have seen the trend of countries moving up the value-added ladder for years -- decades. Yet, through out the past few decades, there has been a myopic view of the structural change of the global economy. That myopia is summarized in the article as well:
As manufacturing of electronics in the United States began moving offshore decades ago, some feared the American economy would suffer. But the American companies, as well as economists and policy makers, said that as long as the high-value jobs like research and design remained in the United States, there was little danger.
Wrong, wrong,wrong wrong!

As the article notes, this view depends on a division of labor concept rooted in the industrial Tayloristic/Fordist model. There are thinkers and there are doers, so the theory goes. And the two can be separated. On the global level, this means there are some countries that manufacture and there are some countries that do research and design. It is just the natural order of things.

That view suffers from two fatal flaws. First, there is no reason to believe that countries who have been the low cost manufacturing sites want to remain that way. This lesson was driven home to me 25 years ago when I was doing a small study of manufacturing in Singapore. It was clear from my discussions of plant managers and policymakers that they were headed in to higher-value added - so much so that the plant managers were already complaining that all their engineers wanted to switch from manufacturing to chip design.

Second, the links between parts of the value chain are stronger than most believe. The lesson was also driven home over 25 years ago when I was doing a study on high-tech plant locations. I started off the study asking what turned out to be a naive question: why did you put your plant here. Wrong question I was told. The real question, they replied, is where am I going to put my second plant. Because, they said, it is self evident that my first plant needs to be next to my research facilities. Many of us have been concerned that this linkage works the other way as well: research facilities will find that they need to be near the key manufacturing plants.

That concern is grounded in a study of the migration of the laptop industry to China and Taiwan (see earlier posting). First production moves. Then activities related to production, such as testing, move. Then activities higher up the process but still related to production, like prototyping, move. Then activities related to those activities, like design, move. And then activities related to those activities, like R&D, move.

Of course, the shift doesn't necessarily follow this linear progression. In some case, R&D has shifted because of growing resources (talent, facilities, funding) in other nations. But the linkages between various parts of the production process are becoming tighter as the business models move away from mass production to customized solutions.

Yet the old idea of "we as thinkers" and "them as builders" persists. As Keynes warned us, those whisperings of old dead thinkers still remain.

New tack on STEM education - and in tech policy?

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According to a story in this morning's Washington Post, President Obama will announce today new funding for a public-private partnership on STEM education. The initiative "Educate to Innovate" was launched last November. Today's announcement will double the funding to over $500 million.

That level of funding is important, in line with other federal programs on STEM education. But what is especially interesting on this is the emphasis on the private sector contribution. As the story notes:
"There is a recognition we can't do everything," said John P. Holdren, director of the White House Office of Science and Technology Policy. "We really need all hands on deck from the private sector and the philanthropic sector because the government can't foot the whole bill for this."
The concept of public-private partnership is not new. It can be said that the rise of such collaboration is one of the major shifts in science and technology policy in the last few decades (really starting in the 1980s). However, the emphasis in the past has been on private sector effectiveness in program operations. The thinking is that private sector involvement in the operation of the programs is necessary to ensure an outcome that is economically relevant -- especially in technology development and commercialization activities. The idea that private sector money is also necessary (for more than simply ensuring that they have some skin in the game) is new. Given the budget deficit, however, don't be surprised if we see similar pushes for public-private partnerships in other areas of technology policy.

Update: President Obama's remarks and the Press Release are now available.

AEA papers on valuing intangibles

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Follow on yesterday's posting, this year's AEA/ASSA meeting in Atlanta had two interesting papers on valuing intangibles:

Does the Stock Market Fully Value Intangibles? Employee Satisfaction and Equity Prices
Alex Edmans (University of Pennsylvania)
[Download Preview]

Financial Value of Reputation: Evidence from the eBay Auctions of Gmail Invitations
Qin Lei (Southern Methodist University)
[Download Preview]

Edman looked at the stock performance of the Fortune "100 Best Companies to Work For." Not only did these companies do better in the stock market, they had "significantly more positive earnings surprises and stock price reactions to earnings announcement." His conclusions are interesting in what they imply for both managers' and investors' behavior:
This paper finds that firms with high levels of employee satisfaction generate superior long-horizon returns, even when controlling for industries, factor risk or a broad set of observable characteristics. These findings imply that the market fails to incorporate intangible assets fully into stock valuations - even if the existence of such assets is verified by a widely respected and highly publicized survey on large companies. This suggests that the non-incorporation of intangibles, documented by prior studies, is not simply due to the lack of salient information on them. It also provides empirical support for theoretical models of managerial myopia, which require the assumption that long-run investment is not incorporated into investors' assessments of firm value. Even if managers are able to credibly communicate the value of their intangible investment, it may still not affect outsiders' valuations, and so they may be reluctant to invest in the first place.
In other words, it is not simply a question of information. The Best Companies list has been around for years, but investors don't seem to incorporate it into their decision process. As he states, "investors use traditional valuation methodologies, devised for the 20th century firm and based on physical assets, which cannot incorporate intangibles easily even if they are known."

Of course, this all assumes that the stock market is the great leveler - if all information is incorporated then there would not be superior stockholder returns.

By the way, the paper has a good discussion on the theory of the importance of human capital and on the value of "socially responsible investing" (SRI). It also has a smaller discussion on the non-incorporation of intangibles in financial reports.

The Lei paper looks at the theoretical proposition that reputation is a signal for quality and should therefore command a price premium. The findings are not surprising, but conclusive:
Sellers who improve both measures of reputation from the lowest to the next quintile experience a 6.2% higher probability of sale and a 6.1% hike in the implied buyer's valuation.
And, as Lei points out, this test was based on a rather simple market transaction. For a more complex transaction, one can safely assume that reputation is even more important.

2010 AEA Annual Meeting Papers - Measuring Intangibles

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No, I am not down in Atlanta at the AEA Annual Meeting (technically the meeting of the Allied Social Science Associations - ASSA). But while the news from the meeting is dominated by the big names (like Fed Chairman Bernanke) and the big issues, there are a number of papers that are specifically relevant to the intangibles and innovation. Over the next few days I will point out some of the papers and sessions relevant to the I-Cubed Economy. Note that my observations are taken from the preliminary programs and those papers for which are available in preview form.

The first paper I would like to highlight is "Extending the Surveys on R&D to Measure Intangibles: Evidence from a Pilot Survey in the UK and the Kauffman Firm Survey," by Jonathan Haskel (Imperial College Business School), Alicia Robb (Beacon Economics), and John Haltiwanger (University of Maryland) [Download Preview]. Note that this version of the paper is Preliminary and Incomplete.

The paper describes two efforts to actually collect data on intangible capital expenditures: one in the US as part of the Kauffman Firm Survey of new companies and three in the UK. The preliminary data shows that almost half of the new companies surveyed in the US invested in some form of intangible assets (almost 65% of "high-tech" companies). For US companies, the leading intangible asset was brand development, followed by investments in software or databases, worker training and then design of new and improved products and services. Organizational development investment was very low. In the UK, the total number of companies investing in intangibles was higher (68%) as was the investment in organizational development.

Take the numbers with somewhat of a grain of salt. As the paper notes, the surveys are preliminary. Issue of comparability of the questions and question design need to be worked out. But the good news is that the effort to measure intangibles has begun.

The other good news is that we are finally recognizing the broad range of intangibles. As the paper notes:
In all samples considered here, almost all firms who invested in R&D also invested [in] other non-R&D intangible spend[ing]. Conversely, of all firms who invested in non-R&D intangible spend[ing], only a fraction invested in R&D. Thus to study only the R&D performers without intangible spending misses, on that sample, a good deal of coinvestment with the R&D and the sample itself misses much knowledge spending.
To be sure, there is still a lot of work to be done. But these surveys represent slow but steady progress in understanding intangible assets.

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I should also mention a session to be held this afternoon on Measuring Intangible Capital organized by John Haltiwanger (University of Maryland):

How Do You Measure a "Technological Revolution"?
Carol Corrado (The Conference Board)
Charles R. Hulten (University of Maryland)
(not yet available)

New approaches to surveying organizations
Nick Bloom (Stanford University)
John van Reenen (London School of Economics)
[Download Preview]
This is a survey methodology paper on how to improve organizational research.

Artistic Originals As Capital Assets
Rachel Soloveichik (Bureau of Economic Analysis)
[Download Preview]
In 2002, I estimate that US artists, studios and publishers produced artistic originals worth $65.1 billion. By category, production was $9.8 billion in theatrical movies, $7.6 billion in original songs and recordings, $7.1 billion in original books, $35.6 billion in long-lived television programs and $5 billion in miscellaneous artwork. My research on television programs and miscellaneous artwork is still incomplete, so those numbers could change significantly in the final paper.
    Note: the views expressed here are solely those of the author and do not necessarily represent those of Athena Alliance.

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