Excerpts

Chapter 1 Knowledge The Motherlode of Value Have you ever received one of those birthday cards that plays "Happy Birthday" when you open it? You probably chuckled and then casually threw it away without realizing that you just discarded more computing power than existed in the entire world prior to 1950! This seemingly simple product signals what growing through innovation is all about. For about three dollars (not adjusted for inflation), you get an absolute marvel of innovation. The hardware alone is astounding. The card uses a long-lasting miniature battery that relies on complex chemical reactions to provide power and ensure a long shelf life. A microswitch triggers a computer that's half the size of a postage stamp, programmed with music, and attached to a miniature speaker. All this is secured by a strong, lightweight adhesive to recycled paper stock that might have started its life as the front page of a metropolitan newspaper (and will probably be resurrected to a third life when your trash is picked up later this week). The complete set of knowledge required to create this product did not exist ten years ago, yet this inexpensive product exemplifies how sophisticated even the simplest products have become. Impressed yet? There's more. What good is this magical birthday card, after all, if you can't put it into your loved one's hand? If you're as forgetful about birthdays as I am, you're going to need what amounts to a personal delivery service -- someone who'll come to your office, get the card, and ensure it gets halfway around the world in a single day. As you probably know, Federal Express, UPS, or Airborne Express all provide this "personal" service. In addition, if you want to check where the card is any time after it's picked up, you can call a toll-free number or even access the shipper's computer directly through the Internet. The service is as amazing as the product! In this new world, the boundaries between products and services fade rapidly. Just as bricks have little value without mortar to hold them together, today's most advanced products are held together by a mortar composed of equally advanced services. The combination transforms stand-alone products like our birthday card into a seamless, value-rich solution. Before we leave this compelling yet simple example, don't think that our birthday card and delivery service are just for the affluent, or only available in Silicon Valley. You can buy and send this card from anywhere in North or South America, Europe, or Asia. Next year, the same product will undoubtedly cost less, sing longer and louder, and perhaps be able to record your own voice. This is the new world of competition -- a fierce contest set in a truly global context, with more capable players, higher stakes, and vastly different rules of engagement from those that we have enjoyed to date. In this chapter, I'll explain how knowledge has become the dominant component of customer value, and why this makes innovation a critical competitive requirement. As you will see, the new economy is led by those who create, find, and/or combine knowledge into new products, services, and distribution methods faster than their competitors. As their capability to create and combine new knowledge spreads across the globe, it creates new markets. The interaction between these trends sets up a powerful reinforcing cycle. KNOWLEDGE AS THE SOURCE OF VALUE It used to be that companies ventured offshore in search of raw materials -- or, more frequently, cheap labor. Raw materials (and the energy required to convert them) are less critical due to tremendous progress in process technology. Since the late 1970s, the amount of energy required to produce a given amount of GDP has fallen an average of 2 percent each year! Concurrently, the knowledge component of products and services -- and the brains required to produce and use them -- has increased dramatically in importance. Valley leaders like Sun Microsystems, Hewlett-Packard, and Intel today set a new standard, applying the same fervor to finding cheap knowledge that they previously used to search for cheap labor. In the industrial age, competitive strength was determined by who had access to raw materials, cheap labor, and the capital for conversion. Large machines characterized the thinking, as well as the work itself. Employees were treated as parts (oiled by wages) that could be replaced if they broke. Work processes such as the assembly line were designed to constrain rather than exercise human capabilities; Henry Ford once asked in frustration, "How come when I want a pair of hands, I get a human being as well?" It was this mentality that eventually spawned unions -- when you treat people as machines, they eventually reach a point where they fight back. Piece-rate pay schemes fit neatly within the model by providing the faster "machines" with more pay. Machine-age thinking fit a machine-dominated world. Knowledge work existed back then, too; it was called the boss. A machine needs direction, and that was the boss's job. As products and services became more complex, though, it became impossible for the boss to know every job detail or piece of equipment. For the equipment technology of today's service operations center or manufacturing facility, this complexity is even more overpowering. Nowhere has this been more evident than in Silicon Valley. Transforming Sand into Knowledge The historical foundation of the Valley's success is the semiconductor. On an eight-inch wafer of purified, molten sand are hundreds of chips, each the size of a thumbnail. Etched on each chip are lines and layers of alternating conductive and resistive materials that form complex electric circuits. Line width at the current state of the art is.25 microns, about one-quarter the size of a human hair. With transistor counts skyrocketing into the millions, these devices are just as difficult to design, test, and program as they are to manufacture. Each chip embodies hundreds of person-years of work and aggregated scientific knowledge. The cost of a new wafer fabrication factory is more than $1 billion, but the raw materials (concrete, steel, plastic, copper, and so on) that make up the building and equipment inside don't add up to anywhere near that much. The high cost reflects the science that's embedded in the equipment. The skills required to run this equipment are equally sophisticated. Contrast the associate degree that the average wafer fabrication technician possesses to the educational level of farmers who moved to Detroit to work on Henry Ford's first assembly line. All Knowledge Isn't the Same To understand the impact of knowledge on value definition, creation, and delivery, we first have to expand our understanding of knowledge itself. When most people talk about knowledge, they're usually referring to explicit knowledge -- the kind that can be easily written down (for example, a chemical formula or an engineering schematic). Explicit knowledge is what you find in computer data banks, textbooks, and academic journals; once created, it is easily captured, distributed, and used by people other than the creator. While explicit knowledge can create a competitive advantage -- as in the case of a patent for a new technology -- its half-life is increasingly brief. Once we know something can be done, much less time and money is required to imitate, reverse engineer, or clone it than was needed to demonstrate its initial viability. For example, after Intel spent $1 billion and more than a year to create its 486 microprocessor, Cyrix was able to produce a clone in approximately 18 months for just $10 million. The same thing happened with Apple's laser and Hewlett-Packard's inkjet printers. These products were the first to reach the market, but Apple quickly found itself facing competition from none other than Hewlett-Packard, while H-P found its business under attack from Canon (who happens to supply the laser print engines for both Apple and HP). A second type is tacit or implicit knowledge, which you may think of as personal and context-specific "know-how." Tacit knowledge is far less tangible and so deeply embedded into an organization's operating practices that it's often nearly invisible, being described broadly as just "the way we do things around here." For individuals, it's often referred to as experience or intuition; in organizations, we often call it culture. What we refer to as intuition, though, are really bits of knowledge that we've gained and combined with other bits in ways that are not easily traced or described. Tacit knowledge includes relationships, norms, values, and standard operating procedures. Because tacit knowledge is much harder to detail, copy, and distribute, it can be a sustainable source of competitive advantage. While competitors such as Six Flags can experience and study Walt Disney Corporation's legendary service capability at its amusement parks, none have duplicated it. The Implications of Knowledge as Value The shift to knowledge -- both explicit and tacit -- as the primary source of value has five important implications that change what it takes to compete effectively: 1. The most visible output of knowledge work is explicit knowledge, but the creative process is largely tacit. Certainly the act of discovery is not a very explicit process. Product innovations such as Post-it™ Notes don't follow a predefined, rational path, although the execution that follows the initial idea does have explicit elements. In contrast, traditional business processes such as assembly lines or accounting departments are highly explicit. Managing innovation -- a process with a high tacit knowledge content -- using techniques that work well with explicit knowledge is about as effective as dancing by watching your feet instead of feeling the music. I'll examine this point in more detail when I discuss how to manage the innovation process. 2. Explicit knowledge is increasingly quick and easy to distribute worldwide. For thousands of years, knowledge could only be passed on by word of mouth; centuries later, it was captured by monks in books. Now, however, it is distributed instantaneously through global electronic networks. (In a recent ad, IBM portrayed monks as technology-savvy Internet surfers!) Today's graduate students in Vienna, New York, or Kuala Lumpur all have equal access to the latest scientific journals. It therefore might make more sense to sell or license explicit knowledge -- for example, through franchising -- to an existing local operative rather than establish a business of your own. Why? Because local entities already possess the hard-to-acquire tacit knowledge of regional operating practices, laws, and customs. If you provide the explicit knowledge regarding the base product or service, the local firms can leverage their tacit knowledge to jumpstart your firm into markets across the globe. This leverage, though, cuts both ways; foreign companies can be just as successful on our shores as we are on theirs. For example, the baby-boom generation that followed World War II is graying in European and Asian populations as well as the United States. The Swedish national telecommunications company is actively marketing systems aimed at the home health care market, and these kinds of products and services will transfer easily to the U.S. markets for our aging population. While still only about a third the size of the fees the United States generates from exporting knowledge, American payments for knowledge imports are growing two and a half times faster than receipts. If these trends continue, America will be a net importer of ideas by the second decade of the twenty-first century. 3. When it is embedded in products and services, explicit knowledge dramatically lowers the cost of the basic infrastructure required to compete in any industry. Look at what telecommunications technology and the personal computer have done to the cost of setting up a professional service corporation. With a phone, a fax machine, and a well-equipped PC, an individual attorney can create a professional presence that is indistinguishable from the most prestigious firm on Wall Street. The expansion and availability of explicit knowledge enables Silicon Graphics and Sun Microsystems to outsource manufacturing to firms like Solectron, a company with no products of its own. The task of stuffing, soldering, testing, and assembling circuit boards requires a great deal of explicit knowledge but very little tacit knowledge. At the same time, Solectron or anyone else would be hard-pressed to design either company's products, for that is highly dependent on each company's tacit design methodologies as well as explicit technical knowledge. The dramatic increase in embedded explicit knowledge is one reason that the labor force has grown by more than 50 percent from 1970 to 1992, while those employed by Fortune 500 companies decreased 21 percent. The message is clear: As tools and infrastructure costs continue to fall while their power increases, nearly anyone can establish themselves as a viable competitor in any but the most capital-intensive industries. What increasingly differentiates success and failure is how well you locate, leverage, and blend available explicit knowledge with internally generated tacit knowledge. The bottom line is, how well can you innovate? 4. All knowledge grows through use, while physical assets such as materials are depleted by use. Using knowledge creates more opportunities, which in turn create more knowledge. This principle has implications for timing your entry into a new market or technology. You have to enter some markets earlier than you would otherwise because it takes time to learn the required knowledge, but your discoveries about what works and what doesn't can define the market to your advantage. For example, Yahoo! -- one of the first companies to provide Internet indexing services -- built a reputation and market presence that they've been able to defend successfully despite growing competition. The corollary is that knowledge depreciates through lack of use. If you stop pushing the edge and coast, you very quickly find yourself being passed by. Look what happened to Apple's leadership in the PC computer interface. Although Mac zealots may proclaim that Windows 95 is the equal of the Macintosh in 1989, the Macintosh operating system has not continued to move forward. By resting on its laurels, Apple has seen the difference between the Macintosh and Windows operating systems become virtually nonexistent. 5. The explosion of knowledge growth, combined with rapid distribution, makes it difficult to sort and stay on top of the available knowledge within your industry. In the field of cardiovascular science, for example, more than 80,000 articles were published in the last six months of 1992 alone. A global knowledge economy rewards not only the creators of new knowledge but those who can identify and combine knowledge effectively. AS KNOWLEDGE GROWS, SO DOES THE GLOBAL MARKET The ability to compete by creating value through knowledge is no longer the exclusive province of traditional economic powers. Today's schoolgirl in Singapore receives as good an education, if not a better one, as her counterpart in Palo Alto, California. She also prints her school assignments on a DeskJet™ printer from Hewlett-Packard, possibly a later model than her peer in Palo Alto has. Her family's standard of living and discretionary income put her squarely in the middle class. She is well on the way to becoming a valuable future employee and consumer. Does knowledge creation occur outside traditionally strong economic leaders? Well, if I had asked you in 1991 to name the country that in five years would be home to the world's second-largest manufacturer of cellular phones, would you have answered Finland? (In 1996, Finland's Nokia -- formerly known more for its snow tires than for world-class digital technology -- gained market share at the expense of world leader Motorola.) Clearly, knowledge creation is happening everywhere. This spread of knowledge is creating a global middle class of new customers (and competitors) in nearly every corner of the world. Firms that don't recognize this change and stay within their domestic borders, particularly in slower-growing First World nations, will miss out on much more than an additional revenue opportunity. They will develop neither the competencies nor the presence required to participate in the global marketplace. Over time, they will find that unless they are protected by national tariffs, for which the trend is less rather than more, they will also be decreasingly competitive at home. Traditional early entrants in foreign markets, such as Procter & Gamble or Coca-Cola, provide low-cost basics. But as the global middle class grows, they want to buy more than bare essentials. Today's sophisticated buyers from Beijing to Rio de Janeiro seek the same products and services that are found in the boutiques on Ste. Honoré in Paris, or within the bustling consumer electronics arcades of Tokyo's Akihabara. People with knowledge have a large appetite for such knowledge-rich products. Once people begin to move beyond essentials, the demand for services grows, as is demonstrated by the growth of U.S. retailers abroad. Toys 'R' Us is going gangbusters in Japan despite meager 0.5 percent economic growth forecasts. Kmart, while struggling to get back on track in the United States, has a growing operation in the Czech Republic and started operations within Singapore in 1994. Retail champion Wal-Mart is scouting new markets this year after success with Mexican discount stores. Knowledgeable people seek services that support their knowledge. As the thirst for new products and services grows, tangible and intangible barriers to open competition are challenged. Deregulation and privatization of government has spread far beyond U.S. borders, including even such conservative sectors as banking. Take the Citicorp example in Asia. Asia's rapid development and economic liberalization opened the door to dramatically expand consumer banking; still, it wasn't easy. Government rules sharply limited the number of branches foreign banks could open, and local cultures frowned on borrowing. Beginning in the 1980s, Citicorp employed heavy lobbying and innovative thinking to get around these limitations. Winning local customers with American-style round-the-clock telephone banking, it also used local messengers to pick up deposits. Then Citibank introduced car loans just as the Japanese were starting to export cheaper cars to countries such as India, Indonesia, the Philippines, and Pakistan, where the banking industry was least developed. Being an innovator enabled the bank to establish margins of 24 to 40 percent annually; while this may sound outrageous, it was the only alternative to local loan sharks who charged 60 to 72 percent. Today Citibank achieves a higher return on assets in its emerging-market business than it does domestically, and emerging-market consumer deposits are nearly as large as their market-leading domestic share. The shift from a materials-based to a knowledge-based economy also subverts traditional trade barriers. Customs agents can stop physical products at ports of entry or require licensing to provide services, but stopping the flow of innovative ideas is nearly impossible. Compared to the fax machines that circumvented Chinese authorities' ability to censor communications during the tragic uprising in Tiananmen Square, the potential of the Internet is virtually unlimited. In the meantime, while knowledge transfer is currently only a small piece of total international transactions (about 2 percent of total trade), for well over a decade world payments for royalties and licenses have been growing 75 percent faster than world trade, and 50 percent faster than overall output. Retreating to the protection of national boundaries is not a sustainable solution. Peugeot, Renault, Fiat, and Alfa Romeo have all withdrawn from the United States' import car market where they weren't competitive -- but do you think they'll thrive for long by serving only their domestic markets? I seriously doubt it. In a global economy, you can run, but you can't hide. It takes only a quick glance at your favorite sport to understand the positive contribution of competition. When you're exposed to the pressures of competing on today's global playing field, you can't help but lift your level of play. Not only does the spread of knowledge set off a chain reaction of global market growth, it simultaneously improves global production capabilities, which in turn creates opportunities that we've never seen before. For example, if you combine the new capability of former Third World countries such as Malaysia with those of multinational competitors from traditional economies, you end up with a true round-the-clock economy. In the most profound sense, the sun never sets on leading-edge innovators like Morgan Stanley or Hewlett-Packard. The work rotates with the sun; when the market traders or engineers end their respective workdays in California, Asia clocks in, followed by Europe! Think of it: it's the equivalent of having three shifts, but everyone works days. THE CASE FOR RELENTLESS GROWTH Change creates opportunity, but only for those who recognize and seize it. Cisco, Bay Networks, and Cabletron stole the data communication networking business out from under the noses of the phone companies. The large telcos couldn't see the explosive implications of the digital world on data communications through their glazed, regulatory eyes. After living so long in a regulatory stupor, the sense of urgency that permeates the Valley was missing from their experience -- so they didn't act. And of those who did act, only Cisco Systems has grown relentlessly enough to dominate the market. The moral: Seeing is the first step, seizing the second, and continuously innovating is the third. If you choose not to participate, watch out! There are no safe havens. Someone will always be nipping at your heels, trying to attract your customers, suppliers, investors, and employees over to their team. Even in slower-growing economies, innovation redefines growth opportunities. Look at what Roger Penske achieved at Detroit Diesel. Most people would not think of diesel engines as a growth industry; by streamlining operations and introducing electronic fuel injection before his competitors, however, Penske took Detroit's market share from 3 percent to 20 percent over five years. Likewise, Detroit's competitor, Cummins Engine, has established partnerships in Asia and Eastern Europe to bolster growth in the coming decade. Growth through innovation reinvigorates a company. Look at what Chrysler's series of innovations has achieved. First, the minivan -- a Ford concept, but one that Chrysler brought to market first. Then, the Viper -- not a financial windfall, but an image vehicle and invigorating. Next came the LH cars, with their cab-forward design. Shortly after that, the Neon -- a U.S. compact that is competitive and actually might make money! Then came the pickup truck, with a macho design that mimicked the big eighteen-wheelers. Just this year, Chrysler has introduced another image vehicle -- the Prowler, a retro-styled hot rod. And that's just their products. They've changed their entire design process and constructed a billion-dollar design center to foster rapid innovation. Like a Silicon Valley company, they rely on supplier partnerships for success (more so than either Ford or GM). And the financial results speak for themselves. Today they enjoy the highest profits per vehicle, and also the best morale in the U.S. auto industry. Walking through Chrysler is no different than walking through the halls of Cisco Systems, Hewlett-Packard, or Oracle. The spirit of relentless growth keeps fresh ideas flowing. THE UNIQUE U.S. ADVANTAGE Not long ago, American competitiveness was questioned both at home and abroad. During the decade following World War II, we were more competitive only because there wasn't much competition; most other industrial nations were absorbed in postwar reconstruction. But that wasn't true in the 1970s and 1980s, when we rested on our laurels and were throttled -- most frequently by the Japanese, and most visibly in automotive and consumer electronics. Being knocked on our economic keester first, however, also meant that we got started fixing the problems first. While it's going to be a dogfight, the United States is better positioned than many of its competitors for success in the twenty-first century. Below are six reasons why. 1. American companies are regularly exposed to the world's best competition, on our home turf. Our companies battle head-to-head with the world's best every day. In our increasingly deregulated economy, companies have little protection. The choices are to get tough and innovate, or get beat. For example, local American shopkeepers have to tackle giants like Wal-Mart head on, whereas our Japanese counterparts can hide behind zoning laws that protect the small storekeeper. 2. The United States knows how to create jobs. Since the mid-1980s, approximately 2 million factory jobs have vanished each year, yet the net decline in such jobs over a decade was only about 1 million. Through new startups and small businesses, we have redistributed our workforce from dying industries to thriving ones. In fact, 18 million new U.S. jobs were added during this same period (a growth rate of 20 percent), while the similar-sized European Economic Community has added just 7 million jobs. And not only have we made the shift, we've grown in industries that have a much brighter future. 3. The United States has the world's largest installed base of (and most advanced) information technology. Innovation increasingly relies on information technology to access and distribute knowledge. For almost four years, the United States has been spending more on computers and communications equipment than on all other capital equipment combined. For example, the combination of existing telecommunications and cable infrastructure enables high-speed communications (such as video) with only incremental technology development, whereas Europe and Asia lack this infrastructure. For today's retail competitors, electronic point-of-sale systems combined with bar coding enable automatic restocking of inventory. When combined with increasingly common electronic data interchange (EDI) between companies, they take the concept of the virtual company to a new level: the virtual industry. The effect of this invisible cooperation creates a force more powerful than the traditional Japanese kiretsu, because it works in real time. 4. The service sector in the United States is by far the largest, most productive, and most innovative in the world. In the context of the global knowledge economy, services become more important as wealth rises and integrated solutions become more important. Retail productivity in the United States is twice that of Japan, and our telecommunications industry holds a comparable advantage over Germany's government monopoly. Meanwhile, the U.S. financial services industry dominates the globe. 5. Embracing change is a U.S. strength. Speed is critical to winning the innovation race and while the competition is fierce, the United States excels at major paradigm change. For example, Japanese computer and electronics firms have not been able to unseat American leaders such as Intel, Microsoft, Quantum, Seagate, or Compaq. Where the tectonic plates that support markets and technologies undergo constant shearing and shifting, the United States has enormous advantages. In contrast, where relatively stable technologies make incremental improvements the basis for advantage, we still have a lot of learning to do. 6. We know how to partner. The United States is much more willing to grant local managers authority and influence in the running of foreign subsidiaries. Intel and Hewlett-Packard facilities in Asia are led by locals and now design as well as manufacture products. Meanwhile, even at Uniden -- where only 277 of 10,000 employees work in Japan -- Japanese executives run all foreign subsidiaries, and most key decisions are made at headquarters. SUMMARY Leaders who exploit the new environment by seizing opportunities for growth will redefine the industrial landscape for both their personal and our world's betterment. As I've illustrated, growth at home and abroad provides the seeds of new learning that enable you and your firm to win. And for companies in the United States, the opportunities have never been brighter. In the next chapter, I'll look into what it takes to innovate in the world of relentless growth. Copyright (c) 1998 by Christopher Meyer