With intangible assets now comprising 81 percent of business assets, boards need a broader strategic grasp of investments and assets
Visionary management consultant Peter Drucker once said: ‘Every organization has to prepare for the abandonment of everything it does.’ Never have his words been more relevant. What is driving today’s imperative for corporate boards to jettison old forms of governance and embrace new ones? The answer is literally at our fingertips: the power of today’s technologies. Every age has had a signature transformative leap, from sailing ships to railroads to the telegraph. In the 21st century, the leap is to four digital technologies: social, cloud, mobile and big data. It would be difficult to overstate the impact these technologies are having on every aspect of business and management oversight today. What used to work doesn’t any more – it’s time for a new approach to corporate governance.
Consider this: more than 1.5 billion people – more than the populations of the largest countries – are connected via social media. These online social networks have the ability to turn an industry, company or product into an overnight success. They can also take down a business or government, as we saw in the Arab Spring and are witnessing again in the Middle East this year.
We also live in the era of big data. Google processes 1 million gigabytes of data every day; that’s thousands of times the quantity of all the printed material in the Library of Congress. The number of messages on Twitter now exceeds 400 million a day. If all the digitally stored data in the world was printed in books, it would cover the surface of the US in a layer 52 feet high. And every minute, 48 hours of video are added to YouTube and 204 million emails are sent.
These numbers are staggering, and they vividly illustrate the new world in which corporate directors live. The 2.5 quintillion bytes of information being created each day are an enormous potential resource for board members of every company and for every industry. But much of big data is lost or ignored by corporate directors. The Conference Board and the Rock Center for Corporate Governance at Stanford University found that 93 percent of firms do not mine relevant information from digital data for better decision making that mitigates risks. This is unacceptable.
Today’s corporate leaders must adopt a new, more data-centric model of decision-making if they want their organization to prosper. We call it Governance 2.0: corporate governance in the big data age, and it bears little relation to governance 1.0, the board-level concern with keeping an organization legally and ethically compliant in terms of regulations and the relationships between its stakeholders. Governance 1.0 is all well and good, but it’s time for an expanded understanding of governance, for a fundamental rethinking of existing management practices and organizational structure. At the center of Governance 2.0 is big data created by the social, mobile and cloud revolutions that surround all organizations, regardless of size or industry.
It is important to put this in context. The digital universe is creating a new set of rules for corporate directors: the free flow of information and unbridled communication between companies and virtual communities – both established and short lived – are two key characteristics.
This democratization threatens many boards and their leaders. A surprising statistic: fewer than three in 10 CEOs use social media to connect to their constituencies. This reluctance presents a real danger for the organizations they lead. Without firsthand knowledge and mastery of these technologies, how can these leaders lead effectively?
Governance 2.0 starts at the most basic level of organizational thought: strategy, meaning decisions on where and how to invest a company’s resources. Traditionally these decisions were focused on tangible assets, such as factories, real estate and inventory. Employees and suppliers entered the ledger books as expenses, customers as income. These outdated categories ignore the new reality, which sees the value of intangibles, which include brand equity, customer and human capital and intellectual property. Ignore these intangibles and bad strategic decisions may follow.
According to the International Integrated Recording Committee, 81 percent of business assets today are intangible; physical and financial capital comprise less than a fifth. These intangible assets often go unmeasured. Governance 2.0 demands a broad strategic understanding of both investments and assets.
Let’s look to Detroit for an example. Ford Motor decided to build a global car that could be sold anywhere with very few adjustments. The company looked for the best functions in all its vehicles across the globe.
Ford’s European cars have had three-blink directional signals for years. When the driver presses a button, the signal blinks three times and then shuts off. The feature was popular, and Ford was considering making it a world standard. But instead of undertaking costly and time-consuming market research, it turned to data mining. Using custom software, it scoured car-lover websites in search of comments about directional signals. It culled 10,000 mentions and distilled them down to the most salient. It turns out drivers were hungry for more convenient turn signals – three-blink was rolled out on the 2010 Fiesta and is now a popular feature offered on almost all Ford vehicles worldwide.
Finance is a key component of leadership, particularly at the board level. In order to make smart financial decisions, leaders need the right information.
In the past, leaders concentrated on measuring revenue, earnings, stock price and other bottom-line data. Governance 2.0 shifts the focus from this retroactive and limiting data and places it firmly on real-time, emerging and expansive social, mobile, cloud and big data. Not measuring your organization’s digital footprint and potential is willful ignorance that will lead to uninformed financial decision making.
Finance 2.0 demands a new outlook. In the past, financial and other decisions have been internal – energy, assets, strategy, operations and capital were focused within. Today, leaders must look beyond their organization’s borders, to the technologies that connect them to all current and potential stakeholders. These are untapped sources of enormous value and opportunity and must be integrated into the overall financial picture, an integral part of decision making, starting with the chief financial officer.
Let’s consider an example of smart finance that used hitherto ignored metrics. Michael Lewis’ insightful and entertaining book Moneyball and the movie based on it tell the story of how the Oakland Athletics baseball team threw out the old recruiting handbook and used new measures to build a winning team.
For more than a century, major-league teams had relied on stolen bases, runs batted in and batting average to evaluate potential hires. Players who scored well in those areas commanded top salaries and bonuses; they were, in a word, expensive assets. The Athletics used rigorous statistical analysis to demonstrate that on-base and slugging percentages are superior indicators of offensive prowess. Using these measures, the team identified and then obtained undervalued assets (players).
The result? The Athletics were able to build a winning team while spending less than a third of what the dominant New York Yankees spent on player salaries.
Two decades ago, James Champy and Michael Hammer upended the world of business with their seminal book Re-engineering the corporation. But the reforms their book inspired are not merely irrelevant to this new challenge – they are an actual hindrance to meeting it. Under Governance 2.0, we must not just re-engineer but reinvent the very concept of the corporation.
Champy and Hammer understood that most companies were poorly equipped to deal with the growing demands of sophisticated customers and the looming loss of once-safe markets. Many organizations were being strangled by their own outmoded structure. The authors’ essential message is that work should be organized in terms of processes rather than by tasks or functions. The idea swept through the corporate world – leaders could see that their divisions were operating as individual fiefdoms, treating other divisions as rivals rather than allies. With a re-engineering perspective, leaders could see the gaps in their operations and reorganize around processes to close them.
Re-engineering was largely employed internally, to reduce costs, increase quality and boost efficiency. This is why it is irrelevant today. Internal processes cannot be ignored, of course, and under Governance 2.0 they also enjoy improved efficiency, but it doesn’t stop there. Governance 2.0 reorganizes processes across organizations and communities to deal with today’s porous world of big data, social media and the digital communities and capabilities this information empowers.
An example of this new paradigm is Warby Parker, an online retailer that sells premium eyeglasses at a fraction of the cost of designer versions. The company’s secret? Founder Neil Blumenthal found a way to cut out the traditional cast of middlemen by minimizing physical assets. Blumenthal had ‘been to the factories and knew what it costs to manufacture glasses,’ he recalls, and the process didn’t warrant a $700 price tag.
He and his partners sketched some frames and hired the same people who make the designer labels to manufacture them. Then they started advertising and selling their products directly to consumers online. When the brander, wholesaler and retailer were left out of the equation, Warby Parker could sell its glasses for just $95 a pair; governance 2.0 had rendered long-established manufacturing and selling processes obsolete.
Today, every company is a technology company, and smart organizations are embracing all things digital. Perhaps the most counterintuitive (and profitable) example of this is Starwood Hotels, which is selling many of its hotels to focus on the management and franchising components of the hospitality industry. Its key tool in this new core competence is digital technology.
Amazon is another company using digital technology in exciting ways, transforming its customers’ physical assets by sending their CDs and vinyl records into the cloud. The innovation, called AutoRip, was launched in January 2013, and works by automatically sending MP3 files of every CD or song a customer has bought in Amazon’s Music Store, dating back to 1998, to his or her Cloud Player library.
According to Steve Boom, Amazon’s vice president of digital music, ‘it’s a fun experience to suddenly find CDs you bought just today – or 15 years ago – added automatically and free of charge to your digital library.’
To become Governance 2.0-capable, boards must first incorporate big data into their decision making; it’s no longer sufficient just to rely on financial and operating data. Boards needs to request and require big data (including social) in each and every board pack. Board members who are savvy when it comes to digital technology must be recruited: financial and operating expertise was once enough, but given that less than 10 percent of corporate directors are technologists, it’s insufficient for today’s digital realities.
Next, boards should develop an overarching digital-centric strategy in order to take advantage of the opportunities provided by Governance 2.0. As noted above, every great business today realizes that it is operating in a digital environment, so creating a digitally centered business model is essential for long-term value creation.
The digital world has unleashed a modern-day gold rush for organizations that redesign their business models. Governance 2.0 enables leaders to understand the implications and possibilities today’s technologies afford – giving board members the tools and insights to lead their firms to the highest levels of performance.