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Solving the Capitalist’s Dilemma

A Review of Clayton Christensen’s HBR Paper

July, 2014

“Just as abundant, cheap fast food helped create an epidemic in obesity and

diabetes, the popularity of spreadsheets has given rise to an unhealthy dependence on

metrics like return on invested capital and internal rate of return.

“Armed with this tool, a 26 year old Wall Street analyst could explain that ‘the market’

would punish the CEO and tell her how to run her company. Not only that, the analyst

could explain that ‘the market’ would punish the CEO if she did not follow the

orthodoxies of new finance.

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Prof. Clayton Christensen

Kim B Clark Professor of Business

Harvard Business School

orthodoxies of new finance.

In a very real sense, too many executives have outsourced the job of managerial

judgement and decision making to the convenient- but ultimately unnutritious- tool.”

• Clayton Christensen’s paper reveals the systematic decline of meaning and context in modern

finance which perpetuates myopic investment and resource allocation processes. It is perhaps

the first major influential voice which lays bare the machinery of finance and its tyrannical

influence on business and capitalism at large..

• In our decade long journey, LongBrand has regularly observed similar symptoms inside

companies and systematically unraveled the knots with which management had tied themselves

with. Every engagement provided management with an alternative thesis of how capital can be

deployed behind intangible assets which in turn could drive Long-term Value.

•We couldn’t agree more with Prof Christensen that these orthodoxies which govern finance are

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•We couldn’t agree more with Prof Christensen that these orthodoxies which govern finance are

deeply entrenched and hold back ‘market creating innovations’ . However, the waters run far

deeper. In almost every company we have assessed, the invisible reservoir of brand led

intangibles (human capability, stakeholder relationships, trust and IP) which represents the

bulwark of long-term value was unwittingly being sacrificed at the altar of short-term returns and

Quarterly Capitalism.

•These tendencies are so compelling when linked to management compensation/perks that it

becomes a fait accompli even if a well meaning manager chooses to raise a dissenting voice.

They have hardened into covert mental models which have taken over companies at a deep and

fundamental level. These unquestioned axioms represent the root cause of decline in great

institutions and implosions which fell successful firms.

• Professor Christensen’s Dilemma on Capitalism could be better characterized as a Crisis of

Wealth Durability. This is Capitalism’s moment of truth posing serious questions that could

undermine free society itself. There is a need to address these paradoxes with clarity and a

sense of urgency.

• Post 2008, many radical intellectuals and economists are advancing revolutionary theories

which claim that the Capitalistic system is broken beyond repair. Their views are akin to throwing

the baby out with the bathwater. Side by side, Capitalists seem to be in deep stupor incapacitated

by their own erroneous ways to launch a collective introspection and save themselves from self-

inflicted demise.

• In the ultimate analysis, the ability of each side to seize the imagination of the larger public

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• In the ultimate analysis, the ability of each side to seize the imagination of the larger public

through their narrative and actions will have far reaching consequences for freedom &

democracy.

• The stakes couldn’t be higher for Capitalists might care to imagine. It is up to right thinking

leaders and managers to retrieve the high ground of liberal arts and social value that

management of businesses once represented.

• The following is a series of LongBrand views expressed in the context of excerpts drawn from

Professor Christensen’s paper (in italics) which aims at highlighting potential solutions to

sharply identified paradoxes and challenges of Capitalism.

• The LongBrand solutions framework begins with reinterpreting and freeing ‘brand’ from its

orthodox meaning which lies fossilized in the ‘React’ & ‘Anticipate’ levels and immerse in its

deeper layers in the “Design’ & ‘Purpose’ levels. (Refer Ways to Understand ‘Brand’)

• Basis this understanding, we propose the ‘TotalBrand’ paradigm which acts as a central axis

to unite purpose with strategic opportunities and in turn with synchronized execution and long-

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to unite purpose with strategic opportunities and in turn with synchronized execution and long-

term value. (Refer Singularity of the “TotalBrand”)

Ways to understand ‘Brand’

External Projection - Image, PR, Logo

Reactionary ‘Brand’

Analytics/Models – piecemeal measures of

satisfaction, equity, NPS etc

Increased Leverage & Opportunity

term

Value from ‘Brand’

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Anticipatory ‘Brand’ Intelligence

Systemic Structures – Central Organizing

Principle to synchronize intangibles

‘TotalBrand’ led Business Design

Collective Consciousness – Introspection

about leadership mental models which holds

true business potential hostage

Purposeful Wealth Creation

Increased Leverage & Opportunity

to create Long-term

Value from ‘Brand’

The Singularity of the ‘TotalBrand’

Quest for aHigher Purpose

Coherence ofIntangibles

Piecing theAdded ValueJigsaw

Non-LinearFinance

Introspection MeaningfulOpportunities

Synchronized Execution

Long-term Wealth Creation

Axis of Unity

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Jigsaw

‘ We need new tools for managing the resources that are scarce and costly.’

LongBrand View – Businesses have been blind sided by the swift rise and increasing dominance of brand led intangibles and their impact on wealth creation. In today’s world, soft assets like reputation, human capabilities, intellectual property & stakeholder relationships are so scarce and potent, that they drive efficient and effective use of capital.

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Management has little or no visibility to direct investments into future value-producing activities driven by brands and intangible assets. Consequently, they remain overbalanced towards short-term fire fighting priorities . This has a debilitating effect on their ability to release the true business potential through innovation and optimal use of established reputation and relationships.

The impact of Brand & Intangible assets on Long-term Value is virtually unknown in most boardrooms save through intuition and gut feel of senior leaders/owners. This a significant governance gap allowing short-term tendencies triggered by Quarterly Capitalism to take over the cognitive construct of the firm.

‘We should no longer husband capital. It is abundant and cheap. We should use it no hoard it’

LongBrand View –

One major reason why even senior managers do not, as a rule, understand the limits of financial capital as a means to securing long-term value is their mistaken notion that conventional accounting data and financial analysis/ratios gives them a strategic picture. They completely miss brand and intangible value

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financial analysis/ratios gives them a strategic picture. They completely miss brand and intangible value drivers and their implications from a long run risk/reward perspective.

By better appreciating the real value of these potent invisible assets, companies can deliver significantly higher returns on capital both in the short-term as well the long run. Only then capital can be given a worthy goal which is goes much farther than cost cutting or driving out efficiencies.

‘We need new ways to asses investments in innovation.’

LongBrand View - Too often tactical measures on intangibles are tracked by companies across customer loyalty/employee morale/innovation/brand equity in the hope that such measures can provide a guidance into the future. Our experiences show that no silver bullet piece meal measure can explain causal pathways that drive the whole body of intangibles together. Further, conventional ‘brand and intangible asset’ valuations produced for accounting and financial purposes have little strategic utility

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intangible asset’ valuations produced for accounting and financial purposes have little strategic utility beyond ascribing a static valuation.

It is critical to bear in mind that unlike tangible assets which work well as discrete entities, intangibles require a very high degree of synchronisation to deliver their full potential. In other words, intangibles need to be studied through a singular axis and mutually reinforcing coherence.

A purpose led intangibles architecture has the ability to piece the long-term value creation jigsaw together. Without this lens, senior managers will find it next to impossible to visualise the fuzzy interplay of customers, employees, innovation and IP inside firms. Studying them in isolation will lead to erroneous and damaging conclusions however rigorous the piecemeal analysis is.

‘ Repurposing Capital – Capital itself is highly malleable in that certain policies can convince capital that it wants to do thing differently. Today much of capital is what we call migratory. It lacks a home’

LongBrand View –The flow of capital guided by special purpose gives a shape and form to the intangible architecture of a firm can deliver extraordinary financial returns. Only Purpose driven capital can break away from the gravitational pull exerted beyond the exigencies of short-term financial metrics. Unless such a breakthrough argument is fully visualised and adopted, capital cannot

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metrics. Unless such a breakthrough argument is fully visualised and adopted, capital cannot meaningfully anchor into any enterprise.

The onus of creating that cogent argument around the true potential of a firm squarely rests on the stewards of the company. There are no significant gains to be had in criticizing the migratory nature of capital, invoking taxes or to that matter rewarding shareholders through voting powers.

The owners need to marshal their long-term value creation thesis which attracts the right kind of capital and thereafter convince them about the merits to participate for the full potential from the purpose led intangibles. There can be no greater argument which compels any right thinking capital provider than a Purpose led Wealth Creation model.

‘Rebalancing Business Schools – Much as it pains us to say it, a lot of the blame for the capitalist’s dilemma rests with our great schools of business including our own. In mapping the terrain of business and management we have routinely separated disciplines that can only be properly understood in terms of their interactions with one another and we have advanced success metrics that are at best superficial and at worst harmful’

LongBrand View – The industrial age value creation logic which worked well with inanimate tangible assets has cast a long shadow on how management is taught in business schools. It excelled in a

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assets has cast a long shadow on how management is taught in business schools. It excelled in a mechanistic world view of breaking problems down through Cartesian logic. Little wonder a Harvard student invented the excel sheet, the epitome of linear value creation approaches.

The soft humanity based assets of companies behave in ways radically different , demanding less command and control and more interconnectedness, meaning and purpose. They also tend to work in tandem almost in harmony than merely standalone efficiency. Most importantly, their value creation ‘models’ are fuzzy with non-linear characteristics.

Business schools will do well to start integrating philosophy, humanities and arts into their curriculum to foster multidisciplinary capabilities. Linear analysis needs to be married with Non-linear holistic mental frameworks.

‘Realigning Strategy & Resource Allocation – If we are realistic about the true cost of capital investing in the long-term becomes easier’

LongBrand View - Enterprises are paid to create wealth from business assets, not simply control costs. But that obvious fact is not reflected in financial and MIS systems available inside most companies today. Due to the legacy from the tangible-asset-heavy era, information required to make informed judgments about how brands, customers and innovation add economic value remains hazy at best.

Our experience shows that transparency of information to gain visibility into brand and intangible economics can be significantly improved and requires three sets of diagnostic tools:

Foundational information: This is basic information pertaining to brands / products / stock keeping

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Foundational information: This is basic information pertaining to brands / products / stock keeping units (SKUs) /customer segments / innovation projects to construct a true and comprehensive financial position of the economic value creating unit.

Productivity information: This is the business output information derived from foundational information across brands / products / SKUs / customer segments / innovation projects.

Resource allocation sensitivity: This acts as a decision making tool for allocation of capital and management resources, with better clarity as to where /to what extent long-term value is resident in brands / products / SKUs / customer segments/ innovation projects.

‘Emancipating Management– Many managers yearn to focus on the long-term but don’t think it is an option. The job of a manager is thus reduced to sourcing, assembling and shipping the numbers that deliver short-term gains’

LongBrand View – Long-term Value in Intangibles (LTVI) is able to articulate future scenarios and their drivers with economic rewards / penalties attached to them. Often, it is only when the true potential at stake is completely understood and internalised that organisational functions galvanise around a common axis for coherence and interconnectedness.

Boards need to have a deep engagement with these long-term value creation scenarios. Their deepest

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Boards need to have a deep engagement with these long-term value creation scenarios. Their deepest responsibility is to ensure that the company’s most valuable assets are held together by a well-tested strategy.

The next most important responsibility is to ensure that performance management systems andcompensation for the senior executive team are aligned to the long-term sustainable value of the business, rather than just short-term financial results.

Boards are inescapably about risk management, and the risk to humanity based assets should surely rise to the top of their agenda. Locating the stewardship of these precious assets to secure corporate sustainability cannot and should not be postponed.

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Management hinge assumptionshinge assumptionshinge assumptionshinge assumptions and mental models and mental models and mental models and mental models often lead

them to believe that more nearmore nearmore nearmore near---- term revenues/profits areterm revenues/profits areterm revenues/profits areterm revenues/profits are being made at less risk,less risk,less risk,less risk,

but in reality, but in reality, but in reality, but in reality,

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but in reality, but in reality, but in reality, but in reality,

firms have disproportionately smaller longhave disproportionately smaller longhave disproportionately smaller longhave disproportionately smaller long----term revenues/profits term revenues/profits term revenues/profits term revenues/profits

at significantly larger riskssignificantly larger riskssignificantly larger riskssignificantly larger risks

• The whole firm does not function as a whole; it is a set of separate functions/fiefdoms

• Loss of unity leading to disintegration of culture, values

• Yawning coherence gaps through which ‘Vital Value’ of brand & intangibles bleeds out

• Short-termism, self deception, poor ‘bad news’ flow

THE BODIES BURIED

UNDER THE GROUND..

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• Owner, boards and management teams work in isolation

• No meta model to forge these connections to comprehend the whole problem

• Transition Generation – we are traveling through it now

• A real opportunity make a clean break and start afresh

• Significant value creation implications (risk/reward) for firms

• Complexity and change force us to go back to the drawing board

NEVER WASTE A GOOD

CRISIS!

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• Complexity and change force us to go back to the drawing board

Very interesting….Your proposal of Long- term wealth creation is

hitting the nail on its head.

A long time ago a ceo asked me the following question “what do you do if

you are far out on the sea in a rowing boat full of gold and it is

leaking with many holes….what should I do?”……..

Companies have to understand the difference of gold and real wealth.

Real wealth, is in the form of a water pump or small lifeboat

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Geir Berthelsen

Founder

Real wealth, is in the form of a water pump or small lifeboat

outboard motor.

A shift from the gold standard/currency to the wealth standard is

a thought that makes sense now.

Christensen's paper has likely created a thought vacuum for many

business people and finance practitioners It is critical to quickly breathe

fresh new ideas into that vacuum.

I think your powerful ideas about brand and long-term wealth creation

are the very resonance needed to solve the capitalist's dilemma.

It is critical for businesses to have an axis around which all things

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Jason Apollo Voss

Director, CFA Institute, NYC

It is critical for businesses to have an axis around which all things

revolve. This, of course, is the central identity, or brand.

PurposefulPurposefulCapital Capital PurposefulPurposefulCapital Capital

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RETURNS RETURNS RETURNS RETURNS

Brand ledBrand ledIntangible Intangible Architecture Architecture

Brand ledBrand ledIntangible Intangible Architecture Architecture

LongLong--termtermValueValue

LongLong--termtermValueValue

Consciousness of Long-term Value

=

Brand led Intangible Architecture

=

Unity of Purpose for Coherent Enterprises

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Unity of Purpose for Coherent Enterprises

The Conscience Keeper of a firm!