The “second estimate” of the 1st quarter GDP is out, and as I noted in my earlier posting on the preliminary estimate, the number has significantly changed. According to the latest data, U.S. GDP grew at an annual rate of only 1.9%, compared with BEA’s advanced estimate of 2.2%. GDP growth in 4Q 2011 was 3%.
Part of the reason for the downward revision was larger estimate of the declines in federal, state and local government spending. Clearly government cuts in spending continue to be a drag on GDP growth.
The good news concerns spending on equipment and software. The preliminary estimate had it growing by only 1.7%; this advanced estimate has equipment and software spending growing by a more health 3.9%. That is still below the trend line for the last two years but much better than the huge declines in the early part of the Great Recession.
And, as I have noted before, the data has a basic problem in that it does not give us any guidance on investment in intangibles other than software. So we do not know whether companies have increased or decreased their investments in important areas such as human and organizational capital.
Note: these are still estimates subject to potentially large revisions. The next revision will be released on June 28.
In an earlier posting , I referred to the Commission of Experts for Research and Innovation of the German Federal Government. In their 2011 report, they make an important point about innovation and R&D:
Non-insignificant numbers of innovating companies in Germany do not rely on research and development in the conventional sense. It can be useful to provide support for such companies in cases in which the support enhances use of existing knowledge, and in which it enables innovative companies without R&D to carry out research on an ongoing basis.
This finding tracks the U.S. experience as well. According to data from the National Science Foundation, only about 3% of the 1.5 million for-profit companies surveyed conducted any R&D (see “NSF Releases New Statistics on Business Innovation” and “Business Use of Intellectual Property Protection Documented in NSF Survey” and an earlier posting).
Case in point is an earlier posting where I described the re-cladding the National Gallery’s East Building. To do the job, the construction company had to invent new components for anchoring the marble slabs. The technique and components were developed by engineers and perfected in a special training facility. Yet, I’m not sure that the construction company would report on a survey that it was doing R&D.
The construction example is what the UK’s NESTA has called “Hidden Innovation.” NESTA has identified four types of hidden innovation:
Type I: Hidden innovation based on science and technology but excluded from traditional indicators for methodological reasons.
Type II: Hidden innovation in nonscientific and technological forms such as new forms of organization and process.
Type III: Hidden innovation from the novel combination of existing technologies and processes.
Type IV: Hidden innovation that takes place ‘under the radar’ of many surveys – locally-developed, small-scale, incremental innovation.
There is another form of innovation (and “R&D” investment) that does not get picked up in the standard R&D measures. A couple of articles in the MIT Sloan Management Review on “The User Innovation Revolution” (The Age of the Consumer-Innovator by Eric von Hippel, Susumu Ogawa and Jeroen P.J. de Jong and an Interview with Eric Von Hippel) revealed an astounding statistic:
Recent research by Eric Von Hippel shows that spending on consumer innovation (creating and/or modifying consumer products) in the US is about $20 billion — which is about 1/3 of the total level of company spending on consumer product R&D.
In the UK it is about $3.6 billion or almost 1.5x total company spending on consumer product R&D.
In Japan it is only $5.8 billion or 13%.
All of this leads to the same conclusion as the German Commission of Experts for Research and Innovation: we need to rethink how we view “R&D” and “innovation.” In a our working paper Rethinking Innovation Policy (and earlier posting), we noted that “Innovation policy needs to catch up to the innovation process.” Broadening our thinking from “R&D” to “knowledge creation and utilization” might be a good starting point. Now, how do we, as the German’s suggest craft policies to match that broader view?
Select tweet and re-tweets from the past week:
In numerious previous postings, I have held up the now-bankrupt Circuit City electronics retail chain as the example of how not to foster your intangible assets. So here is an analysis from Strategy+Business about a retail chain that seems to be doing it right: “How Ikea Reassembled Its Growth Strategy” [registration required].
Ikea has built its business around low prices and leveraged its customer loyalty into a strong brand. Ikea’s founder Ingvar Kamprad had a reputation as a vigorous cost cutter. But it is not just about cutting cost, as Circuit City found out too late. Ian Worling of Ikea explained how the company coped with the recent economic downturn:
We didn’t focus on cutting costs, because that’s the easiest thing to do in retail. You just lay people off, and cut back some of your capital expenditure, and it reduces your variable costs. But it also weakens you. Instead, we decided to make structural changes — to rethink our practices.
. . .
We did not cut back on our investment in retail stores. We own all of our buildings and land, and our stores are custom built and designed for efficiency and sales potential. We want people to feel at home in our stores, which is why we include the restaurants and child-care facilities. We decided to keep our investment, not just in new stores, but in extending and expanding our existing stores. We think it’s just as important to improve the way we serve the customers we have today as it is to take on new customers
Note that there are two important intangibles at work here: customer relations (the “customer experience”) and the technical know-how to design the store for efficiency and sales potential.
Investing in stores was one key to Ikea’s strategy. Increasing volume and better managing the supply chain were also important. But it was also the workforce:
The fourth area involved empowering our co-workers. We try to keep the center of the company relatively lean, and not make too many decisions centrally that would be better made in stores or factories close to customers and suppliers. Therefore, we must have a strong group of co-workers who can make the right decisions to support our strategies.
. . .
Our biggest advantage was Ikea’s culture and value. Culture is extremely important at Ikea, even more so than at other companies. We work hard to ensure that as new people come in, they understand who we are and what we’re trying to do. The people who work here genuinely want to be here and share Ikea’s core values of cost consciousness and humility. I suppose that we must do a lot of things reasonably well, but we never talk about that. We always talk about where we’ve disappointed people and how we can do better. When we have a particularly good triumph, you’ll hear someone say: “Okay, we’ll take one minute now for satisfaction, and then move on.”
In summary, the key’s to Ikea’s success has been investing in its intangible assets: relations with customers, deep knowledge of store design/functionality, and its workforce. That makes it the anti-Circuit City in my mind.
I have been arguing for a number of years that intangible assets can be valuable in securing a loan. In a number of reports (and posting on this blog), we have discussed examples of intangibles being used as loan collateral (for example, see Maximizing Intellectual Property and Intangible Assets: Case Studies in Intangible Asset Finance and Intangible Asset Monetization: The Promise and the Reality). In fact, I like to point out that this has been going on for a long time. The first trade secrets case in the United States involved the debt on a bond secured in part by a secret chocolate-making process in 1837. In 1884, Ara Shipman loaned Lewis Waterman $5,000 to start a pen-manufacturing business, secured by Waterman’s patent.
One of the lesser know recent example was the use by Ford of its iconic blue oval logo to backstop a loan pacakage. Now come word, via a New York Times story, that Ford has met the terms of the 2006 loan and reclaimed the logo. No word in the story about what the logo was valued at.
Such deals, however, continue to be closer to “one-off” activities. Intangibles should be part of the routine loan evaluation. One important step would be developing sound, industry-wide, underwriting standards for intangible-backed debt. A step in that direction would be for the Treasury Department, the Small Business Administration (SBA) and other entities that administer government loans and loan guarantees to work with commercial lenders to develop standards for using intangible assets as collateral. Creating a common intangible-backed loan underwriting standard would go a long way to routinizing the use of intangibles.
Yesterday, the OECD released its new report on its Skills Strategy: Better Skills, Better Jobs, Better Lives: A Strategic Approach to Skills Policies.
The strategy is build around three parts:
I. Develop skills
II. Activate skills
III. Putting skills to work
What especially like about the strategy is that it goes well beyond a focus on the individual’s skill set. Yes, there is a discussion of education and training activities — including on the need for both “hard” and “soft” skills and the importance of hands-on workplace training — which goes beyond much of the narrow focus in the U.S. of STEM education and manufacturing-based skills. But what sets this report apart is its treatment of the organizational responsibility for utilizing the skills of the workforce. Some of the recommendations include:
• Create financial incentives that make work pay
• Discourage early retirement
• Facilitate mobility
• Help local economies move up the value chain
• Foster entrepreneurship, and
• Help employers to make better use of their employees’ skills
That last point is of special interest to me. Too often we hear about companies who claim that “workers are our most important asset” and then act as if workers are just another cost. I have long argued that we need policies to help foster the development of high performance work organizations that promote the utilization of worker’s skills and knowledge. In that regard, the report specifically highlights the efforts of the Nordic countries in developing programs and policies to promote workplace change and innovation. [BTW – the Skills Strategy also directly references the OECD Innovation Strategy (see earlier posting)].
Let us hope that policy makers in the U.S. will take a hard look at the OECD report and embrace its broader message. One of America’s greatest competitive advantages is the skill and knowledge base of its workforce. We need to maintain and improve that intangible asset. Doing so will require looking beyond just the individual to the organizational utilization of those skills as well.