Knowledge and Competitive Advantage: The Fibre of Success

While explaining the development of the industry, the writer attributes the success of German dye firms to their access to quality knowledge centres in organic chemistry and their strong marketing structure. With very little patent protection in the hey-days of German dye industry, the German firms had to face very fierce competition and always strive to find cheaper ways to produce the goods. Like any commodity or consumer product based industry, they had to develop a strong marketing organisation to differentiate themselves from the competition. It is said that what does not kill you makes you stronger. Nothing could be more true about the firms like Bayer and Hoechst that survived this cut-throat environment. The marketing efforts involved activities like localizing packaging graphics, making efforts to educate customers in order to foster customer retention and kickbacks. Even though the writer praises the marketing efforts of Germans, it is noteworthy that such generalist statement are simply not true. As we have read about Deutsche Bank, many famous German institutions made horrendous mistakes with their marketing tactics while most British alcoholic beverages companies did an excellent job of the same. Building on what the writer states and my understanding, I would say that it really depends on a particular organisation, the state of the industry it operates in (both nationally and internationally) and the knowledge centres available to it (depending on the national institutions and culture). National cultures and institutions can combine to give the industry specific advantages and disadvantages, but to predict how they will do so is anybody's guess and it is only with the benefit of hindsight that one is able to attempt to put a structure around it.

As national institutions affected the growth of dye industry, the vice-versa was also true. Dye industry leaders in Germany rallied effectively for the most part to promote education in organic chemistry, creating a virtuous circle. The business-academia-government partnership promoted education. The business leaders also played an important role in the growth of the company. For example, strong entrepreneurial leadership and willingness to bring in professional managers helped Bayer to become a powerhouse. The development also explains the dynamics of first-mover advantage, the mechanics of exploration in a new industry and the institutionalisation of R&D for technology based industries. The writer asserts (and I agree) that chance does indeed favour the prepared mind. The first-mover advantage is a fact, but political changes, wars and complacency are facts as well. The only truth is that one has to keep eyes and ears open without fail, look towards the future with an entrepreneurial spirit, respect and remember history without carrying its burdens and yet remembering its lessons, ethically promote institutions and lobbies that are good for the business and to be able to nurture and reward talent. To cut it short, it was never easy and never will be. But it was always fun and will always be!

Knowledge and Competitive Advantage: Development of Knowledge Centres

This book specifically focuses on three countries: UK, US and Germany. In order to make the user understand the context of observations, the writer explains the attitude towards education in these three countries and its corresponding effect on the dyes industry. But what were these attitudes?

In UK, where the first industrial revolution was led by inventors and tinkerers with no special education background, education on the whole was ignored in favour of practical experience. Except the centres of excellence at Oxford and Cambridge, not much attention was paid to education. This was especially true for synthetic organic chemistry, a crucial component for the development of the dyes industry. Even though London was plush with imperial capital, it found itself lagging behind Germany and US in this sector.

The US spent heavily on education, but with a very pragmatic outlook. Generally, only if research could prove directly and immediately beneficial was it encouraged. Engineering, management and other practical disciplines got a major boost and in turn contributed to the growth of US as an industrial superpower. US, however, largely ignored research for research's sake and consequently lagged behind in organic chemistry. Nevertheless, it researched production of base chemicals and its firms producing base chemicals were fairly competitive in the global arena.

Germany made research and knowledge the backbone of its industrial setup. Its strong knowledge economy and commitment to research helped it to produce figures like Hoffmann and Kekule in the field of organic chemistry. This, along with the fortuitous timing of the German patent law, helped Germans to dominate the global pharmaceuticals and synthetic dyes industries. Overall, students who wanted to study organic chemistry needed to know German and many travelled to Germany to obtain PhD in organic chemistry.

Knowledge and Competitive Advantage: Of Evolution and Dyes

I have started reading "Knowledge and Competitive Advantage: The Coevolution of Firms, Technology, and National Institutions" by Johann Peter Murmann. My first impressions are of intelligence and almost a child-like enthusiasm in the writer. He tries to "woo" all audience, trying his best to be agreeable (the way he tries to explicitly and elaborately tries to disassociate himself with biological aspects of coevolution is a case in point). Another aspect of worry is that the writer evaluates the growth of industry only till 1914, the eve of WWI. This would give a distorted picture of evolution as it squarely ignores an important aspect: political risk. Sometimes the national institutions that are responsible for a country's rise also contribute to its downfall. This important dynamics of power is squarely ignored. There is a difference between achieving progress and in sustaining the progress, I feel. Nevertheless, the book may prove valuable in understanding the basics of coevolution theory and enable the reader to develop a different way of viewing industrial progress. The book also promises to shed some light on the development of patent laws and their application in UK, US and Germany. The writer also intends to study the subject post WW1 in some future book.

The first thing that I gathered is the concept of "initiator" and "replicator" used to define a coevoluting system. Initiator is the actor that actually interacts with the environment (the manager, employees etc.) and the replicator is a unit that is being replicated in the environment, is responsible for affecting the actors and plays a crucial role in survival (genes, company culture). I also came to know why purple is considered a royal color: before synthetic dyes the color was from a natural dye called Tyrian Purple. This was very expensive and hence only the rich and the royalty could afford it. Hence the association of purple with royalty. The writer goes on to explain the major technical innovations and changes that led to the growth of the synthetic dye industry, and the way this led to the gradual extinction of the natural dye industry. It also explains how and why R&D laboratories came to dominate the industry and lone inventors were not as effective on their own: it is one thing to invent something and another thing to be able to get commercial value out of it. It required not only the traditional investment in marketing and distribution but also persistent effort to make the production process cheaper, reliable and mechanized. This translated into huge costs that could not be afforded by a single individual. This reinforces the observation that capital-intensive industries with small product life-cycles are best served by big companies run by professional managers.

Striking Down the Economy

Does union action stand for a fight against exploitation and injustice? I would definitely not say so about the planned 20 day strike action by Unite, the British Airways union. Driven by an impeccable, self-righteous sense of entitlement, Unite seems to be in a relentless, suicidal pursuit of destroying economic value. It seems that it is taking a sadistic pleasure in killing the very source of its own bread and butter without taking into account the current economic scenario.

The boding is not very good as heaven only knows what mayhem will be unleashed once the new Government tries to put in austerity measures. it doesn't look like that UK is game for the impending hard times, and unions would lead this charge of self-immolation. I wonder what lies ahead.

The PE Governance Model and its Implications

PE promises a new governance model that is more ruthless, hard-nosed and realistic when compared to traditional governance models (family-owned, professional managers controlled by a Board of Directors - public or private). Although I have to take it with a pinch of salt as I believe that too much pressure can destroy team fabric, there is some truth to what is being said here.

PE firms are anything if not efficient. The pressure brought on by debt forces them to a discipline not seen in other private or public firms as it forces them to monitor their dealings closely. In absence of the sword of debt hanging on their heads, as will be the case with PE firms going public, it will be interesting to see if the PE model holds. Further, ignoring the human element of business can be a dangerous mistake, especially because humans can vote in elections and can influence. Hence, I am not surprised why PE firms seem to be the favourite punching bag in the current financial crisis. Step on a few feet, make some enemies and wait for them to get even. Personally, I think it is an excellent model capable of delivering value due to its meritocratic and impersonal approach. But it is likely to make them more enemies, something that may be responsible for that talks about PE firms being punished for a crime they never did. PE firms need a strategy to re-package (but not change) their governance style, I say.

Legal Obligations for PE and its Implications

Merger and Acquisition activities are bread and butter to Private Equity, and M&A activities are directly affected by Antitrust Regulations in the US. Hence, PE firms need to be aware about them. This is what I learned about the main Antitrust regulations in USA:

The Sherman Antitrust Act of 1890 prevents companies from horizontal/vertical price fixing, boycotts, bid rigging or forming cartels/market allocation. This focussed on limiting monopolies. It, however, did not outlaw any attempts to reduce competition. This was addressed by Clayton Antitrust Act of 1914 that further prevents interlocking directorates, price discrimination, acquisitions with the view to reduce competition and tie-in sales agreements (unless needed to maintain selling company's goodwill). The Federal Trade Commission Act (FTC) of 1914 further prohibits using market share to strong-arm the suppliers and using misleading/false advertisements. Robinson-Patman Act of 1936 was brought in to "save" small retailers from chain stores by prohibiting price-discrimination that is not cost justified or that is not done in response to a competitor's price- an odd-man (according to me) that stands out for its populist undertone. An anti-merger loophole in the Clayton Antitrust Act was closed by the Celler-Kefauver Act of 1950, which prevented acquisition/merger by buying of assets (earlier act outlawed acquisition by buying of stocks only). Hart-Scot-Rodino Antitrust Improvement Act of 1976 further tightened the regulation by making it mandatory for companies to go through at least a 30-days waiting notice period for a merger or acquisition. In principal, this allows the authorities to investigate the case thoroughly, ask for more information and decide if it violates the anti-trust laws.

Overall, the Antitrust laws in US seem robust and well developed. These laws are further supplemented by a long and inclusive list of more than 40 laws to protect consumer rights, indicating a well developed consumer protection system as well. PE firms need to take them into account, depending on the industry vertical they are operating in. In addition to Antitrust laws, PE firms are also affected by laws governing the Capital Markets. This includes 8 different acts, including the recent Sarbanes-Oxley Act of 2002. It seems the PE firms rely on the exceptions stated in the laws governing the Capital Markets to prevent or reduce the overhead associated with it: offering the securities to a limited number of accredited investors (499) with a pre-existing relationship with the firm. All the same, the bottom line that I gather is that private equity functions can get impossibly out of hand in the law-maze without the presence of an able lawyer in the team. After reading "World's Newest Profession" by Dr. McKenna, I also gather that Management Consultants may to be involved to keep clear of legal issues. I am not sure about this as PE firms have their elaborate processes to impose internal control and check fraud, which if sufficiently developed or recognized may obviate such a need. No matter which way it turns, it makes my head reel to think of the amount of bureaucracy and paper-pushing inherent to businesses at larger scale.

Re-discovering a Ghost

Just finished reading "A Ghost's Memoir: The Making of Alfred P. Sloan's 'My Years with General Motors' " by John McDonald. It is a small book of 187 pages, and I found it so interesting that I finished it in barely 2 days. That is what can happen to reading speed when a book is good. Perhaps in terms of pure business education this book may not have as much to offer in absolute terms, but in terms of realism, strategy, organizational behaviour and group dynamics, the book offers some remarkably deep insights. It is an ode to a person without whose effort the world would not have seen one of the best books in business studies. The book does not reflect well on Peter Drucker, whose introduction to the revised edition of Sloan's book appears both delusional and ridiculous in light of the facts presented in McDonald's book.

I cannot help but observe one thing: a strategist needs to remain unobserved and even under-estimated while being very alert and perceptive, making the right moves at the right time to be silently influential. This, however, can translate into a genius dying unheard and unsung in his time. Only in the long-term and only if somebody is willing to dig enough does the genius appear. A strategist needs somebody who can handle his PR and marketing without jeopardizing the strategist's position of power or influence. A tricky bit but is perhaps necessary. Like Mr. McDonald became a channel to show the world the genius that was Mr. Sloan, sadly nobody was able to play that role for Mr. McDonald. In fact, had it not been for Mr. Drucker's inaccurate foreword, his story would never have been told. We also learn of the importance of the discipline of business historians and their corresponding role as Ghost Writers in bringing out an accurate description of the history of successful enterprises.

The book brings out the importance of chance, networking, strategy and perseverance in any kind of conflict. Luck plays its part, but fortune does favour the brave and the persistent most of the times. It is important to start over with a basis to fight on, without which the fight may prove to be unsustainable. As McDonald discovered that he could bring up a case against GM for suppression of the book and found lawyer friends willing to fight it out, he persisted with it and played his cards right. He never took what was told on its face-value and tried to place it in larger scheme of things. Overall, it is a good example of group dynamics in hostile situations and I would recommend the book to anybody who has read and enjoyed the original book by Mr. Sloan.

Global Brands: Conclusion

Due to growing concerns about alcoholism, effect of alcohol on health and other social concerns, alcoholic beverages companies were further under constant pressure to diversify. Internationalization was a key component of this strategy and so was diversification and acquiring complementary brands. This applied to beers, spirits and wines. The companies, generally, found it easier to diversify into sectors where they could draw upon some common manufacturing, marketing or distribution knowledge. Only the companies who were able to develop a coherent strategy, worked on building marketing knowledge, expanded internationally and diversified appropriately were able to survive. Others were either liquidated or acquired by other companies in the long term. The spirit producers were the first to diversify due to possibility of controlling the production process and relative ease of transportation, followed by beer brewers (discovery of the process of pasteurization of beer helped). Wine producers were the last to diversify due to inherent difficulty in maintaining a consistent quality of the wine from year-to-year.

The book mentions four waves of consolidations since 1960, with British companies leading the pack. In first two phases consolidation took place at a national scale in form of mergers and acquisitions. Phase three saw the birth of global alcoholic beverages firms as we know them today. Firms no only merged across borders with each other, there was also a lot of vertical integration and diversification. Some M&A activities came under the scanner of anti-trust enquiries and blockades for the first time. The last phase has seen rationalization and assimilation of resources and the emergence of trading of brands like a piece of intellectual property. Given the high cost of developing a brand from the scratch, brands in this industry tend to outlive the founders and even the company. Very few new brands are able to make a global mark, and need a sustained & well-thought branding strategy.

Another thing that I have learned is the basic ways in which a company can attempt to break into an international market: e-commerce, merchant houses, agents, distributors, an employee working in the new country, wholly owned distribution channels, partnerships, M&A and starting a new business on their own. The choice depends on the industry in question, desired control on marketing and distribution, the ease with which the company may want to come out of the market, risk appetite and the desired level of expenditure. Overall, the book helped me to take a fresh perspective on consumer goods industry and the strengths (and weaknesses) of a family owned enterprise compared to a firm run by professional managers. I also came to appreciate the role of branding and the marketing knowledge gained over time in the life of a company. Another interesting Business History book over, time to move on to the next one!