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REBOOT World View

Urgency and Alignment

“If we are to have peace on earth, our loyalties must become ecumenical rather than sectional.  Our loyalties must transcend our race, our tribe, our class, and our nation; and this means we must develop a world perspective.” Martin Luther King Jr.

Hans Rosling said how can you solve major challenges if you don’t understand the facts.  He was a Professor of International Health at the Karolinska Institute and Founder and Chairman of Gapminder Foundation.  As a well known and influential speaker on global issues, he used to systematically ask 10 questions to his audience about the state of the world.  To his dismay he found that no matter the intelligence of his audience their true understanding of the world fell well short of being even adequate.  In fact, their overall scores were worse than what a chimpanzee would score with random picks.  His final book, “Factfulness – Ten reasons we are wrong about the world – and why things are better than you think”, dealt specifically with this issue. He was on a mission to save people from their preconceived ideas.  

This is the tenth and last blog of this World View series.  This series came about as I felt that it was vital to be up to date with the current state of the world across a number of dimensions and develop an integrated world view of where we are and where need to be going.  This series was the result of over 18 months of extensive research across a broad range of subjects learning from the works of Nobel prize winners, professors, researchers and well respected individuals.  It also involved analysing different databases, reading research and using the power of the web to capture information, understanding and alternative perspectives.  I have tried to look at our world in an integrated way and explore a range of perspectives and not just confirm cognitive biases I already had.  It is safe to say that my view of where we are and what we need to do going forward at the global level is different from my initial thoughts.  What is unchanged is that I remain optimistic. To be an effective leader going forward I believe having a grounded world view is essential. Building successful sustainable businesses cannot be done in isolation anymore.  

In the first blog, I laid out what I thought were the three big global challenges that needed to be addressed.  Although being more tightly defined, not surprisingly they were consistent with the UN Sustainable Development Goals and the World Economic Forum Global Risk Report.  The three challenges as I defined them were:

  • Decarbonisation and Biodiversity Regeneration
  • Inclusivity and Fairness
  • Digital Privacy and Collective Truth

In the second blog, I analysed the components of successful societies.  The third blog, set the scene for thinking about the challenges going forward in the context of what should be the social contract for citizens of a society.  The next three blogs covered off different aspects of delivering against the social contract – democracy and the role of government, the market economy and capitalism, and the nine waves of technology innovation.  Blogs 7 to 9 each explored in more detail one of the three challenges, including thoughts on how to solve them.  

This tenth blog explores the keys to unblocking one of the most critical barrier to success, urgency and alignment.  It is not a case of not understanding the challenges, shortcomings in our scientific knowledge, a lack of potential solutions; rather it is a lack of urgency and alignment that will make us fall short. And, don’t forget the consequences are immense!  Together the challenges are solved by underpinning them with policies, incentives and appropriate stakeholder pressure provided on a timely basis.  Given where we are, we know that the current governmental policies and the outcomes of our market economies and capitalism have been inadequate, and therefore, need to change. As Albert Einstein said, “The definition of insanity, is doing the same thing over and over again, but expecting a different result”.

Getting the right balance of incentives, carrots and sticks, across participants that need to change is the biggest challenge.  The shaping of them must take place from the supra-national level, to national/regional/local governments, to the private sector, the third sector and to the public itself.

In the last few weeks, we have seen some critical indicators that we are making progress on this topic of urgency at the governmental level.  In late April, Germany’s Federal Constitutional Court made a judgement on Germany’s 2019 Climate law which set as a target to cut 2030 carbon emissions by 55% from the level of 1990 and emit no net greenhouse gases by 2050. The Court ruled that the younger and future generations are entitled to “fundamental rights to a human future” and the current legislation results in a “radical burden” post 2030 on future generations that would drastically reduce their freedoms.  The government now wants to lift the 2030 reduction target to 65%, and to bring forward the net carbon-neutral date to 2045. In a similar vein, in 2019 the Supreme Court of the Netherlands ordered the government to substantially increase its ambition after it watered down its carbon reduction target. 

In Asia, there has been increasing legislation focused on digital censorship, including fake news, coming from a number of countries including Singapore, Malaysia, India and most recently Indonesia. Although, the focus includes dealing with the critical issues of national security, disturbance of public order and the conduct of elections; it can be said that much of the legislation is overreaching.

In the private sector, there is also progress.  In a landmark climate case in late May 2021, the Dutch court ordered Shell to reduce its carbon emissions by 45% by 2030 from 2019 levels.  This is in comparison to their current targets of 20% by 2030.  In the same week, a small activist hedgefund, Engine No. 1, managed to replace two existing board members at Exxon with its own candidates to drive the company towards a greener strategy; and, Chevron shareholders rebelled against the Company Board by voting 61% in favour of forcing the group to cut its carbon emissions.  Investors are increasingly taking these challenges seriously.

The cornerstone for making this happen is at the country level where government policies, taxes and incentives set the tone for the kind of society that needs to be built.  They need to raise expectations for the private sector, and more diligently think about the social contract which they have with their citizens.  

Supporting this are supra-national pressures to get all countries on board with the overall goals of fighting climate change and environmental degradation, and inequality.  The UN Climate Change Conference in November 2021, COP26, will be a critical indicator of the level and urgency of ambition to tackle climate change at both the governmental level and by the private sector.  There is also the 76th Session of the UN General Assembly in September 2021 which will be looking at the progress against the 2030 Sustainable Development Goals. In addition, ongoing pressure needs to be coming from the G7 and G20 conferences.  

In addition, it is the involvement of financial markets, investors and asset managers that control the flow of funds to and from different sectors.  The broad pressure points are coming from central banks, organisations such as Climate 100+ and ESG reporting requirements. Momentum is growing; however, the rate of change of aligning investment and financing decisions is too slow and the pressure for faster progress by the companies they are investing in is too light.

As long as boards and executive management are driven by short term strategies, thinking and incentives, change will be too slow. In large US corporates, changing the momentum from a continuously growing level of CEO compensation, from 30-40 times average worker compensation in the 1980’s to the current day level of 300-400 times, based on short term corporate performance to more challenging longterm performance with clear and ambitious impact goals is not in the self interest of these leaders. Boards must be willing to rapidly align the structure of compensation with long term sustainability. The Boards must be motivated to do this by the investors and asset managers; and where appropriate or needed by governmental policies, taxes and incentives.  If leaders don’t adopt the need and urgency then nothing will happen.  This is both a question of ensuring they are aligned with the priorities and they are leading with the right time horizons.  

Finally, there are the citizens, who are also employees and customers, who need to use their voice and actions to drive change and must also change themselves.  To do this they need transparency on the environmental and social behaviour of the company that is captured within the ESG reporting requirements. As noted earlier, both the court judgements and the shareholder actions were all triggered by stakeholder activism. More than ever stakeholders (employees, consumers, public, investors, etc.) are increasingly powerful voices that are requiring changes to corporate behaviour and a fundamental shift to responsible capitalism.

If you look at the private sector challenges, at its simplest level there are three dimensions to getting the incentives right and driving impact.  Firstly, rewarding value and impact creators.  Too much of our economy overly rewards value extractors, including profiting from trading and financial engineering, which adds little to the economy and nothing towards addressing these challenges. The question is, are you adding value and moving towards meeting the outcomes required by the challenges, or are you not contributing or falling short of the outcomes required.  For any company or organization, if you have no measurable and relevant impact goals you should be seen as a value detractor regardless of what you are doing. Value creators should benefit in terms of governmental policies, tax levels and incentives in comparison to value detractors. Mariana Mazzucato, a leading economic thinker, has written a seminal book on this topic, “The Value of Everything – Making and Taking in the Global Economy”

Secondly, ensuring a proper balance of priorities across the short, medium and long term horizons.  The challenges of climate change, biodiversity and inequality cannot be solved and be properly addressed in the short or medium term; however, investment in factors that have vital long term outcomes are required now.  Achieving Net Zero for most companies and all countries will take more than 10 years; but, investment almost certainly needs to start now. Longterm investment behaviour should be rewarded vs. short term profit taking and extractive behaviour. Once again, policies, taxes and incentives are needed to assist in biasing investment returns towards impact focused investments.

Thirdly, addressing the challenges with the right urgency.  This defines whether organisations own goals are in line with the timing of the needed/agreed collective achievement of the challenges.

To create urgency and alignment in incentives there are a few key principles. Firstly, the goals and related incentives need to be as simple as possible. Incentives must cover both value creation and impact in a balanced way. Secondly, the goals need to be clear, transparent, timely, measurable and auditable.  Thirdly, programs and incentives must be adjustable to new and preferable technological solutions. Although overall long term targets are clear, interim targets and the set of actions to achieve them are not. Finally, incentive design must understand the heavy human bias towards focusing on easier short term goals and rewards vs. not comprising long term targets. It is a natural inclination to back end load change which often is beyond the work horizon of the existing leadership team. Early investment and impact gains are essential for success.

At the governmental level, it is vital that they set the tone in terms of level of ambition, timing and responsibilities.  As I often say, uncertainty is the enemy of progress.  Clear forward looking and stable policies, taxes and incentives will accelerate the commitment of investment by the private sector.  These programs need to create alignment of the private sector with the goals and urgency of them; bias scale investment to meet these challenges; secure government financing to meet their own commitments; and, ensure the right research, development and innovation is happening to solve challenges where no economic solution currently exists.  

Rightly so, there are concerns about overbearing and overly complex involvement of governments.  However, it is also important to note that pure capitalism does not have a track record of solving these types of problems without the right involvement of governments.  Policies, regulations, legislation, taxes and incentives need to set the direction towards outcomes and define the urgency; but not, specify the exact set of solutions.  Marianne Mazzucato has defined this as “mission oriented” governmental programs.  These activities should be designed to unleash the market power, speed and innovation capacity of the private sector to be the major contributor to the solution of these challenges.

In the second week June 2021, the senate broke their partisanship and agreed a mission oriented spending bill, the US Innovation and Competition Act, of a quarter of a trillion dollars focused on key technology sectors. This was achieved by defining it very much as a way the US can strengthen their competitive and adversarial position with China in key sectors. China has successfully had mission oriented programs to achieve leadership in specific technology sectors, including areas such as solar and electric cars.

So much can be achieved by just putting these frameworks in place, and then allowing innovation, financing and entrepreneurial energy to drive change towards the goals in the most effective way.

Without solving alignment and the creation of appropriate incentives using both carrots and sticks, it is highly unlikely that these challenges can be met on a timely basis.

I hope this series has been insightful to help you build your own World View. In this rapidly changing world, politically, economically and technologically staying abreast of where we are and what is possible is vital for leaders. There are also increasing requirements and expectations in terms of responsibility to have an impact on the key environmental and societal challenges. The need for boards and executives to be on top of the context in which they operate will be an essential component of long term sustainable success. Our collective success and sustainability will be linked to solving the three challenges of Decarbonisation and Biodiversity Regeneration, Inclusivity and Fairness, and Digital Privacy and Collective Truth.

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REBOOT World View

Inclusivity and Fairness

Inclusivity and fairness is the second of the three challenges identified.  The previous blog covered the first challenge, “decarbonisation and biodiversity regeneration’.  The next blog will cover the third challenge of ‘digital privacy and collective truth’.

Can you imagine having a life expectancy of 52 years, 1.5 years of schooling and an average income of $661 per year?  And for your children, looking at a 12.7% mortality rate under the age of 5 and only 4.9 years of expected schooling.  In addition, you may have no shelter, you are undernourished, no clean water and virtual no access to health services.  Is it any consolation that you are better off than the average person in 1800 on a number of dimensions?  This is the worst of inequality – born in the wrong place on the wrong side of the street.

The climate crisis maybe the most existential crisis we have ever face but it does not stand-alone.  Solving the challenges of inequality through a set of initiatives focused on inclusivity and fairness also need to be addressed.  Probably, the best place to capture the overall goals that we need achieve are the United Nations Sustainable Development Goals (SDGs). In 2015, the United Nations adopted 17 SDGs (Figure 8-1) which then had 169 sub goals.  This is effectively the global consensus on priorities. Strong societal foundations and a fair social contract are critical components of the SDGs.

Figure 8-1

Why is it that we need to talk about inequality now after all the developments in the last 50 years?  We have the technologies and the capacities to solve these issues and as I have noted before almost all the trend lines of progress have been going in the right direction with the major exceptions of income and wealth inequality.  

Just looking at extreme poverty, the reduction in the number of poor has been incredible since 1990 (Figure 8-2). The number of people in extreme poverty have dropped from 1,895m to 736m in 2015 and is now below 10% of the population from 36% of the population in 1990.  However, looking behind the numbers we can see that this has been primarily a story of China; and, more recently India has also been making progress. In fact when you move from extreme poverty of $1.90 ($2011 ppp) per day to lesser levels of $3.20/day and $5.50/day China is also making significant progress. The region of most concern is sub-Saharan Africa where across all poverty levels noted above, the number of people is growing dramatically in this high population growth region.  In fact, at $5.50 /day there are 895m people in the region in poverty.  So overall, trends are not expected to continue and solve the problem of poverty.  Additional interventions are required.

Figure 8-2

The core issue as I mentioned in the previous blog is the lack of commitment and pace to solving these issues and the hope that if we just keep on moving forward, as we have been doing in the past, the problems will go away.

Inequality manifests itself in the context of extremes in distribution of income and wealth and the shortfall in access to the basic necessities of life – food, clean water, energy, shelter, clothing, health, education and technology access.  We see the reality of these inequalities in different forms whether in sub-Saharan Africa, China or the US.  Today, 71 percent of the global population live in countries where inequality has grown.  In 2018, the 26 richest people in the world held the equivalent wealth of 3.8bn of the poorest people, half of the global population.  Since 1990, inequality has increased in most developed countries and a number of middle income countries including China and India.  

It is important to note that although there are growing levels of inequality within countries, particularly developed countries, the bigger source of inequality is across countries.  This is contrary to the source of inequality 200 years ago when 80% of inequality was found within countries as opposed to 20% today.

 Class Inequality 
(within a country)		Location Based Inequality(across countries)
182080%20%
Mid 20th Century20%80%

With growth in incomes in the developing world exceeding those of the developed world there has been some narrowing of the inequality gaps between countries especially in Asia and parts of South America; however, there has been little progress across sub-Saharan Africa.

Traditionally, there has been the belief that inequality over time follows Kuznets Curve (Figure 8-3).  Kuznets Curve argued that income inequality tends to increase at an initial stage of development and then decrease as the economy develops, implying that income inequality will fall as income continues to rise in developing countries.

Figure 8-3

Conceptually, this curve appears to make sense; yet, it does not appear to happen in reality (figure 8-4).  In the upward sloping part of the curve, the shape depends on where the developing country was starting from. In the case of China with communism, they started from a low level of income inequality (low GINI score) and the income inequality has risen; however, in South America many countries started with very high GINI scores, perhaps linked to their previous colonial situations, and the levels of inequality have been slowly declining since about 2000.The downward shaped curve for developed countries does not also bear truth.  In the Western world, this did appear to be possible until about 1980 when the curves started to rise again for key countries such as the US, some countries in Europe and overall, in particular, in the English speaking countries.  The down-curve only appears to happen when there are appropriate progressive taxes on income, when tax rates on wealth are not less than taxes on income, and the income growth rate exceeds the average return on capital.  

Figure 8-4

In countries, such as the US, which are now more resemblant of plutocracies than democracies these conditions are not being met and therefore inequality will continue to grow.  In the US, tax cuts are primarily for the top 10%, and especially the top 1%, who benefit from lower income tax rates and lower capital gains tax rates.  As an example, the wealthiest 400 families in America in 1960 paid as high as 56% in taxes, by 1980 it was 40% and in 2018 it was 23%.  The bottom 50% of households in America in 2018 paid an average rate of 24.2%.  Figure 8-5 shows the increasing concentration of income in the US mirroring the declining share of the bottom 50%.  In terms of wealth, in the US the top 1% have over 40% of total wealth and the top 10% comprise about 80% of all wealth. Both of these percentages of wealth are continuing to grow.

Figure 8-5

We have not seen this disturbing trend in many of the successful countries in Europe where across all dimensions their levels of inequality, or lack of inclusivity, are much lower; and, their average GDP/capita is higher than the US.

Inequality is also reflected in freedoms, access to opportunities and economic mobility, and the rights of safety, security and equal justice.  We see these issues every day in the news whether it is about the Uighurs in China, the Rohingya in Myanmar, Black Lives Matter in the US, the unequal treatment of women and girls in Afghanistan, the Middle East and most other countries. 

Growing inequality and mistreatment of groups of people builds political instability and is the antithesis of what is required of building a strong and stable society.  The historic metrics have been focused on watching the growth in averages.  Growing average income, average expected life, average years of education is only good in a society if the growth has some form of distribution.  If most of the benefit goes to the top 10% of society and none reaches the bottom 50% then the average is misleading.  What is needed is a focus on inclusiveness where no one is left behind.  

This is not about being driven by minority interests, it is about practically being inclusive.  It is the practice or policy of providing equal access to opportunities and resources for people who might otherwise be excluded or marginalized, such as those economically disadvantaged, having physical or mental disabilities, or belonging to disadvantaged minority groups.

Inclusivity and fairness is about ensuring that of primacy there are minimum standards and principles that countries need to focus on.  This is about not being left behind and it is about having a minimum set of opportunities for a good life at birth.  It is about minimising the differences in access and treatment across the basic requirements of a strong functioning society including equalising the access to quality education, equivalent outcomes for healthcare (eg. life expectancy), and equal opportunity.  It is about ensuring that we are addressing the unacceptable and then moving forward.  The definition of these items are not my views, they are those articulated within the UN SDGs.  The SDGs articulate where we need to get to nationally, regionally and globally.

The outcome of inclusiveness and fairness should be social mobility.  As can be seen in Figure 8-6, there is a strong relationship between inequality of opportunity and global social mobility.  

Figure 8-6

In the World Economic Forum’s new Global Social Mobility Index, 17 of the top socially mobile societies are in Europe with Denmark being the overall leader.  The US is 27th, while China is 45th and India is 76th.  In Figure 8-7, you can see how the US ranks across the different mobility factors.  The set of factors illustrated shows just some of the complexity of what needs to be addressed.

Figure 8-7

An important context to the solutions is to also address potential negative impacts from changes in how society is developing.  There are five critical dynamics to consider.  Firstly, changes in the nature of globalisation affects both where companies are sourcing their labour and where demand will be generated.  We have seen recently with the Covid 19 crisis and increasing geo-political tensions that the dynamics are changing.  There is also the inevitable shift in economic power towards China and ultimately India away from the US and Europe.  

Secondly, the impact of technology on labour markets.  Technology and innovation are increasing the interchangeability of labour and capital.  The innovative use of robotics, AI and autonomous vehicles will have profound effects on labour markets.  This will cause the need for more comprehensive social security programs and the need for increased levels of continuing education to improve labour mobility.  Without addressing this, there will be further pressures on the decline of the middle class.

Thirdly, the propensity for increased concentration of income and wealth within countries.  Unless countries address the increasing concentration of income, wealth and power, increasing social unrest is inevitable.  The importance of the use of both progressive taxes and taxes on wealth is an essential component to addressing this problem.  This will also provide critical financing for deeper programs to address inclusivity and fairness.

Fourthly, the changing composition of populations within countries.  In the last 40 years, there has been dramatic changes in the composition of populations within countries.  The mixes between pre-work, working, and retired populations have changed dramatically.  In particular, in the developed world solving for managing in situations where the retired population is a major part of the mix of a country raises real challenges. Post 2050, other than sub-Saharan Africa virtually all other countries will have peaked in populations and will be ageing.

Finally, climate and environmental crisis.  All the evidence points to the developing world, especially sub-Saharan Africa and India, being particularly affected by increased temperatures, which impacts food production and water access.  In addition, we know that the increase in droughts, floods, fires, etc. will impact the most disadvantaged.

Moving towards a more inclusive and fair world with base standards of living, freedoms and opportunity can be broken down into 2 areas to address.  Firstly, in-country inclusiveness which is about thinking about the problem within a country at the individual level.  Secondly, across country fairness is about policies and programs that are required to help underdeveloped and developing countries make an overall shift upwards while they solve their in-country problems.  

Starting with in-country inclusiveness, the commitment to this form of social contract starts with governmental programs and policies and then ripples through to the private sector.  In most of the developing world this should include inclusive and affordable access to quality health and educational programs.  Educational access needs to include tertiary education and life long learning and skills development.  There is also need for strong social services programs, for the retired, disadvantaged and those in-between jobs.  There needs to be a continued movement from minimum wage to living wage programs and clear policies for Gig economy workers.  Finally, ubiquitous equivalent access to the internet for all, through mobile devices such as smart phones, is one of the vital components to help move towards equality of opportunity. Financing of these programs can come in different forms including a proper approach to progressive taxes and taxes on wealth.  

Small and medium businesses are vital for employment levels. SMEs (small and medium sized enterprises) comprise 60-70% of jobs in most OECD countries. They also provide a disproportionate number of new jobs creation. In the US, businesses with under 500 employees comprise 48% of all employees. Solving the failing of financial markets for small businesses is critical in a number of countries such as the UK. Governments should also be looking at providing a fair share of their sourcing and outsourcing expenditures to support small and medium sized businesses.  It is a false economy for governments to focus disproportionate levels of their spend on large companies.   In all of the developed economies, a significant portion of private company revenues is from procurement and outsourcing activities by governments at the federal, regional and local levels. 

There are multiple examples of countries that have made progress across a range of the inclusiveness issues. There is the healthcare system in Singapore, Finland’s success in education, Scandinavia’s over all progress on gender equality, Denmark’s model of social security and mobility, and Switzerland’s strength on life-long learning. Of the larger countries, Japan and South Korea have very high scores on health and technology access and Germany is a strong performer in social protection and work opportunities. Good references for this are the WEF Global Social Mobility Report 2020, and R. James Brieding’s book “Too Small To Fail”.                      

Improving inclusivity and fairness in underdeveloped and developing countries is a big challenge.  At the national level, countries must understand that consistent development support from the developed world is earned through strong political, economic, and social structures.  Dictatorial behaviour and increasing concentration of wealth damages economic and social development.

Accelerated progress will only happen with external support.  This includes foreign government policies on aid and assistance, financial support from intergovernmental organisations such as the IMF and Worldbank, and philanthropic assistance to tackle big problems such as what we are seeing by The Bill and Melinda Gates Foundation.  

In the private sector, from multi-nationals there needs to be more rapid progress on progressing proper employment practices with fair pay, education and health support. In more remote locations, there is often also a need to engage more actively with the overall communities.  Secondly, consideration should be given to special pricing, such as in the health sector, to increase the accessibility of critical goods and services.  Finally, technology and innovation investment needs to be focused on solving both development and climate challenges.  This includes ubiquitous access to clean water and sanitation, access to low cost continuous energy (ideally green energy)  and quality internet access with smart devices.  Social impact needs to be high on the corporate agenda as well as achieving a Net Zero carbon position.

Financing of the SDGs and in particular meeting the needs of the developing world is clearly a challenge.  The UN Secretary General’s “Roadmap For Financing The 2030 Agenda For Sustainable Development” published in 2018, estimated a short coming of $2.5tn – $3 tn per annum to achieve the SDG’s in developing countries.  This is against a context of global GDP being $88 tn and global wealth of about $215 tn.  It is particularly challenging in the context of the need for post-Covid financial recovery and for the developed countries to set and meet their own climate and SDG goals.  A majority of this financing will need to come from the private sector.  

To achieve this, new financial thinking is required and alternative financing instruments are needed to improve the flow of finance to these needs. The current global situation of climate warming and increasing stakeholder response to inequities is changing the context of investment decisions creating the need to incorporate related economic and risk factors into long term financing decisions. 

Global, national and local policies and programs drive change and where there is large scale change there will be broad sets of investment opportunities.  The higher the level of clear and certain policy directions the bigger the opportunities in the private sector. Uncertainty is the enemy of growth and investment.

Increasing transparency on the risk and return of not engaging in driving impact will be a vital contributor to shifting investments towards solving these social and environmental challenges we are facing. The increasing requirements for ESG reporting and the movement towards consistent, comparable and auditable measurements will help embed impact into business decision making. However, what is also needed is growing stakeholder pressure to accelerate the incorporation of impact into strategies and business models. Consumers and employees need to help business leaders see that without impact their businesses will not flourish and be leaders in their markets. It needs to become clear that social and environmental leadership can be vital components of competitive advantage.

In addition, the potential of existing and emerging technologies to solve large global issues is real. There is no reason that this should not attract significant investment. Passionate impact oriented entrepreneurs with the latest technological know how have massive opportunities to create great businesses.  Probably the most visible company in this space is Tesla which is focused on shifting the world to clean energy through electric cars, solar technology and battery storage. I am sure there is more to come from them. Other opportunities include the creation of low cost clean energy solutions for remote communities.  Slingshot and Skysource are great examples of companies working to improve the availability of low cost clean water.  Zipline, the leader in drone medical deliveries, developed their business in Rwanda where there was a critical need for remote and timely delivery of critical medical supplies.  Elon Musk, Facebook and Jeff Bezos are all looking at building large satellite networks that have the potential to vastly improve internet access in remote areas. The business opportunities are immense.

There is already a $31 tn ESG and impact investment pool, which is about 15% of global investable assets. This level of money is already increasing the focus on companies that are creating impact as well providing shareholder returns; although, many of the companies in the pools are focusing primarily on ESG reporting first and only just starting on the journey towards to Net Zero carbon emissions and social impact.

New forms of financing at scale are also essential to contribute to filling the financing gap. The term used for the specific new forms of financing focused on generating impact is impact investing. Impact investment financial solutions work on the basis of risk-return-impact equations. A key proponent of this is Sir Ronald Cohen who has recently published a book talking about this, “IMPACT – Reshaping Capitalism To Drive Real Change”. Sir Ronald Cohen is a preeminent international philanthropist, venture capitalist, private equity investor, and social innovator.

The market for impact focused investment products is small today; but, it is emerging. Green bonds in the market today are valued at about $750 bn. These green bonds are being followed by blue (ocean), education, social and gender bonds. The DIB/SIB (Development and Social Impact Bonds) market will become more substantial through the scaling of Outcome funds. To achieve scale this will require some of the growth coming from the $5 tn investment pool comprising private equity, venture capital, real estate and infrastructure investing.

We understand the challenges of inclusivity and fairness. Through the UN SDGs there is global recognition of what needs to be done. It is now up to political commitment coupled with supporting governmental policies and programs, philanthropic support, and most importantly, private sector commitment to move towards risk-return-impact business models and investment criteria.

My next blog will cover the third challenge of ‘digital privacy and collective truth’. This is an emerging and critical challenge that unaddressed affects the conduct of democracies, the level of social instability across all countries, and the violation of the rights of individuals.

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REBOOT Business Strategy

“It’s your reaction to adversity, not adversity itself that determines how your life’s story will develop.”
― Dieter F. Uchtdorf

Blog 7 of the Business Strategy Series

‘From risk monitoring to business resilience’.   How many companies had put pandemics as a risk factor in their risk register and were well prepared?  This is despite infectious diseases being logged as a medium likelihood and a high impact risk in the World Economic Forum’s Annual Global Risks report.  And, since the beginning of this new millennia, in the last 20 years, we have had Sars, Swine Flu, Mers, and Ebola.  Clearly, there were not many companies prepared or we would not have needed government economic support of up to 15% of GDP in wealthy nations.  

In addition, how many companies were prepared for the financial crash in 2008, have fully considered the risks from global warming, the challenges of political, economic or climate based refugee movements, or the full range of risks from different forms of cyber attacks?  This discussion follows on naturally from the previous blog on the need for macro modelling beyond traditional industry analysis.  

The first area of attention is to add macro risks with multi-horizon views into the risk monitoring (Figure 7-1)

Figure 7-1

As the world is getting more complex and more interlinked, the likelihood of an event occurring increases.  In addition, the risk and impact of an event is increasing due to inherent trends that we are facing.  These trends include climate change, population growth, increasing reliance on technology and data, increased population concentration in cities, globalisation and increased levels of debt per capita.  The optimistic view is that behind each of these trends should also be some great opportunities and this is where the great companies will be focusing.  Rigorous analysis should help to identify opportunities out of a risk assessment.  

In the World Economic Forum’s Global Risk Report 2020, they have surveyed their member base to get their view of the likelihood of a risk occurring and its potential impact on a scale of 1 to 5.  The higher risk and likelihood events are listed in Figure 7-2.   

Figure 7-2

The outcome of this survey is set out in Figure 7-3 which shows the set of risks with a combination of high likelihood and high impact.  You can see the clustering of environmental concerns in the top right quadrant.   It is interesting to note that infectious diseases/pandemics were not ranked as high; although, still seen as serious.  

Figure 7-3

The perceptions of risk are not static over time with some of the perceptions being influenced by events that are occurring at the time, such as the 2008 financial crisis.  Since 2007, there are 2 visible trends. Firstly, the escalation in the risk levels related to climate and environmental issues.  Secondly, a growing view of risk levels on the technological front.  The good thing to take away from this risk assessment is that this indicates a growing understanding and view of the risks of climate change and environmental degradation.

Another interesting aspect of this report is that they compare the views of the WEF members against their Global Shapers Community which is the WEFs network of young people driving dialogue, action and change.  In most cases the Shapers see a higher likelihood of an event occurring and in virtually all cases a higher potential impact.  

What is not fully evident, and not addressed in the report, is the extent of government and business response in light of these risk assessments.  You would think that this could be one of the productive outcomes of the WEF Davos Meeting that happen annually.

For a specific business, the ratings of the risks would be affected by a combination of the sector and geography where they are involved.  Business risks can be divided into two broad categories of risk, direct risks (Figure 7-4) and macro, or indirect, risks (Figure 7-5).

Figure 7-4

Behind the direct risk, is the ongoing risk of one of the events occurring and the potential impact of that risk; however, there is also an implementation risk that occurs on an activity when you are undertaking a material action that is new and within your plan, or you are taking a substantive action to either mitigate a risk or respond to a risk that has occurred.  

Similarly, with Macro Risks, there is the physical risk which is the fallout related to the specific event. This would include second and third order effects as we have seen with the current pandemic.  However, there is also a transition risk which involves a fundamental change to the operating environment of the business; and, in these cases there are risks related to the period of change to a new environment.  Examples of transition risk are the risks arising from a transition from our current energy provision to a clean energy sector or a transition from a linear economy to a circular economy in a specific sector. 

Figure 7-5

Against these risks, the management and their boards clearly need to think through how to build resilience.  Resilience strategies can take several forms.  Firstly ‘Shaping’, the company could eliminate or at least partially eliminate risk by boldly implementing a plan upfront. This approach would also be deployed where there were also business opportunities.  An example of shaping, would be a technology company building a second manufacturing facility outside of China due to geopolitical concerns and trade risks. This approach is clearly bolder and requires more upfront investment; and if there is a market opportunity involved it may well be the right approach.  Another interesting example of this is IBM, who started as a mainframe computer business, then separately invested in mini computer business in case the market took off; and then finally, did the same thing with the micro-computer market.  

 Secondly ‘Hedging’, the company could build a specific risk mitigation response capability that would be pre-planned and tested.  This would include optioning, if there are a set of discrete scenarios that would require quite diverse responses.  The goal is to limit the upfront expenditure, but keep the company in the game and help accelerate the speed of response if required; thereby, mitigating the risk.  Thirdly ‘Reacting’, a company could build the information and systems requirements that would give better pre-risk warnings, improve in-risk analysis to help the response, and provide post occurrence monitoring.  Finally ‘Dry Powder’, is to ensure that you have the financial capacity to react to any residual risks including known risks with unknown outcomes and unknown risks. 

In addition to defining risks in terms of likelihood and impact, it is important to categorise the risk.  There are effectively three risk categories.  The first risk category is ‘Clear Outcome’.  An example of this would be the binary decision of a competitor to build a new plant in a key market that would significantly affect the supply – demand dynamics.  

The second category is ‘Range of Outcomes’. In this case there are a set of different scenarios that could describe the future.  In some of these situations, it may link to scenarios of the outcome and timing of regulations related to a sector.   The third category is ‘Unknown Outcomes’.  In these situations, they are known risks but no true understanding on the likely scope of outcomes.  An interesting example of this would be during the development of the electric car market. In 2010,  I think it would be safe to say that the categorization of the development of this market and its implication on diesel and fuel cars would be ‘Unknown Outcomes’.  In 2016, Norway agreed to ban all conventional cars by 2025 and then other countries and cities started announcing bans in 2017.  By this time the risk category in the EU had turned to ‘Range of Outcomes’ and it was just a question of when the bans would be enforced by country across the EU.  Clearly, different types of risk need different option evaluation approaches.  Doing additional research and analysis to be able to shift to a clearer set of outcomes can add significant value.  

Linked to evaluating resilience responses, a business should be able to see that certain actions can create resilience against several, and often unrelated, risk types. This is clustering.  For example, having two manufacturing facilities in two countries rather than a single facility could mitigate risks for floods, fires, geopolitical trade risks and foreign currency risks. Another example would be, moving to an environmentally friendly strategy would help mitigate the risks from changing consumer purchasing behaviour, reduce employee retention risks, get the company ahead of potential new regulations, and reduce the potential of brand and reputation damage from climate action groups. 

The other side of resilience response is to evaluate whether or not risk reduction can be coupled with a new business opportunity. Pressure test your resilience thinking to see if you can turn some of the needed activities into opportunities to create deeper strategic advantages and further customer differentiation. A simple example of this, has been the Covid 19 based rush of many retailers to build an online channel for remote ordering and home shopping.  Many of these retailers somehow missed understanding that adding a home shopping channel market is a basic requirement today and should have been part of their strategy long ago to grow sales anyway.

These different components can be pulled together into an overall approach to resilience management (Figure 7-6).

Figure 7-6

There are a number of ways to build resilience. The most important starting place is to have the right leadership and team in place that have the knowledge and the capacity to build resilience, and rapidly and effectively respond to risks.  This pandemic has shown some stark differences in country and company abilities to respond to risk and significant differences in speed and effectiveness of response.  

There are different ways to think of building resilience and some of them are noted in Figure 7-7  Firstly, diversification is a classic way of reducing risk.  Points of potential diversification would include raw material sourcing, manufacturing locations, distribution channels, data centre locations, geographic focus, and product range. Secondly digital innovation, which would include adding the ability to work remotely, home shopping, using cloud based systems, remote servicing.  Thirdly, product service innovation which would include having a more diversified set of products; but, also being able to rapidly change and adjust products and services for example as new regulations are put in place, software language use changes, and responding to disruptive new entrants into the market.  Fourthly, business model innovation is becoming increasingly important to look at.  We are now seeing a shift in some areas from single product purchasing models to locked in monthly payment models such as with digital news services vs. daily purchases of a newspaper.  Building reliability in revenue flows is a also critical part of resilience. 

Figure 7-7

Next is financial capacity management. In times of crisis, a strong balance sheet always wins.  It is increasingly hard to insure against all potential risks so residual risk may need to be covered off by a stronger balance sheet.   Just like at home, a business needs a cushion for a rainy day!  A strong balance sheet is also critical if a company is seeing increasing volatility of revenues and/or increasing seasonality of the business.  Private equity owned companies that are tightly financed and highly levered are particularly susceptible to small changes in trend lines.  I think everyone would agree that believing that the last line of defense of a business is a rescue by the government is not something worth relying on.

Finally, having partnerships-alliances or reliable third party support to help deal with, or be on call for, certain crisis types is usually a core part of a resilience strategy.  In technology based risks, having a specialised help to deal with cyber attacks is a common use of a third party.  They can help help reduce the risk of an attack succeeding as well as helping to respond to a threat that occurs.  Other examples could include having back up manufacturing capacity and some outsourced service capacity.  For many companies, having your data and software in the cloud results in the cloud supplier (eg. AWS, Google, Microsoft) providing the resources and skills to deal with a cyber attack risk.

Against this whole discussion of risk and resilience, it should be clear that resilience is a core component of strategy.  As noted in a 2016 HBR article, The Biology of Corporate Survival, companies are disappearing faster than ever before. “Public companies have a one in three chance of being delisted in the next five years, whether because of bankruptcy, liquidation, M&A, or other causes. That’s six times the delisting rate of companies 40 years ago.”  If you are focused on long term sustainable performance in a complex and rapidly changing world, resilience, speed, agility and innovation capability will outperform a low cost strategy.   

Source:  McKinsey wrote an excellent article in the HBR that helped shape some of this thinking.  “Strategy Under Uncertainty”, Harvard Business Review, November-December 1997

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REBOOT Strategy

REBOOT Business Strategy

“The future depends on what we do in the present”, Mahatma Ghandi

Blog 6 of the Business Strategy Series

‘From Michael Porter’s Five Forces to macro-models’.  In the last blog, we talked about the need to shift from a shareholder perspective to a stakeholder perspective.  In this article, I want to cover off the importance of overlaying onto Michael Porter’s 5 forces industry analysis two factors (Figure 6-1).  Firstly, an understanding and integration of what is happening in the macro environment into the strategic thinking and planning for a business.  In broad terms, these macro factors can be put into one of 5 categories – Economic, Environmental, Geopolitical, Societal and Technological.  Secondly, a detailed analysis and assessment of the threats and opportunities that could come from technology.  

Both of these factors need to be looked at from a multi-time horizon perspective. The external dynamics impacting a company can be significant on all these horizons; therefore, scenario modelling on each of these horizons is essential. As examples, in the short term, we are seeing how a pandemic can have dramatic effects on our business. In the medium term, the movement of a technology into a growth phase of rapid adoption could have a signficant effect on a competitive environment and customer purchasing dynamics. In the longer term, climate change is affecting most businesses and sectors, and may affect longer term investment decisions. Superior understanding about how an industry could be affected provides a real opportunity to outperform and improve business sustainability.

Figure 6-1

Starting with the macro environment, the World Economic Forum ‘Risk Trends Interconnection Map’ (Figure 6-2) illustrates well the range of macro factors that a business may need to watch and monitor. This will help a business decide how to adjust its strategy as these factors and their interconnections wax and wane over time.  

Figure 6-2

Just since February 2020 and the emergence of Covid 19, businesses are having to deal with a combination of many factors including the need for remote working, limited ability to make sales, massive financial pressures from the financial crisis, a collapsing oil price, increasing trade tensions between the US and China, increasing national sentiment, potential implications of greater control being put on Hong Kong by the Chinese government, and in some sectors a heightened level of cyber attacks.  Do any of these have any bearings on your strategy going forward?  This level of challenge to a business will not go away and for many the issue of climate change will only create even more profound challenges.  Thinking about these potential risks in different scenarios over the short, medium and long term is vital.  The key is really to solve how to take advantage of the situation to strengthen the performance potential of the business and strengthen its competitive position.

Secondly, it is vital to look at the threats and opportunities of technological change.  It is easy to forget the accelerating speed at which new technology is adopted at scale (Figure 6-3). For businesses, it affects what products and services can be provided, how businesses operate, which markets they can reach and focus on; and, it results in whole new market sectors being developed.

Figure 6-3

In addition, the speed at which new technologies are being developed and related products are being introduced is astonishing (Figure 6-4, 6-5).  In the research world, there are unprecedented levels of information sharing and collaboration coupled with increasing speeds of access to new research through digitization, open access and data sharing.  Over time, the profile of research is showing higher levels of collaboration and higher levels of cross border research cooperation.  As long as the world keeps opening up this will only accelerate; and in turn, continue the acceleration in the development of new technologies.  

Figure 6-4
Figure 6-5

The biggest challenge emerging from new technology being adopted to its full potential is the ability of individuals, businesses and governments to understand its potential and reap the full benefits (see illustrations in Figure 6-6, 6-7).  Increasingly we are also going to find that many high value applications involve the convergence and integration of multiple technologies. For example, an autonomous driving vehicle combines the use of recent and emerging technologies including AI, robotics, battery storage, big data and sensing.

Businesses need to be more focused than ever on understanding technology based opportunities and innovating new products and services. The old fashioned approach of driving leadership from focusing on primarily driving down its cost position or innovating within its existing knowledge and parameters will not survive. 

Figure 6-6
Figure 6-7

In the analysis of the potential impact of technology, a key factor to assess is the speed of adoption of new technologies.  Despite the potential for high speed adoption, this is not always the case. It is particularly important to analyse in sectors where there is a high concentration of market share among a few companies.  In these situations, there are two factors that affect the speed of change.  Firstly, for any of the key competitors is there a bigger profit opportunity in the short or medium term of adopting new technology?  If the business model of these competitors could be disrupted and their could be a leak of profitability then, depending on the level of competitor concentration, the adoption could be slowed significantly.  Secondly, once one of the big players makes an aggressive move to shift to adopt new technologies and adjust their business model, perhaps from shifting to a long term view of how they need to compete, then the rate of change in the industry is likely to change.  

This slowing down of the potential rate of adoption, was very prevalent in the research publishing sector with the likes of Reed Elsevier (now RELX plc) and Springer (now Springer Nature).  The rate of adoption of the real potential of digital technologies and its full implications to benefit the sector probably took at least 10 years longer than it could have.  Time bought them the ability to search for new sources of profitability before any core compression of performance in their core business. It would also be interesting to speculate what the energy sector would look like today if one of Shell, BP or ExxonMobil would have made a strategic commitment to commit to clean(er) energies say 15 years ago; after all, they knew about global warming in the 1980’s.  

Overlaying onto an industry analysis, how to take advantage of an increasing rate of technology introduction, understanding factors that may delay technology adoption, and managing continuously changing dynamics surrounding a market is fundamental to strengthening the performance potential and competitive postion of a business.

In the next blog, we will look at shifting from risk monitoring to business resilience.