The business landscape keeps
changing. The only constant perhaps in business would be change. Therefore,
there would be a pressing need to re-haul the business models to accommodate the
changing environment. As the brick and mortar economy gives way to the digital
economy, the firms have to constantly innovate. The firms are configured for a
certain topography and when faced with an unfamiliar configuration of assets
and resources, they struggle. This perhaps could be a critical point in
understanding why very few firms survive for more than half a century. There
would be hardly a handful of firms which might record double digit year on year
growth over let us say five consecutive years.
The landscape that has been
predominating over the last couple of decades is something interesting. There is
an increase in research and development costs. It is a different story that the
returns continue to sub-par with respect to the expenditure on research and
development. Yet in the absence of continuous research and development, the
firms would find it very difficult to navigate the commercial structure. The firms
themselves arose as an answer to transaction costs that prevent a pure play
market model from emerging in the context of factor demand and supply. To many
technology firms, the investment on research and development often become a deterrent
in their plans for expansion and consolidation in the markets. The expenditure
on research and development is a capital expenditure which gets amortized over
a period of time. While the amortization might help in firm’s book of accounts,
they do influence the cash flow a bit adversely. Moreover, the research and
development operates in an environment of implied demand uncertainty. There is
a probability of the output not even reaching the market. Therefore, the costs
of product design and development are increasing putting cost pressures on the
firm.
At the same time, the firms are
increasingly facing market pressures on the shelf life. The shelf life is
rapidly shrinking. The clones that are emerging are threatening the original
products and often act as disincentive to further research. Incidentally, there
are reports from China which suggest clones in the market even before the original
hits the market. The clone industry in China basically engages in reverse
engineering to build their products and capture the market share. The costs of
legal action against these pirate firms is too prohibitive for many
entrepreneurs. Unless someone has a strong depth and scale in terms of
resources and networks, it is virtually impossible to challenge the clones.
At the same time, the consumers too
are willing to buy from the clones if cheaply priced. The consumers do not want
a compromise on quality and yet want the goods to be offered at zero price. There
is virtually a race towards zero in the global market. This would mean that the
traditional models of business pricing would come up with limitations in this
context. The firms have little control on the revenue. Most of the times, the
firms are price takers in the market with little control. All they have to
engage is reverse engineering in terms of meeting costs to the market price. The
reverse engineering would put pressure on the cost side. Therefore, the firms
have to come with solutions that address the cost side rather than the demand
side.
The firms have to incur capital expenditure
which they seek to convert into operational expenditure. This process is what
culminated in the business models of outsourcing or offshoring etc. When the
western firms decided to engage in contract manufacturing, it was this
interplay of converting capital into operating expenditure that ruled the day. There
is one firm which seeks to manufacture the products be it the shoes or clothes
or consumer electronic goods among others. The firm in the West is only engaged
in the branding exercise. As one of top industry honchos once remarked, the manufacturing
process is a tedious chore which can best be outsourced. To firms like Apple,
Nike, Adidas, Disney, Dell or many others, given their limited resources, they
would seek to spend on branding rather than manufacturing. Apart from the
trade-off between branding and manufacturing, there is essentially the cost
angle that rules in favor of outsourcing. Walmart’s procurement from China too
is continuum of that. Of course, the market structures that are primarily
centered on monopsony or oligopsony at best, drive the firm’s decision making
structures. In management jargons, the firms are engaged in what might be
called the breakdown of the Porter’s value chain. Each element in the Porterian
value chain become a output centre in themselves and create a sub-set of value
chains.
Yet, this is only one part of the
journey that the firms are engaged in. In their pursuit of profit maximization,
the emphasis would be on a continuous reduction in costs. Therefore, they would
with the research and development side too. There obviously exists a rationale
for the product development side to be outsourced. The new models of innovation
like open innovation among many others are essentially a justification of the same.
There are firms which are engaged in design through contests. The firm wants to
design a product. While there might be several reasons for opting to a contest
for public consumption and management jargons, the reality or the underlying
motivation is different. A design contest would encourage many to join. A few
might emerge winners. They would be given a prize. The spinoff is however the
firm gets a design for its products at minimum price. They have been able to
reduce their research costs by significant quantum. Moreover, what the process
would have done is the shift of the expenditure from capex to opex to
extraordinary expenditure or non-recurring expenditure. Given the treatment of
non-recurring or extraordinary expenditure in the firm’s financial statements,
the position on the books of course would look far attractive.
The firms are constantly engaged in
cost reduction. Therefore when one looks
at the models centered on collective intelligence, open innovation,
outsourcing, wiki-floors, frugal engineering and many such others, each would
represent a step in the firm’s pursuit to lowering costs when faced with
pressures on the revenue front wherein the control they have is limited by the
market presence.
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