There are similar illusions around the decline of larger companies. You’ve heard it said often enough that the lifespan of companies on the S&P 500 is also in decline. This too tends to be untrue. Companies don’t disappear when they leave the S&P 500. New companies arrive who have earned their place.

Yet we assume or believe that a sea change has hit entrepreneurism, and change is for the better. In this article I will explain what I think is going on and why entrepreneurism is now more important.

There are essentially five elements to this:

1. The first is that smaller businesses are becoming more important as a component of the global economy

In most developed economies the rate of internationalisation of smaller businesses is increasing. The World Trade Organization estimates that smaller businesses traditionally have been responsible for about 50% of global intermediary goods trade. That figure is now looking like closer to 60%.^[1] Other research shows small businesses are expanding fast across borders. According to Oxford Economics, “In three years [from 2013], the number of small firms that do business in six or more countries will more than double, from 15% today to 35%.”

What are the reasons for this? Partly because it is now much easier to expand overseas, particularly in digital service and goods. SaaS platforms typify this. But even producers of hard goods are finding it easier to grow global markets because of the increased sophistication of global package delivery.

What most commentators miss is that this change is tied to structural change in the global economy.

2. The platform economy will enable more global business; the secular trend is towards polarisation between small and huge.

Business platforms like Alibaba are actively campaigning for a new world trade order. Legendary entrepreneur Jack Ma (Alibaba, Ant Financial, Didi Chuxing) has called on the World Trade Organisation to set up special privileges (such as lower tariffs) for package delivery. Internally in China his company promotes rural small business as well as urban. In fact Ma has promised to train 1 million rural youths in entrepreneurism. Small is an essential part of tomorrow’s competitive landscape.

One of its most successful manifestations is within Haier, the Chinese white goods maker that sets out to create small entrepreneurial businesses within the overall business. How successful is it? Haier recently acquired the consumer goods business of old industrial giant, GE, and has entered a cooperation agreement in which GE will learn the benefits of going small.

The business model for platforms (Apple, Google, Alibaba, Uber, AirBnb) is to enable and organise small entities, devolve innovation risk onto them, and take economic rent (the 10 – 30% cut that Uber to Apple take off their “ecosystem”).

3. The third is that, periodically, segments of the economy go through phases of experimentation.

Going back to the days of Schumpeter, there has been some grudging recognition that small firm entrepreneurism plays a significant role in creative destruction. But look at disruptive innovation in any sector and you will see a phase of experimentation where entrepreneurs are trying to determine the preferences and structures of new markets.

As an example of this, look back to the early 2000s. At that point a new infrastructure, The World Wide Web, had emerged. Microsoft, Intel and Apple dominated computing. The large telcos dominated another new field, mobile telephony. Entrepreneurs speculated that there must be another way, a non-monopolistic way, of exploiting these new infrastructures.

A movement called the Internet of Appliances grew out of this speculation. It resonates with the Internet of Things. It was the experimental period when many features of what was to become the IoT were cast into the market for the first time. Entrepreneurs used the early to mid 2000s to test hypotheses about what this new landscape would tolerate. What technologies and applications could actually work on the WWW; what might customers really want? How could they be drawn into some kind of emergent market structure?

All these questions were asked hypothetically and the experiments with the IoA laid the ground for the IoT to come. These experimental periods are critical to how economies restructure.

4. More segments of the economy than ever are going through this phase, many of them through new business platforms.

Right now the economy is being forced through a whole array of experimental phases. IBM’s Watson has been set up as a platform for a new generation of Artificial Intelligence experiments by the AI startup community. Predix, the GE data platform, plays a similar role in data science. GE has attempted the same in health analytics, though it looks for now that the fitness band industry will be the owner of the personal health “platform”. Apps platforms now abound. Ride hailing, table booking, renting, bring experimentation into personal services. Design communities are another area – creative design, industrial design, engineering. Each is running its own experimental phase to test what the new economy will accept.

5. The fifth is that business is now being built on a different infrastructure (Cloud, mobile, SaaS, various integrated platforms, and superfast logistics.

This means the “need to learn” plays to the small companies or the intrapreneur and against the large enterprise. The learning model is a key advantage, which is why we will also see more companies becoming participative – following the Chinese model of huge participation platforms where consumers or users determine the functionality of products in real-time interaction with manufacturers or developers.

For all these reasons smaller companies are becoming more important even if they are not becoming more numerous. Larger enterprises will continue to grow in importance too – but the best of them will organise whole markets and enable the future of small.

Only small businesses have the capacity to learn and adapt quickly to an economy that is restructuring rapidly. As they become more significant we need to learn quickly how to support their global competitive advantages.

About the author:

Haydn Shaughnessy is the author of Platform Disruption Wave, an account of how megaplatforms are reshaping the global competitive environment.  He has consulted on platform disruption and strategy to global organisations.

^[1] WTO/UNCTAD World Investment Report 2013: CH 4 Global Value Chains: Investment and Trade for Development.

The diagram below summarizes disruption forces in the IT and telecoms space from the late 1990s onwards. Reading the diagram from the left, it says that telecoms was a highly consolidated sector comprising network carriers, network infrastructure and device makers.

Telecoms used to be dominated by cartel-like relationships between large carriers, large phone makers, infrastructure providers, and their carrier software support vendors such as the ERP giants. It was almost impossible for a small company to do business with in this environment.

In IT, the entrepreneurial community had attempted to by-pass Microsoft’s control of operating systems (OS) by gravitating to a new device, an Internet appliance that would need its own OS. This was tried by the highly experimental BeOS. BE came close to success but not close enough. The cartel held sway.

Be was started by ex-Apple employees. The migration of key staff is a significant source ofcreative destruction.

Be employees, in turn, went onto Android, which started its life as an attempt to build an OS for Internet appliances

The intra-community activity between these companies created a significant store of experience as well as belief that business could be done differently.

At the same time that Internet entrepreneurs tried to gain traction, a burgeoning Personal Digital Assistant (PDA) market was emerging. This market had been growing and by the mid-2000s, was Internet enabled. It was the precursor of the smartphone in design and personnel.

An apps developer ecosystem was also well established within PDAs. Palm had 50,000 applications before Apple thought about an App Store. There was a well-worked out methodology to assess effectiveness of these innovations, based on consumer feedback and web analytics.

This was the situation when Apple launched the iPhone in 2007 and when Google launched the first Android phones a year later.

One catalyst for change – applications written for mobile devices – was only manageable at the scale reached by companies that had a strong platform background, as both Google and Apple had. Their arrival presaged a period of six years where the rule of management has not been to stick to the core – it has been to seek out the adjacencies.

Apps created a huge well of free content or usage opportunities for smartphones.

And on pricing, high end smartphones could cost $600 – 1000; on the cheap end though they quickly became available for $150 – $250. Radical price reduction is a feature of dramatic change.

There was also structural innovation – the upgrading of the US telecoms networks and with it the new information layer around sites like TechCrunch, who belatedly realized mobile) was an industry to rival and exceed computing. They became strong advocates of Silicon Valley products. Finally the mobile grid became truly global, laying an infrastructure for new ways to do business at scale with low unit costs.

That brief overview of events fits the model above as discussed in the first post. Here’s how it fits banking.

1. Concentration and the development of hubristic conditions. Bank consolidation preceded the Great Recession and was an integral part of the solution. Since the crisis we have seen considerable evidence of hubris (such as LIBOR fixing).
2. Experimental era. The finance sector has been surrounded by innovators seeking ways to pull down the walls of the oligopoly since the early 2000s (PayPal, Internet banking, low cost security brokerage; In retrospect it is surprising that so little of these gained traction, in the sense of creating a vibrant innovation culture.
3. The Content Layer. The growth of awareness and experience among consumers of different forms of substitute products and services has grown over a 10 – 15 year period but more than anything the crisis has created a new information environment.
4. Ecosystem consolidation. Over the past three years Fintech funding has grown three times faster than all VC funding; BitCoin and Ripple have now introduced the disruptive threat of open source and banks themselves are seeking a role in open source project.
5. Platform: Banks are all actively pursuing adjacencies, partnerships and fintech investments. Will another venturer provide the platform to consolidate this activity and renew finance? Already the space is becoming crowded with tech giants and new vendors in specialized areas like trade and supply chain finance, each taking the concept of finance beyond a traditional bank boundaries.

People are migrating between each and all of traditional banking, new finance companies tech platforms experimental era entities (PayPal), and start-ups. The people flow presents real opportunities for companies, incumbent and new, to create new market structures and it reflects a widespread belief that the structure can be and will be changed.

On the technological front, the advent of global mobile networks makes it possible to conceive of ultra-low cost payments’ networks The essence of change though lies in using scale on global mobile networks to make payments a true Internet service with the capacity for individuals and companies to deal with each other without intermediaries, therefore putting pressure on intermediaries to create new types of value rather than just to extract rent. Apple (phone payment via credit card), Google (email payments), Twitter and Facebook (social payments) are not taken seriously enough as future payment infrastructures, yet they operate at a scale most banks don’t yet dream of.

These companies have the capacity to make payments virtually free to the end user, akin to the impact of apps on the mobile business. Other tech companies have the capacity to make working capital and other types of loans to business at rates that don’t need to reflect high fixed costs. By opening up credit lines for businesses tech companies can position themselves to be the provider of all kinds of planning, execution and supply chain coordination software. In transaction banking the process of externalizing functions is creating a new market for payments providers of all types. Here payments are coupled to the changing needs of the enterprise, so the actual payment is subsidiary to services like credit lines and complex fx hedging. There is no need for an enterprise to rely on banks for these services and as non-bank credit lines are opening up and banks will find ways to fund trade without having loans on their own balance sheets.

These examples suggest there is a pattern in structural disruption. Entrepreneurs destroy industry structures, often for ideological reasons; and oligopoly is its own enemy because it leads to poor decision-making. Executives who want to anticipate disruption need to look closely at these factors. Disruption is, after all, predictable.

A longer version of these posts can be found here.

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A blog following the Global Peter Drucker Forum 2014. An opportunity to share experiences and learn from one another in the context of The Great Transformation.

It is important to understand the common themes behind these changes and have a model that helps executives anticipate and manage the impact of disruption or to devise disruptive strategies. Increasingly executives are talking about change as “disruption” and many smaller companies are positioning themselves as “disruptors” of a sector. Arguably “disruption strategy” is taking over from competitive strategy. If so then we need to clarify terms and grasp what this means.

As identified by Christensen, disruption typically creates new markets. If it doesn’t do this then strategy is typically competitive rather than disruptive. If we bear that distinction in mind then the idea of disruption becomes a useful way of looking at enterprise behavior and market change in the great transformation.

People talk about disruption in terms of the historical movement towards new types of productive enterprise, but they identify the root cause of transition as digitization. Given that a digital paradigm has existed for thirty years, this seems ill-conceived. In this post I will dig deeper into the background of disruption thinking and arrive at a simple model of its main characteristics and drivers.

There are five main contributions to thinking on business disruption but do any capture the essence of change that we face in the Great Transformation?

1. In the 1930s Kondratiev explained disruption as 60 year cycles (or waves) in which commodity prices become too high for incumbents to sustain business as normal and therefore needed radical innovation. For Kondratiev disruption was a periodic renewal that took an economy into a different set of relationships around commodity utilization. Technological innovation typically does just that by making business activity and scale cheaper;
2. Schumpeter used this wave theory to suggest that capitalism becomes increasingly corporatist and concentrated; corporatism would alienate key thinkers because it would produce an economy that made entrepreneurism impossible – this would lead to creative destruction or, in other words, an ideological attack on capitalism;
3. In the 1990s Christiansen described disruption as a process where even good companies could be hoodwinked by smaller companies with low cost products picking off low-end customers, meanwhile gaining experience to broaden and change the basic conditions of the market and customer needs, and compete by changing market structure;
4. More recently Larry Downes and Paul Nunnen have described a new form of disruption that they call Big Bang; an example is Twitter that began as an experiment and grew into the world’s largest broadcaster of personal information. Big Bang disruptors can be strategically inept and accidental, yet still very powerful suggesting that some elements of disruption are not that strategically controlled.
5. There is a fifth school of thought that has been given less attention, Steven Klepper’s work on firm survival and new entrants.

Klepper found that firms tend towards oligopoly. They survive for as long as they keep the barriers to entry high and they often do this through high levels of investment in R&D, which in turn gives strong returns to the investment community.

However, complex decision processes at the senior level of firms is are also associated with an inability to respond to competitive pressure. While discussions of disruption tend to focus on singular cases, Klepper illustrated the impact of complex decision processes on whole sectors.

The US Tire industry in the 1930s, TV manufacture from the 1960s and autos from the 1970s all suffered the effects of decision processes that were unresponsive to change – in all three cases the attack came from the rise of cheaper sources of production in Asia. In all three cases the problems lay in complex decision process in publicly quoted firms. Firms that had previously maintained entry barriers through high R&D investment were unable to respond to changes in processes elsewhere.

In contrast to these public firms, private ownership allows for longer-term investment decisions. In banking for example, in a recent unpublished study I found the Bank of New York Mellon, family owned, was far more adept at innovation decisions that the publicly owned Citi.

Klepper also found that in many instances competition arises from the employee-base of an oligopoly. People denied resources internally tend to quit and start their own competitive enterprise.

Klepper did not consider the possibility that whole industry structures can be transformed in ways that destroy oligopoly power very quickly from within, i.e. without competition from low-cost sources of production and without the successive incidence of smart people leaving to join the start-up pool (a process that roughly equates with creative destruction). Indeed the industries he studied were marked also by intense competition from developing economies. In the case of Nokia, the failed European mobile phone maker, competition came from high cost, high price Apple as well as low-cost Google working on a different operating model. This s another important point – we focus on business models when process models are significant sources of advantage.

Drawing on Klepper’s thinking and Schumpeter’s it is possible to identify a five step process that leads to structural disruption that affects all firms in a sector.

1. Concentration and hubris. The consolidation of market structure into an oligopoly, with satisfactory margins, but often accompanied by the growth of hubristic management.
2. The experimental era. What forces change on a highly concentrated industry? In the silicon industry Klepper identified early pressure coming from talented people working in oligopoly firms. This resulted in employees of existing oligopolists leaving to create their own companies because of dissatisfaction with how their innovative mindset is treated. Often accompanied by moves toward open source technologies; these socially organized movements also provide entrepreneurs with access to people whose work-values are part of a broader movement to democratize access to an industry – and today the Cloud makes experimentation and failure much easier to bear.
3. The new content layer. The growth of awareness, or a new content layer or changed information market, as consumers experience alternatives to oligopoly offers, often as co-creators or participants, is an often overlooked aspect of change. Awareness is also about consumer preferences and consumer access to information for making informed choices has never been easier.
4. Ecosystem consolidation. The consolidation of a durable start-up community with continuity of personnel and objectives over time, often represented as an ecosystem that takes on innovation risk is a consequence of an early experimental period. For example, there is a community around BitCoin that is destined to fail with its initial experiments but bound to succeed in the longer term task of disrupting finance through code and a global community.
5. Platform and price. The arrival of a platform company as an organising hub for a new industry, intensifies horizontal pressure on a whole sector and triggers multiple random adjacencies as platform providers can choose their ground – for example can Uber resist going into parcel delivery? Typically there is also a radical price reduction; apps for example, became free; new payments platforms today are radical on price. Platforms often represent the devolution of risk to ecosystem members, a factor that might explain why price reduction is possible. Platforms represent an organizing hub, a radical price point and devolved risk.

In a second post I will summarize disruption forces in the IT and telecoms space and look at how this applies to finance.

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A blog following the Global Peter Drucker Forum 2014. An opportunity to share experiences and learn from one another in the context of The Great Transformation.