About four months ago, I released the 2009 Shift Index from the Deloitte Center for the Edge. It showed a significant and sustained deterioration in return on assets (ROA) for all public companies in the US since 1965. That metric alone attracted a lot of attention from the media and executives.
Many executives were deeply engaged with the findings of that report, but understandably asked what the long-term Big Shift trends were in their specific industry. They asked and we delivered. Today, the Deloitte Center for the Edge is releasing a sequel to the original report, systematically examining trends across 14 industries. This report on Industry Metrics and Perspectives is lengthy (over 200 pages) and goes into considerable depth on nine industries in particular. Interested readers can download the full pdf here but for those wanting the headlines, these are some of the key perspectives emerging from the industry analysis:
Deterioration in performance is widespread
Firms in most industries are experiencing long-term deterioration in ROA since 1965. Only two industries – aerospace and defense and health care experienced improvements in ROA. It is perhaps not coincidental that these are two of the most heavily regulated industries and therefore more insulated from the growing competitive pressures challenging other industries. Even firms in these two industries face challenges going forward and it is not clear there are any safe harbors for companies facing the Big Shift
Advances in labor productivity fail to improve return on assets
There is no apparent correlation between improvements in labor productivity and improvements in return on assets across industries. In fact some of the industries – especially technology and telecommunications - that experienced the most dramatic improvements in labor productivity also experienced the most significant decline in the return on assets. This suggests that, while improvements in labor productivity may be necessary to respond to competitive pressure, they are certainly not sufficient. Most likely, many of the gains in labor productivity are being captured by more powerful customers and creative talent.
Innovation, at least as traditionally defined, does not appear to offer a solution
Perhaps one of the most innovative industries in the US – the technology industry – has also experienced one of the most significant declines in ROA since 1965. This suggests that innovation defined as product or even process innovation is also not sufficient as a response to growing economic pressure. With knowledge flows becoming more and more important as a source of value creation relative to knowledge stocks, we suggest that another form of innovation – institutional innovation – may be much more helpful in turning the performance trends around. This kind of innovation focuses on redefining roles and relationships among institutions to generate and sustain richer knowledge flows across institutional boundaries, something most institutions find very challenging today.
Traditional measures of competitive intensity understate the challenge
We used a widely accepted measure of competitive intensity that focuses on industry concentration/fragmentation trends. It soon become apparent that this measure, favored by many economists and policy makers, seriously understates gathering competitive forces. Very often, it ignores significant competitive pressures coming from other parts of the value chain. In particular, we found that customers are a source of growing competitive intensity as they gain more power over the vendors they deal with and demand more value at lower price. In other cases, growing competition came from companies nominally considered to be in other industries or markets, for example consider the growing role of cable companies and Internet companies like Google in the telecom industry.
Worker passion is at very low levels across all industries
At best, only about one in five workers are passionate about their work across all industries. This is a serious concern given our findings that passionate workers tend to be much more effective at seeking out and participating in knowledge flows. If participation in knowledge flows is key to creating new economic value, most firms are severely disadvantaged by the low level of worker passion among their employees. This is certainly one factor explaining our finding that firms are currently participating in a very small fraction of the knowledge flows available to them.
Bottom line observations
The industry sequel of our Shift Index confirms the key findings of our earlier report. Firms in the US have been experiencing a significant and sustained deterioration in performance over many decades. The most basic message is that our current approaches to doing business are fundamentally broken.
This has little to do with the current economic downturn. Certainly cyclical trends aggravate the longer-term pressures, but there is no evidence that any cyclical recovery will return companies to where they were before. Long term pressure continues to mount and shows no sign of abating. The current economic downturn has understandably consumed our attention, but we run the risk of missing the more profound, longer-term trends playing out around us.
While intensifying competition has catalyzed deteriorating performance for firms, there are significant beneficiaries of these trends. As customers, we all benefit in the form of increased value at lower prices. Total cash compensation to creative talent has risen markedly over this period, so this part of our workforce has also benefited enormously. The real challenge is to figure out how firms, caught in a pincer move between more powerful customers and talent, can create more economic value and improve their own profitability.
Given the profound performance deterioration that firms have experienced over decades, it is time to step back and reassess our most fundamental assumptions about what is required to be successful in business. If we have any hope of turning this longer-term trend around, we must be prepared to challenge our current approaches to business.
Despite our findings, we remain optimistic about the opportunities for firms. In particular, we believe that the two foundational catalysts driving intensified competition – digital infrastructures and public policy shifts favoring economic liberalization- also create the conditions for dramatic performance improvement. In fact, by harnessing the proliferating knowledge flows enabled by these two catalysts, we believe firms have an opportunity to drive much more powerful approaches to performance improvement. Experience curves have driven business performance for much of the 20th century. These curves have diminishing returns. We believe that for the first time, given a combination of new digital infrastructures and new institutional architectures, it may be possible to turn the experience curve on its side and for the first time generate performance curves with increasing returns – the more participants, the more rapidly performance improves.We use the term collaboration curves to describe this new opportunity.
This is both the challenge and the opportunity confronting firms today. Those who see this and act upon it will find that the Big Shift creates the potential for enormous wealth creation.