The next industrial revolution has, in fact, already begun, and it will dwarf the previous industrial revolutions in both size and speed. Managing businesses in this revolution will be hard. Managers who can adopt the necessary new methods will achieve breakthroughs in efficient use of resources, seize tomorrow’s biggest growth opportunities, and create the companies that lead the global economy for the next century.
Combining information technology, nanoscale materials science, and detailed understanding of biology with industrial technology and infrastructure yields substantial productivity increases. Embedding high-productivity economic growth in the developing world to support the 2.5 billion new members of the middle class presents the largest wealth creation opportunity in a century. Capturing these opportunities requires a new approach to management. We recognize the challenges ahead. On its current course, the world sees stagnating economic growth, accelerating commodity price inflation, increasing pollution, political gridlock, and the return of the frictions among powerful nations like the United States, China, Russia, India, and Germany.
Many people, companies, and even nations will try to resist the new industrial revolution. The resource revolution required a new approach to management : rather than labor and capital productivity now resource productivity comes first
Economically, geologically, and environmentally, unconventional oil and gas resources proved much less risky than other oil and gas production technologies. Adam Smith’s classical work on economics, Wealth of Nations (1776), defined three major inputs for business: labor, capital, and land. But neither of the first two revolutions focused on Smith’s third input: land and natural resources.
Zero-waste manufacturing is becoming the norm among major U.S. automakers. Already, with Zipcar, drivers can rent cars on a cheap, subscription basis rather than buy a capital-intensive asset that is parked the vast majority of the time.
In the first industrial revolution, which began with the steam engine and ran from the late 1700s through the mid-1800s, 13 percent of the world’s population industrialized (Western Europe).
In the second industrial revolution, 16 percent of the world industrialized for the first time (the United States, Canada, Australia, Russia, and Japan). This time, 37 percent of the world’s population will industrialize for the first time (mostly China and India and other parts of Asia and South America).
Roughly 130 million people benefited from the first industrial revolution. This time, the number will be 2.5 billion. That’s almost twenty times as many people—meaning twenty times the stress on resources. Before the first industrial revolution, the daily energy usage of someone in the middle class pretty much consisted of the food he consumed, or some 2,000 kcalories. Today, a member of the middle class uses more than 200,000 kcalories of energy a day, including gasoline for cars, electricity for lighting, natural gas for heating, and so on. Do the math: With twenty times as many people demanding one hundred times as much energy and resources, a smart manager can argue that the new demands about to be placed on the world’s resources dwarf those from the first industrial revolution by a factor of 2,000.
Change is happening far faster, too. The U.K. needed 150 years for its GDP per capita to double in the first industrial revolution. The United States needed fifty years in the second industrial revolution. China’s GDP per capita has doubled in less than fifteen years.
Agriculture will require more water, land, and energy. A calorie of beef requires 160 times more energy to produce than a calorie of corn. So, meeting the rising expectations of the new middle class for protein will require either a major increase in land, water, and energy productivity or a sharp dietary shift away from animal proteins that we have not seen with previous increases in income. Reserves are getting more expensive to extract. Businesses need to focus on increasing productivity as a core element in reducing pollution.
Malthus argued that the growing population would overwhelm the world, leading to widespread famine. Smith argued that businessmen could adapt and innovate rapidly enough that productivity could increase faster than consumption. Where Malthus saw disaster, Smith saw opportunity.
The first industrial revolution radically improved labor productivity, as workers moved from the fields to the factories and as the steam engine allowed a factory worker to perform the work of many men. Emphasis on increasing labor productivity has continued ever since.
In the second industrial revolution, massive amounts of capital were invested in manufacturing facilities, skyscrapers, mechanized machinery, railroads and bridges, and so on.
We are encouraged that the next round of innovations, from 3-D printing to distributed solar, building controls via iPhones, and shale oil and gas innovations, have much lower capital costs per unit and are significantly more accessible to many more individuals, enabling individual productivity growth to accelerate over time. We are moving away from the era where large corporate or government balance sheets are required to fund power generation, manufacturing, and transportation. Increasingly, specialized companies and even individual entrepreneurs can combine information technology with industrial technology and insight to invent new business models like Airbnb or Zipcar. Indeed, many of these innovations are being pioneered in parts of the world where the classical centralized power grid or transportation infrastructure have not yet been established.
THE FIRST INDUSTRIAL REVOLUTION: STEAM SUPPLANTS SWEATCommonly known as the Industrial Revolution, that revolution, which would move from Britain to the United States and continental Europe, generated a tenfold increase in productivity that reshaped the global economy, created untold wealth, and redefined the basics of business. Watt’s steam engine also led to a new model for business: the limited liability corporation, which was developed specifically to support the capital formation necessary to deploy the steam engine and its progeny. A single technology like carding made relatively incremental difference in output. But combine it with spinning, a governor, and direct-drive steam power and the market enjoys a “step change.” Adding standardized piecework, multiple shifts, and large factories with multiple machines began to produce order-of-magnitude changes in output and productivity. In the days of a guild, the limiting factor was availability of skilled labor: Apprenticeships ran five to seven years. But a factory could be set up in less than a year and new workers trained in weeks, not years.
THE SECOND INDUSTRIAL REVOLUTION: URBAN GRIDSAdditional population growth is only one part of the massive change in infrastructure that overtook cities. Building materials changed from wood, which had caused massive fires in 1835 and 1845, to low-cost, high-strength steel by the end of the century. Steel also allowed the development of low-friction bearings for machinery and enabled lower rolling resistance for trains running on steel rails, compared with wooden cart wheels running over bumpy roads. Sewage was captured and sewers were put underground. All buildings got access to running water, and dangerous cesspools were filled in. Lighting changed from wood, kerosene, and candles to electric lights, making homes safer and extending productive time for everyone by hours. Electricity also enabled the development of the assembly line, as Henry Ford took his experience at Detroit Edison, where he had worked for Thomas Edison, and applied it to making a production line move.
Second industrial revolution also brought significant changes to management principles, corporate entities, and capital formation, irrevocably changing the balance of power between people, governments, and corporations. The second industrial revolution created trusts, the first national corporations and then multinational ones, and corporate banks. As companies grew larger, they needed to adopt formal, scientific approaches to management. Accounting standards were developed. Frederick Taylor conducted his famous time-and-motion studies to optimize manufacturing processes. Alfred Sloan laid down the principles of managing a large multibusiness corporation to make it possible to run a company the size of General Motors. Corporate R&D became a focus for the first time, because companies could now surpass what individuals could do on their own. In broad terms, the second industrial revolution and the massive, capital-intensive businesses it produced led to the command-and-control structure that defines the modern corporation. The second industrial revolution gave us the modern world.
The urbanization crisis was largely solved, doubling life expectancy while allowing for huge improvements in levels of education and raising the standard of living to heights that would have been unimaginable to even the wealthiest people in the 1870s. Some current projections are for population growth to stop altogether by 2050 at around 9.6 billion. Battles over oil, water, and food are the inevitable consequences. Rapid commodity price inflation acts as a regressive tax, increasing income disparity and slowing economic growth. The future is here, it’s just not evenly distributed.
Those that win will be the companies that not only take advantage of emerging technologies but that combine them with managerial innovations that follow in the tradition of the factory, the assembly line, and other breakthroughs from the first two revolutions.
THE INDUSTRIAL REVOLUTION TRIGGERED BY THE STEAM ENGINE offered enormous business opportunities and potential for wealth creation, while also killing off companies and industries that could not keep up.THE DRAMATIC IMPROVEMENT IN LABOR PRODUCTIVITY also brought increased power to capital owners and established the limited liability corporation.
THE WAVE OF URBANIZATION AND ELECTRIFICATION at the turn of the twentieth century created equally large productivity opportunities.
THESE INNOVATIONS HELPED CREATE GLOBAL CORPORATIONS that have prospered for a century and banks to support and fund them, making capital deployment substantially more productive.
BOTH REVOLUTIONS UNFOLDED OVER SEVERAL DECADES and required many additional innovations in manufacturing, metallurgy, management systems, and selling approaches to ensure a business could scale.
BOTH REVOLUTIONS ALSO INITIALLY CAUSED A COMMODITY price spike, as demand for steel, copper, food, etc., outgrew traditional production methodologies, but eventually increased welfare as newer, higher-productivity automated methods took hold.
WE ARE NOW FACING A THIRD such commodity spike driven by the rise of cities and the number of middle-class citizens in emerging markets.
WE ARE CONFIDENT A STEP CHANGE in resource productivity will not only allow the economy to work its way through the resource challenges but deliver new opportunities for creating wealth and cementing the position of leading companies for the coming decades.
The United States is on a path potentially to pass Saudi Arabia as the world’s largest oil producer within a decade and is now exporting refined petroleum products for the first time since World War II. On current course, the United States will not need to import crude oil after 2020 from outside North America. This unconventional oil growth will reshape global trade patterns, almost eliminating energy trade across the Atlantic. Because 60 percent of the U.S. trade deficit is oil imports, the United States is on a path to dramatically improve the national trade balance and energy security. Energy-intensive manufacturing of steel, glass, aluminum, etc., which had been fleeing the United States because of cheap inputs and cheap labor overseas, may start to move back to North America to take advantage of inexpensive gas and power. Additionally, expertise must be developed in other countries before they can begin fracking their own sources.
Improper drilling and water disposal practices can cause earthquakes, though companies that adjust their drilling patterns to avoid local seismic faults should make the phenomenon rare. Mitchell and his team integrated software and other information technology with traditional tools, producing an enormous increase in productivity. Crucial technologies are already out there—fracking had been around for decades before Mitchell figured out how to make it work for shale—if only we can learn how to see them. In the third industrial revolution, rapid change is a constant; upheavals happen quickly and frequently.
Companies that make continuous reinvention into a core mission will stay ahead of the curve. Some research from a professor at Arizona State University that looked into how to motivate people to use less electricity. He had hung flyers on people’s doors in San Diego encouraging them to use a fan rather than air-conditioning at night. None of the messages worked—except for this one: “Did you know that most of your neighbors choose to use a fan at night?” Opower finds that it can get consumers to cut electricity consumption by more than 2 percent just by giving them feedback using available data and providing a few suggestions on how to make saving energy easy. This may sound less consequential than the shale gas revolution, but a 2 percent reduction nationwide would eliminate the need for some 130 power plants. The rise sent the price of power up around the country and sent utilities (and their regulators) on the hunt for new approaches to save energy.
Casting as wide a net as possible, Laskey used some political connections to get a hearing with state officials in Texas, Opower now reports on electricity usage to more than 10 million households, just in the United States. They say they have motivated people to save some 2 billion kilowatt hours of electricity, or about $250 millions’ worth. Rather than creating and marketing hardware to consumers of energy, Opower’s business model focuses instead on marketing software to utility companies, the producers of energy. Opower has been able to scale quickly through a lean-operations approach by avoiding expensive hardware, instead utilizing less-capital-intensive software. Opower describes its ability to reduce energy consumption and generate revenues as a “double bottom line”—making money while helping the environment. Opower exemplifies three of the fundamental principles of resource productivity: virtualization, optimization, and waste reduction.
MITCHELL ENERGY SHOWS THE GREAT OPPORTUNITY TO EXPAND SUPPLY.OPOWER DEMONSTRATES THE ECONOMIC ATTRACTIVENESS OF DEMAND REDUCTION. The consumer benefits from both expanded supplies and reduced demand.
TODAY, INNOVATIONS OFTEN INVOLVE COMBINING traditional industrial technologies with new software tools that can scale rapidly.
THESE INNOVATIONS OFTEN REQUIRE NEW BUSINESS MODELS to work at scale.
THE RESTRUCTURING COSTS ARE HIGH when the market gets surprised by a major innovation that changes the economics of a process by a factor of five to ten—those who don’t see the new wave coming can go bankrupt quickly.
Five principles are the first areas a company should look at when thinking through how to win the resource revolution. Those five principles are:
Finding opportunities to substitute away from scarce resources.Eliminating waste throughout the system, from production through end use.
Increasing “circularity”—upgrading, reusing, or recycling products.
Optimizing efficiency, convenience, safety, and reliability.
Moving products, services, and the processes that develop or deliver them out of the physical world and into the virtual realm.
As physicist and environmentalist Amory Lovins has pointed out, less than 1 percent of the energy in a tank of gas really goes toward moving the passenger from point A to point B; the rest is lost in heat, tire wear, and moving hunks of metal and air. Most of us own a car mainly to park it 96 percent of the time. Cars are typically the second biggest capital expenditure we make—the first is buying a house—yet they spend almost their entire lives sitting at home or in parking lots. Roads are likewise extremely inefficient. A freeway operating at peak throughput of 2,000 cars per lane per hour is less than 10 percent covered by cars. This translates to 4 to 5 percent of the time that roads reach peak throughput if there are no traffic jams. These problems aren’t the kind that can be solved by investing in new equipment or making workers more productive. BMW and Daimler have started car-sharing programs and publicly said they are transportation companies, not car manufacturers.
A start-up, Sensity, says it will take advantage of the upgrade of incandescent streetlights to more efficient and longer-lasting LED, and will offer municipalities the opportunity to include sensors in the new streetlights that will monitor and report on the availability of parking spots on streets. Carbon fiber will be used instead of steel because it is far stronger and lighter, allowing longer driving range and better acceleration. Electric motors may substitute for the internal combustion engine in massive quantities.
Unlike humans, who learn primarily from their own experiences, the artificial intelligence software in the Google car learns from every experience of every car. Through virtualization, the driverless car could increase productivity in all facets of car use. Far fewer cars would be needed, because they would stay in constant use rather than being parked 96 percent of the time. If the cars demonstrate that they can greatly reduce crashes—Google predicts that accidents will drop 90 percent—then many of the safety systems and much of the weight can be taken out of cars.
Most trips are one- or two-person journeys, so far fewer large cars would be needed. If Google is right that its car can reduce accidents by 90 percent, that would mean more than 30,000 lives would be saved in the United States every year. More than 2 million people, just in the United States, wouldn’t have to go to emergency rooms because of traffic accidents; and $260 billion would be saved, according to an American Automobile Association study. People would also gain ten additional “days” per year—the time we now waste in traffic jams. Fewer roads would need to be built, because cars would travel more closely together. Many self-driving cars would just head off to pick up another passenger.
There would, of course, be losers, too. Companies that build cars and build and service roads would see business plunge. Many car insurance companies would go out of business. Who needs liability insurance if there aren’t any accidents? And how do you steal a self-driving car? Similarly, many body shops would go out of business; the primary repairs would be for things like hailstorms and foul balls from baseball games. Governments, which are already losing revenue as vehicle miles traveled decline and reduce the taxes paid on gasoline, would lose more revenue, because traffic fines would disappear—all cars would obey all laws; at the same time, governments would also need fewer police officers on the road and would need less jail space, if only because drunk drivers would no longer be an issue.
SolarCity’s market cap of more than $3 billion makes it one of the most successful solar energy companies to date.
The company’s innovation: Rather than ask customers to front the money for solar panel installations, SolarCity handled the financing. It charged an electric rate that was well below what customers had been paying but that covered the cost of the panels, installation, and financing, while providing a healthy profit.
Tesla began with the idea that inexpensive electricity could substitute for gasoline as the primary fuel for cars. Electric motors reach full torque almost instantly and don’t need to warm up, so Musk could provide sports-car-like acceleration even in his family sedan. Electric motors are 95 percent efficient (compared with 40 percent for the most advanced internal combustion engine). Electric motors are far quieter than internal combustion engines, and Musk designed a nearly silent ride. Musk provided an entertainment system with an exceptionally bright and clear 17-inch touch screen. It’s rarely possible to get the full benefit of a substitution just by taking out one piece of the puzzle and plunking in another, He put the batteries down low to get the center of gravity closer to the ground, improving handling and safety. Rethinking the design from the ground up enabled Musk to take advantage of the next principle on our list: waste reduction. Replacing an internal combustion engine with electric motors can give the manufacturer a car without engine cooling, transmission, and most of what’s under the hood, but with better acceleration, better handling, and better safety. Tesla is the first car that doesn’t require maintenance to keep its warranty. He developed sophisticated software to control charging and discharging, battery pack temperatures, and charge levels to optimize efficiency and significantly extend the lifetime of the battery. Tesla is also building a network of Supercharger stations around the country—using solar power whenever possible—that are free for Tesla owners. Musk created a recycling program for Tesla’s battery packages, allowing for much higher reuse. Tesla’s biggest innovations may be in its system and network optimization, whose effect on performance and waste reduction we’ve already described. While cars that just add a battery to an existing design find the new feature can degrade performance, Tesla’s focus on optimizing the whole system has translated every element into an advantage that increases performance. Tesla increased virtualization with a live cellular connection to each car that means Tesla can upgrade key software systems remotely. The maintenance network also receives data from the cars. Batteries take far longer to recharge than the time it takes to fill up a gas tank—four to twelve hours on an AC charger or thirty minutes to two hours on a DC charger. Since the first Roadster came off the production line in 2010, more than 10,000 Teslas have been sold, and the cars have become status symbols in Silicon Valley and other wealthy precincts.
SUBSTITUTIONThe guiding principle for substitution: Look at every single resource a company uses in its core products and every single resource that customers use or consume, then look for higher-performing, less expensive, or less-scarce materials that might work as substitutes. Dermal denticles that mimic shark skin have produced quieter submarines and faster swimsuits. Natural processes are also typically reversible, meaning materials can be recovered or reused.
ELIMINATE WASTEWhile labor productivity has improved almost 100 percent over the last two decades, resource productivity has increased only 5 to 10 percent—and it’s not because there isn’t room for improvement. One surfactant manufacturer we worked with found that only 10 percent of the energy it used actually went into making its products. The rest was wasted in heating, cooling, and reheating the same equipment. The reduction in energy usage cuts costs considerably, because energy is the second-largest cost component in steel, after raw materials. In our experience, manufacturers have the opportunity to reduce energy usage by 30 percent and materials used by a further 30 percent, greatly improving economics. In eliminating energy or water waste in production, the best approach involves assessing how much energy or water is used throughout the entire process versus the amount actually required at each step—often, the amount of energy used is more than twice what is technically required. It’s also important to think beyond production when coming up with ways to reduce waste. Products can be redesigned, sometimes at fundamental levels, to cut waste.
Kaiima is going even further and trying to reengineer the very biology of food crops. One challenge is that, given current climate conditions, the world grows corn better than most grains. If Kaiima succeeds, grains will require less water, land, and energy, while providing more variety and nutrition, all of which will be vital in a world with so many more people consuming at middle-class rates. Formun Üstü
Kaiima, an Israeli company whose name means “sustainability” in Aramaic, has already produced varieties of castor beans that increase the yield of feedstock per acre for biofuels by a factor of three to four. The company is aiming for a tenfold improvement.
In 3-D printing, there is zero waste: While 3-D printers initially only worked with plastics, they can now “print” in steel, titanium, gold, and other metals. Measuring input materials and energy and water, comparing them to the delivered product, and understanding all the waste factors in between: scrap, idle machines, changeover time or other interruptions, and so on.
INCREASE CIRCULARITYAluminum shows how powerful recycling can be—and how disruptive for those who aren’t prepared. Reuse and recycling can create enormous profits. Recyclers can purchase scrap input at a fraction of the cost of new materials. Shipping costs also fall because scrap contains so much less waste than ore.
OPTIMIZATIONThere are inefficiencies everywhere in the use of resources, which are just waiting to be solved. Many airlines now pool resources at hubs and provide each other spare parts. UPS reduced fuel consumption and improved safety and speed by rerouting its trucks to avoid left turns. The U.S. Air Force has found new ways to have planes fly in convoys, like geese flying in a V. Pilots also needed some training not to override the autopilot manually.
INCREASE VIRTUALIZATIONSure, a company is happy to interact with clients and customers via e-mail and video conference to make interactions more efficient, and a company is happy to automate the mechanical aspects of interactions. But companies generally don’t like to see core activities move into the virtual realm, because revenue always seems to drop more than costs do. Teenagers have shown a declining interest in driving, according to statistics on the age at which Americans get their first license, and the speculation is that the ability to connect via Facebook, Google+, and other social media is one reason. Skype and other video-chat software further reduce the need to drive somewhere to see someone. Work is gradually becoming more virtual as people telecommute more often.
Blue, the CEO of General Atomics, had a thought: What would happen if military aviation could become virtual? What if he could take the pilot out of the plane? Not only would the pilot’s weight be taken out of military planes, but so would everything needed to support him—the oxygen system; the instrumentation; everything needed to provide the space for him to operate; safety and escape systems; and even some of the defense mechanisms, given that a less-expensive, pilotless plane wouldn’t need to be protected in the same way as a plane with a pilot. Taking out so much weight and eliminating so much space wouldn’t just make the plane lighter; the changes would mean that the pilotless plane could stay aloft far longer, carry more fuel or weapons for a given airframe and engine, or have a much smaller radar cross section. Conventional wisdom was that a drone would take five years and $1 billion to build, but General Atomics spent just $20 million and six months to develop a prototype using a lawnmower engine. Drones have changed the nature of warfare. The U.S. military uses inexpensive drones to attack targets inside Afghanistan and Pakistan. A drone could easily perform maneuvers that no manned plane could make. Today, with pilots controlling drones remotely from bases in the United States, the air force is reluctant to expand the use of drones because of the vulnerability of communications links to jamming or manipulation.
American Airlines pilots are now carrying flight records, navigation maps, and manuals on an iPad, eliminating a 35-pound bag, saving cockpit space, and reducing fuel use by $1.2 million. E-filing tax returns has reduced the costs of processing and record storage while improving the accuracy and speed of refunds. Interchangeable parts revolutionized manufacturing at the end of the nineteenth century, allowing mass production. Similarly, software has demonstrated accelerating rates of innovation because each new software developer can use and reuse modules of code developed previously.
THERE ARE HUGE OPPORTUNITIES TO SUBSTITUTE away from scarce resources. Companies can ask themselves, for example, how to take 80 percent of the weight and cost out of an existing product.WASTE CAN BE ELIMINATED throughout the system. What will it take to reduce energy use in a company’s manufacturing processes by 30 to 40 percent? Where are there opportunities to cut water use by 80 percent or more?
CIRCULARITY CAN BE INCREASED. Where is the next opportunity to mine gold from waste? Where can companies convert equipment sales to services?
VIRTUALIZATION CAN EXPAND SIGNIFICANTLY. What is the next opportunity to take drivers out of machines to increase safety, reliability, and productivity? What else can be done faster remotely and with more expertise?
NETWORK OPTIMIZATION applied to industrial equipment offers significant savings.
The notion of interchangeability can be applied not just to cars and appliances but to entire buildings, factories, work processes, and even infrastructure systems, through the use of modules and standard interfaces that allow both physical objects and processes to be, in essence, snapped together. It is this idea that forms the core of Java, known as “object-oriented programming.” Each “object” is a module that communicates what its job is. Other objects don’t need to know how that module does its job. This idea has an enormous effect on productivity. First, a programmer writing a new app for the iPhone doesn’t need to reinvent any of the functions that already exist, such as displaying on the screen, locating via GPS, or sending a text message. Instead, the programmer can draw on all the other objects that already exist. Second, if, say, someone comes up with an object that performs calculus faster, that new object can replace the old one without requiring any other change on the iPhone app or any other device. The interface is standardized.
In the physical world of tools and construction, a benefit of standard interfaces is that, when one part or module breaks, it can simply be replaced or repaired without affecting anything else. In China, Zhang Yue is using aspects of the DIRTT approach for its boldest application yet and could set a major precedent for China, which has the world’s largest urbanizing population and faces immense pressure to construct large numbers of buildings quickly. Zhang, the founder and CEO of Broad Sustainable Building, came to buildings as an engineer, not an architect. In 2008, he began experimenting with prefab construction that makes buildings faster and cheaper to design and build, while saving enormous amounts of water and concrete. Now, BSB has a large factory for Lego-like steel and concrete modular blocks. They come with ducts and wiring built in and are hoisted into position on site, where they are connected with standard fasteners. In 2011, BSB built a fifteen-story tower in Zhang’s hometown, Changsha, in thirty days. Sky City will be the tallest building in the world, at 838 meters (more than twice the height of the Empire State Building). Sky City will house 30,000 people and have 104 elevators, a hotel, a school, and a massive entertainment and sports complex, plus stores and restaurants. Similar to DIRTT, which figured out a way to mount irrigation systems and plants onto a wall panel, the exterior walls of Sky City will act as farmland and grow plants and food. Zhang intends to earthquake-proof Sky City for a 9.0 earthquake.
In the Middle Ages, the Venetians built their naval power on interchangeable parts. They not only had the largest fleet of their time but could rapidly build, repair, and train crews for ships built of standardized parts, using a standard frame that saved both wood and time in construction.
Companies that failed to meet expectations were said to be Amazoned because Amazon made it so easy to buy books, so easy to provide feedback, and so easy to get recommendations on other books to buy that the company raised the standards for everybody. We now live in an iPhone world, and every company needs to live up to the expectations that Steve Jobs created: a world of intuitive interfaces and robust capabilities. Every good manager needs to ensure that all the software on the system is the absolute best. As companies add software capabilities to their core products, they will find that they can—and must—make products as upgradeable as possible. The progression from hardware to software to remote upgrades is available to far more companies today. In this environment, managers must:
INCREASE STANDARDIZATION AND MODULARIZATION, making interchangeable parts for the twenty-first century.FIND NEW WAYS TO DELIVER improved capabilities to customers without relying on the old product architecture.
USE NEW MATERIALS, design techniques, and software analysis.
APPLY SOFTWARE AND ALGORITHMS AND AUTOMATION both “inside” the product and also to the value chain of making, delivering, and servicing—improving product performance and reducing weight and cost.
ALLOW THE PRODUCT TO BE UPGRADED consistently over time, opening up the potential for more software-as-a-service delivery models.
Internet of Things. To this point, the Internet has mostly allowed people to communicate with each other and to interact with other devices by, for instance, visiting websites. Increasingly, though, devices are going to talk to each other without the need for any human involvement. Because of the Internet of Things, machines will all be able to talk to one another, and there will be billions of sensors and cameras joining the conversation. The possibilities for efficiencies and for new products and services are exceptional.
Putting new dongles on old systems can actually make performance worse. Done right, system integration can mean that 1 and 1 equal 11. Done wrong, integration can turn 1 and 1 into zero. Although system integration is hard, there are three things each company can do to greatly increase the odds of success:
Recognize the scope of the problem.Bring in people with experience.
Model whenever possible, then test.
Engineering marvel of the twentieth century, but the basic technology of the grid has changed little since the time of Edison and Westinghouse. The average circuit is forty years old, and some are more than a century old. The grid is showing its age. New air-conditioning systems can similarly use evaporation to cool buildings instead of the compressors that make current air conditioners so noisy. Such compressionless air-conditioning systems may reduce the use of electricity by 50 percent or more, The grid will need almost to be redesigned from scratch to get the full benefit of the new types of transformers, the capability to sense problems and solve them automatically, the ability to essentially have little power plants on millions of rooftops as solar prices keep coming down, and so on. Regulators will need to be partners on this journey with the utilities. To integrate all the aspects of the grid, utilities will need to invest heavily in software and control systems, or they’ll be swamped. Utilities and their suppliers will need to collaborate much more than they do now. The magic of Wi-Fi is that standards were established early on so that every person and device can talk to every other person and device.
Retailers will need to do a better job of keeping the right sizes, styles, and colors on their shelves to boost sales and eliminate waste. Hospitals must become much more efficient at handling patients with different symptoms, different conditions, and different doctors.
As more solar power is generated from the rooftops of homes and offices, utilities will need to be both big buyers and big sellers of power. Utilities will need to charge for backup capacity rather than kilowatts. The bar-code scanner readings enabled retailers to more accurately gauge customer demand and forecast and react to changes. The ability to replace meter readers with automated systems pays for the installation of the new equipment, but the major impact is increasing grid reliability while decreasing the operating costs and capital requirements for the grid.
Companies can fail when consumers or governments aren’t ready for a particular resource innovation. To get the most out of resource innovation, companies must focus relentlessly on system integration. That means:
INTEGRATING INDUSTRIAL EQUIPMENT into digital networks boosts throughput, yield, and efficiency.STANDARDS FOR INTEGRATION ARE ESSENTIAL for ensuring network stability and increasing economic returns.
OPTIMIZING NETWORK PERFORMANCE. By understanding how the pieces in a network work together, efficiencies can be maximized.
MODELING OVERALL SYSTEM PERFORMANCE as much as possible, and coordinating with other participants in the system.
TESTING, TESTING, AND TESTING—nothing gets in the network unless it makes the other pieces better.
LOOKING AT NEW BUSINESS MODELS, integrating software and services with traditional equipment businesses.
Enter the market too soon, and it won’t know what to do with the innovation. Too late, and others will have locked up the market. The classic large company response of “buying the way in later” won’t work when transitions are fast. The new entrant’s valuation and multiples may make them too expensive to acquire. That science consists of three parts. First, when thinking about timing, it’s crucial to be thinking about products that mark a breakthrough, not just incremental progress. Second, it’s important to understand that change in demand will almost certainly come in a burst once a threshold is crossed. Third, it’s crucial to start investing well before that threshold is likely to be hit, both to be prepared and to provide a margin for error in case the market shifts sooner than expected.
The iPod actually cost more than the Walkman it was replacing, but it was more portable, more reliable, and more flexible and had dramatically more content easily available for play. Falling prices can actually slow adoption.
Why buy today when the product will be much cheaper in six months? When consumers consider adopting a new technology, they won’t necessarily do so even if it’s clearly better. They want to see multiple options, to increase their comfort, and be sure they can find the version of a product that is just right for them.
Generally, if a payback can’t be provided in less than two years, consumers and many companies won’t be interested. Beyond understanding the customer’s desires and behavior, it’s important to look across the board—at the supply chain, at the retail channel, and at any government regulations. Energy efficiency products show what can happen when a technology is mature but the supply chain and regulations don’t line up.
The problem to be solved is still in the basic-science stage; it hasn’t reached the engineering world. Green Revolution produced major gains, with the fertilizer revolution at the beginning of the twentieth century and then, starting in the 1960s, better seed technologies and improvements in irrigation. But those gains have now run their course, and far more is needed to feed the billions who will enter the middle class by 2030 and who will want not only more food, but better food. The prospect of widespread water scarcity compounds the pressure on agriculture to produce productivity breakthroughs.
Because of the uncertainty, a rule of thumb is to start investing two product cycles before a product will likely hit the mass-market threshold by providing that 50 to 80 percent improvement, achieving customer readiness, etc. Product cycles vary: Phones are on about a six-month product cycle, while cars are still on a seven-year cycle.
The incandescent lightbulb is, in fact, a very inefficient technology. Roughly 95 percent of the electricity that goes into a bulb is emitted as heat, not light. In addition to the heat problem, lightbulbs don’t last very long. The answer, as has been clear for some years now, is the light-emitting diode, or LED. LEDs require only 10 percent as much electricity as incandescents to produce the same amount of light. LEDs generate almost no heat. LEDs can deliver much better color quality than both incandescents and compact fluorescents. They can last twenty to thirty years—in fact, they don’t burn out; they just eventually dim.
SUCCESS IN A RAPIDLY CHANGING MARKET requires getting the timing right.UNDERSTANDING LEARNING CURVES is essential in order to predict the disruptive potential of new technologies. By quantifying learning curves, managers can identify the threshold where a product goes from being an incremental luxury good to something every customer wants.
THIS USUALLY REQUIRES A 50 TO 80 PERCENT IMPROVEMENT in cost and performance in comparison with incumbent technologies—just getting a little ahead is not enough to drive substitution.
MANAGERS SHOULD SCALE THEIR PRODUCT when economics allow something like a two-year payback period—if the period is longer, the market will spend time on other products.
INVESTMENT SHOULD BEGIN TWO PRODUCT CYCLES before the mass-market threshold is expected to be reached.
THE MAJOR SUCCESS OCCURS when the new attributes for the product become apparent, moving beyond just substitution.
To get innovation to scale, companies have to think explicitly about the problem. That may sound obvious, but many people miss this part. They focus so much on figuring out technology that they don’t pay enough attention to whether it can operate at scale. Lots of things work on the lab bench but not in the factory or in the market. Even if something is truly cool, it doesn’t count unless it can be done at the scale of billions and trillions. Once they identify the issue, companies have to do three things to succeed:
Make it easy for customers to switch. The personal energy required has to be low, and the benefit has to be obvious. Focus on the whole ecosystem. This includes a hard look at manufacturing, which can be a thorny problem. It’s not enough just to focus on a product; it’s crucial to understand whether the supply chain can provide the necessary commodities, parts, or services. It’s necessary to figure out ahead of time how to sell and service a product.
Provide a committed champion, the kind of leader who will stick with problems and carry an innovation all the way to market. “Customers are used to buying power, not a power plant,” says Edward Fenster, one of the two CEOs at SunRun, a solar company based in San Francisco. These companies have gone from being makers of products to being providers of services. The breakthrough was to relieve the individual homeowner of the burden of ownership of expensive machinery. Just because our homeowner has a solar unit on the roof of his property doesn’t mean he needs to own it. Instead, he’s buying a service, sort of like leasing a car, except he’s paying for electricity. Getting to market with an innovation, already difficult in traditional technology, is that much more difficult for resource technology. Customers shouldn’t have to change anything about their behavior to use the new product or service, even if the underlying technology has changed radically.
A Tesla isn’t mainly an electric car; it’s a sexy car that happens to be electric. Likewise, LEDs don’t just save money because they use less electricity than incandescents. LEDs also need replacement far less frequently and can be easily managed individually and remotely. Solar companies backed by recent venture capital have focused on new cell structures and materials they could patent.
The best predictor of success is not actually the performance of the best cell, which tends to be the focus in the lab but says little about what performance can be reliably generated at scale. The best indicator is the variability of output—that is, the ratio between good and bad cells and the difference in power output between the best and the worst. To win the race for scaling, companies must begin with rapid prototyping. Lab scale to pilot scale, pilot scale to commercial scale, commercial scale to world scale. Companies also must design for manufacturability. Simple designs that are easy to repeat are much more sustainable—cheaper to manufacture, easier to maintain, simpler to recycle at the end of life.
In addition, supply chain management must be integrated. The ability to get the materials required to make and deliver a product without interruption in a highly distributed market represents one of the biggest challenges for most companies today. The ability to build supply chains with the resilience to respond to major disruptions can differentiate companies quickly.
Companies should also focus on developing an operating process. Standard, repeatable operating processes are the backbone for scaling companies. The Lean and Six Sigma tools developed by Toyota, Motorola, GE, and others provide a useful starting point for eliminating waste and variability in production. The best companies, however, are integrating these capabilities into a package that everyone can execute—both employees and contractors know the standard operating procedures at Alcoa, Honeywell, Boeing, and GE. Companies that know how to develop integrated operating systems across their whole ecosystem, and not just their employees, can change faster than those that don’t.
Finally, companies must focus on the adaptation and integration of technology. But not all supply chain constraints are upstream. Sometimes, the deployment or service infrastructure present obstacles. For instance, one of the major barriers facing electric vehicles is not a shortage of lithium mining but a shortage of battery-charging and -swapping stations. The best companies will understand early where bottlenecks may occur in the value chain and either design around the potential problem or build supply chains that are resilient enough to deliver at scale. Success requires having a strong supply chain to deliver a product to market at scale—as well as a Plan B for when the infrastructure comes late to the party.
In Search of Excellence, defined champions in organizations as people who are not only determined and personally passionate but able to excite others in the cause and enlist them. For many companies, resource revolutions will take them into new territory. This could mean having to learn new skills such as software or electronics, to use unfamiliar materials, or to switch to an asset-light business model.
The speech has become legend within Samsung—one line, “Change everything except for your wife and children,” has become to Samsung employees what John F. Kennedy’s “Ask not what your country can do for you” is to Americans. In 1995, Lee sent out Samsung products as Christmas gifts and heard that many of them didn’t work. He went to the main factory, in Gumi, and called all two thousand employees to a meeting in a courtyard. As they donned headbands labeled “Quality First,” Lee had all the plant’s inventory, valued at roughly $50 million, dumped in a pile. Lee sat below a banner that read, “Quality Is My Pride,” as he had workers smash every television, every phone, every fax machine, and every other piece of inventory, then throw them on a bonfire. Lee told the shocked employees that he would no longer accept poor-quality products. If the factory kept churning out inferior products, he’d come back to destroy the factory’s output again. Lee reinforced the message later when someone noticed that covers for a cell phone didn’t look quite like the covers that had been on the prototypes. Lee ordered that all the covers be replaced with ones that matched the original quality, even though it meant trashing more than a hundred thousand covers. Samsung would not survive by being simply the best Korean company. As a vertically integrated, globally networked manufacturer, Samsung can produce low-cost gadgets at blistering speed.
Success requires senior commitment for bold actions from the CEO and the board: Big investments must be made, and legacy barriers within an organization need to be broken down. Success requires public, measurable goals that will be a stretch for the organization and will motivate it to break new ground and look for new ways to succeed, rather than only refine what worked in the past. Finding or developing a great champion requires overcoming six common barriers: Many companies have truly visionary leaders inside their organizations, but these visionaries often come from a technical background or the R&D labs and lack the business credibility or experience to make an investment case to the company. The visionary leaders may be sitting in emerging markets or otherwise be in a position that is more on the periphery of the company, with limited access to headquarters or key investment decisions. Many people who hold significant authority are consumed by just running the current business. This weakness can be resolved by ensuring that a few times a year the CEO and executive team have an opportunity to step back from the quarterly cycle and have a deep conversation about what assumptions, technologies, and industry conditions might change. Many companies make it too simple to say no. A combination of the classic “not invented here” and “we’ve got enough on our plate” means that even entrepreneurial leaders who are good at spotting opportunities and recruiting allies and resources may be slowed by a single person they cannot convince. One way around the problem is to give some emerging opportunities clear leeway to get attention and resources, perhaps through an approach like that at Google, which tells engineers to work on whatever they want for a certain percentage of their time. Most companies do not redeploy talent, capital spending, and R&D resources dynamically.
The answer to this problem can involve tough new approaches to budgeting, including challenging existing businesses as rigorously as new ones when it comes to capital plans and deployment of talent. Most companies attribute failures to the champion of an idea, rather than judging carefully what led to the failure of a new initiative.
GETTING TO SCALE MAY BE THE HARDEST PART of the whole resource revolution process. Success may require:EXPERIMENTING FOR YEARS with different technologies and following a careful, disciplined process to move from pilot scale toward mass production.
SELECTING AND NURTURING THE CUSTOMERS who will let the company start to scale.
BUILDING COMMITTED CHAMPIONS who are not afraid to boldly try new approaches, learn from other industries, and toss out the old ways of doing things.
BACKWARD-COMPATIBILITY often makes customer adoption easier.
The first industrial revolution took us away from a world of guild craftsmen and gave us the limited liability corporation and the factory.
Likewise, the second industrial revolution gave us the assembly line and the publicly traded corporation, leading to a command-and-control, quarterly-numbers-driven approach to management that defined the “organization man” of the twentieth century.
In the resource revolution, many functions—such as the analysis of data aggregated in near real time—will need to be even more centralized, but decision making will have to happen on the front lines so that it can be fast and can fit with local conditions.
Zara, the Spanish clothing retailer, shows the power of this centralized/decentralized approach, which we’ll call a network organization. Historically, retailers attended fashion shows, made their best guesses about trends, ordered all the clothes for a season, and, six months later, put those clothes on sale. Items sold out, there was no way to reorder in time. When items sat on shelves, the retailer marked them down heavily, then shipped anything that remained to cut-price chains that marked the items down even further. The cost of a bad guess was huge, and there were plenty of bad guesses. He needed more control over the whole process—from design through manufacturing through sales and then back through design and manufacturing. Ortega could also develop systems for manufacturing and shipping that emphasized speed to market. Initially, Ortega had sales clerks watch what people considered buying but put back. Clerks would approach the customers, ask questions, and report to the store manager, who would provide reports that would help designers tweak items and turn them into successes, even though relying solely on sales data would have meant dismissing them. As far back as 1991, Ortega outfitted clerks with custom-made mobile devices to use in interviewing and observing customers. Zara has also made its operations so efficient that, while goods pass through a distribution center on their way to market, they rarely spend more than a few hours there and never stay put for more than three days. As Zara has spread internationally, it has decentralized decision making—after all, a customer in Mexico may not have the same view on fashion as a customer in Greece or Belgium. So, what began as an exercise in reducing waste became a vertically integrated company with a centralized/decentralized network organization and, not coincidentally, a market capitalization of more than $75 billion.
In a one-size-fits-all world, a central manufacturing plant delivers a standard product at low cost. Now, flexible manufacturing enables more tailored products and can provide huge benefits that customers are coming to expect and that companies must provide. Now, technology is allowing the best information to flow back to the front line.
The front-line employee can get great data and access to the best functional expert in the company quickly, cheaply, and easily and combine that with his local knowledge. A standard operating system for a corporation allows for accelerating innovation; instead of reinventing the basics, each manager can focus on innovations that matter.
The companies that have a standard operating system and can integrate innovations into that system globally, quickly, and cheaply will win. The standard work also allows companies to move people around the system, confident that they will know how to do the job in the new business unit when they arrive, because their tasks follow the standard model. Standardizing work eliminates waste and helps front-line employees deliver great results consistently. These companies also have a simple management system that keeps everyone focused on cost, safety, reliability, margins, and growth in a consistent fashion. The standard operating systems need to be widely deployed and accessible, not just to a company’s direct employees but also to the supplier community, innovation partners, and customers. Each group needs to be invited to contribute to upgrading the system. These systems need to be easy to upgrade as better practices emerge and must put the power to support decisions in the hands of front-line employees.
All companies will need more software talent, because software increasingly provides the operating instructions for our world. IT no longer is solely the business of managing company desktops and networks; information technology is merging with traditional engineering to create the lifeblood of the modern corporation. Many companies will need more systems-integration skills, because, as we noted in chapter five, much of the power of the resource revolution will come from combining bits and pieces of disparate ideas, and most companies simply aren’t very good at system integration at the moment. Beyond the ability to integrate various functions, new specialty skills will come into play for the first time.
Many companies will need skills at super-low-cost manufacturing, too. The new talent needs to be found in new places. One place to start is in neighboring industries that haven’t traditionally overlapped but that have been identified as having capabilities worth borrowing. In some cases, it will make more sense to form partnerships with businesses in those industries that provide access to specialized expertise. To differentiate its products from competitors with similar inventions, Apple has signed extensive agreements that guarantee exclusivity and supply from its partners. Beyond looking at new industries for talent, it will be important to look in new countries, too. Less-developed countries will be important sources of talent for low-cost manufacturing because “low cost” has a very different meaning to a street vendor in Delhi than it does to citizens of the EU. Companies will have to develop their own talent.
Much of the need will occur at the top of organizations, among the leaders. The leadership skills required to deliver 10 to 15 percent annual productivity gains for a decade or more are a far cry from the incremental-improvement skills that marked the generation of leaders after World War II. Leaders’ technology management skills will also have to improve radically. When technology is changing at a rapid pace, the ability to identify and integrate new tools to improve performance is critical. The world of resource revolutions is too cross-functional to be that simple and requires different departments, multiple suppliers, and often a customer willing to try something new.
Workers will need to be developed, too, whether by schools, by the government, or by employers. The reason is that the nature of work is changing and, in many cases, becoming much more technical.
Quality-control supervisors in manufacturing will have to be able to understand advanced statistical techniques and need to be able to make adjustments to process-control technology to deliver extremely tight tolerances.
Developing new talent requires a new education model, much more technically focused than the one the developed world built around German liberal education principles at the end of the nineteenth century to help people move from the farm to the city and be able to read, vote, and conduct business. The focus has been driving 90 percent of the population to have at least a high school degree. The challenge now is that a high school degree is not enough. Learning will need to continue post-college, too, largely through online course work—basically, higher education will undergo its own resource revolution, delivering learning virtually rather than in classrooms and lecture halls, even though the face-to-face model has worked well for millennia. There also needs to be a stronger alignment between business and education, setting ever-increasing technical standards for each graduate. Students will need at least four years of mathematics plus specific technical training in statistics and data management to remain competitive during the resource revolution.
Businesses will need to do even more of their own training, too. There will need to be hands-on learning combined with simulations, often using the best graphics to allow hundreds of repeats on major tasks and key decisions.
To attract the right talent and organize it effectively in a resource revolution, it is necessary to:
BECOME A NETWORK ORGANIZATION.DEVELOP A STANDARD “OPERATING SYSTEM” to speed decisions and innovation.
LOOK FOR TALENT FAR AFIELD, in other industries and developing markets.
DEVELOP THAT TALENT starting on day one.
FREELANCE INNOVATION, leveraging broad external networks to accelerate success.
It’s time to define your destiny. It is demonstrated thoroughly by now, we are standing before the biggest opportunity in a century. Just as during prior industrial revolutions, this is a time for extraordinary wealth creation as dominant new positions and new business models are established.
But this is also a time of creative destruction as old paradigms are supplanted. The integration of 2.5 billion more people into the urban middle class represents a historic economic and social opportunity.
However, building the cities to house those 2.5 billion, constructing the transportation networks to connect home and work, and providing the energy, water, and food to support a middle-class lifestyle in the next two decades also represents one of the greatest challenges ever. The global economy is trying to do in two decades for emerging markets what it took the whole twentieth century to accomplish for the OECD countries.
Success depends on changing the fundamental rules of business, focusing managerial innovation on improving resource productivity at 3 percent–plus a year. Improvements in labor and capital productivity won’t be enough anymore. Nor will incremental improvement in resource productivity. After raising the initial questions about opportunities to save resources, companies must focus on integrating seamlessly all the capabilities of new offerings, while adding software and other information-technology capabilities.
Naively adding something new to existing systems often reduces system performance. To succeed in the long term, companies have to understand the workings of the whole system into which an offering fits. A result will be that companies will sell more services and integrated solutions, not just equipment. Once a company has decided what to bring to market, it needs to carefully consider when the timing will be right, both for the technology and for the customer. Then come the tough issues involved with getting production to full scale and with preparing the market. Finally, companies will have to change their organizational structures and rethink their operating processes while training workers to do very different tasks and finding new types of workers for the skills needed in the transformation from leathernecks to automation and optimization.
We have focused primarily on the management toolkit and principles that allow companies to not only survive resource revolutions but to capture the business opportunities they create. Clearly, the dynamics we have described will also unleash structural transformations of entire industries, even countries and continents.
This resource revolution represents an enormous challenge for governments. Governments have a large role to play, including funding basic research on materials, biology, and systems performance as well as on new energy, transport, and agricultural technologies. Governments also need to recognize that technologies have vastly different learning curves that drive cost reduction and different scaling potential. If a technology’s potential is large and transformative, and the cost reduction rapid, it deserves a much more aggressive adoption than technologies that are improving slowly and incrementally and have no foreseeable way to get to commercial viability, or have only limited deployment potential. As knowledge workers, software skills, and techonology-enabled services become more important, governments will need to ensure that workforces have the proper skills and education to participate in new business models and evolving sectors. Over time, governments may want to shift tax bases from labor and residency to value creation, intellectual property, and resource consumption. Government has a substantial role to play in broader macroeconomic measurements, too—those that drive behavior, policies, and investment flows.
It’s important to recognize that our most common measurements still focus predominantly on capital flows (capital accounts, market cap, trade flows, foreign direct investments, and the like) and on labor productivity (unemployment and GDP per capita). We do not have an equivalent set of national accounting standards for how efficient we are in our use of land, water, metals, and other natural resources.
The disruptive nature of the changes underway in resource revolutions will also change the work of NGOs. Historically, many NGOs have focused on a primary issue: preserving land, fighting air pollution, ensuring clean water, and so forth. Given the tighter connection between resources, and the substitution dynamics and introduction of disruptive technologies, many NGOs will have to broaden their scope of issues.
Resource revolutions combine commodity price volatility, creative destruction of companies, and industries and new business models and technologies interacting to create disproportionate wealth. Smart investors such as Harvard’s endowment and Singapore’s sovereign wealth funds have made long-term bets on rising resource prices and on shifts between asset types.
The world we live in today will be as different from the one our children will inherit as the Victorian era of mansions, servants, and tenements in the 1880s was different from the Golden Age in the 1920s, with electric appliances and lighting, motor cars, skyscrapers, radio, indoor plumbing, multinationals, stock markets, public libraries, and concert halls funded by the wealth the age created.
We need to ensure our government shapes this transformation, and use our votes to counteract the influence of incumbents vested in locking in an unsustainable status quo.
We can make informed choices in the products we select, beginning with our own measurement of resource productivity in the food, cars, and homes we buy, even before governments change GDP metrics.
We can educate our children to be ready for a world where understanding software, having the ability to work in a networked global organization, and being able to integrate systems across disciplines matter more than ever before.
Then our children will enjoy the fruits of our labor, our capital, and our resources.