Atomic Energy

Clay Christensen is famous for his disruption theories. Lately, interestingly, he has been bringing examples of some large companies that have been successful at innovating and hence disrupting themselves.

One of the key point so this theory is why existing large players find it so difficult to innovate disruptively, and therefore give opportunity for tiny startups to overturn their markets. Essentially, it is in their DNA, and hence organization structure, projects, budgets and even comp plans, to protect their existing markets and squeeze more cash out of them.

Ironically, though, sometimes that very nature actually squeezes less cash out of existing markets while simultaneously opening the doors to disruptive players. It is one thing if an incumbent maximizes cash today at the expense of tomorrow; it is short sighted, but at least understandable. It is quite another when that same mentality minimizes cash today and tomorrow.

Today’s Wall Street Journal has a front page article on the rapidly escalating prices of ebooks. Most people expect that ebooks will cost less than printed copies. After all, the publishers (and retailers) are saving on physical printing costs, shipping, storage, and security. I do not know what the COGS are in the book business, but in the ebook business, they are essentially zero. An ebook that is a few MB in size does not even register as beyond a penny in Amazon or Barnes and Noble’s storage and bandwidth costs. Us customers expect that the cost savings will be passed on to them, at least in part. They are willing to give up in some of that in exchange for the convenience and easy replicability of the ebook, but not all of it.

The WSJ article explicitly states that ebooks sales will drop, or at least not rise as high as they would otherwise due to skyrocketing retail prices. Given that sales will drop, customers will be upset (optics), and thus they will hurt their own business short term while encouraging independent publishers, and perhaps Amazon and BN to become one themselves, why would they do such a self defeating move?

In the end, they are just captive to their existing mindset. They want to protect, preserve and defend their brand and margins, and so they raise prices. The fact that it will undermine, damage and attack not just their short term profits but their long term viability as a business, is something which they find very difficult to grasp.

I look forward to the disrupters.

ABC reported this week that the French company Atos will be aggressively moving to a “zero email” policy, at least for internal communications. The rationales appear to be:

• People in the real world are replacing much of their email communications with IM, SMS and platform-specific messaging, like Facebook
• Only 10% of email messages in the company have value, while an additional 18% are pure spam.

I agree that many people are switching from email to platform-specific, IM or mobile communications (roughly including SMS and iMessage in the latter). However, it is more than likely a choice of convenience than specific preference. When much of your communications already occurs inside a social network like Facebook, then it is natural to have one-on-one communication inside that platform.

However, it is extremely unlikely (actually absurd) that an enterprise will simply turn over all of their communications to a social network – US-based Facebook or any French one – and have everyone friend everyone else and communicate there. So what Atos is planning is replacing their well-known and well-defined email-based messaging system with… another messaging system. The other system may have better IM tools, like presence or real-time short message streams, like IM products, or may have chat channels, but these tools have long been available to enterprises. Switching from one messaging platform to another may make for great press releases – “look, we enterprise are killing email!” – but fundamentally, nothing much has changed, except for a huge expense.

Additionally, the justifications around spam and useful messages, are not email-specific they are messages-specific. Only 10% of messages are useful. Today, those happen to be email. Switch to any other platform, however good, and those messages will simply switch to the other platform.

This reminds me of the old joke about the kid at camp who got a letter from his parents saying, “you know how 75% of all accidents occur within 1 mile of your home? We are much safer now, we moved 2 miles away!”

Last night, I had the pleasure of speaking with an old friend of mine. He is a fairly experienced executive with M&A, so naturally we discussed the DOJ and FCC attempts to torpedo the AT&T/T-Mobile tie-up, as well as the general difficulty of getting an acquisition done, especially when there are interested lawyers on multiple sides.

I have always been a big believer in the power of words. For example, “economics” is defined as the “allocation of scarce resources.” When dealing with an economy, and understanding that every allocation you make is a choice at the expense of something else, you understand the need to make trade-offs and try to make the best choices. On the other hand, in some languages, e.g. Hebrew, the word for “economics” sometimes means, “to provide.” In that context, a normal person’s mind, especially if they do not understand the intricacies of how various elements of macro-economics tie together and influence each other, will tend towards, “why shouldn’t everyone have everything?” I believe this difference in meaning has had a pernicious impact on Israeli economics for decades, and goes a long way to explaining the uphill battle modern liberal economists have had in Israel. They are winning, but slowly.

Society, and especially media reports, often refer to “the government” or “the DOJ” or “the FCC” as being against or for a particular result. For example, “the DOJ is against the AT&T/T-Mobile merger,” or “the FCC is concerned,” or “DHS objects to using electronic devices on flights.” However, there is no such thing as an independent mind known as “DOJ” or “FCC” or “FAA.” The reality is that people make these decisions. And these people, like every other person, have their own biases, political viewpoints, cultures, and, most importantly of all, incentives.

An attorney at the FCC, whether Genachowski or someone underneath him, has decided to object to the deal. Whether this is due to real concerns about competition, or someone who needs another notch on his/her belt to advance in government employment or private sector… (a) these incentives matter and (b) this is a person, who has been invested with a certain amount of power, who is making the decision, not an agency. This person is no more or less fallible, and no more or less honest, than anyone else. It is just a person responding to incentives.

A similar thought comes to mind with respect to the ban on electronic devices during taxi, takeoff and landing on flights. There is no, absolutely no, zero, nada, zilch, rien, klum, you name it, evidence that such devices are dangerous to the flight. Period. There has not been a single documented incident of damage caused, nor is there an engineering-driven reason to suspect it. Yet, the “FAA”, i.e. a real person with real incentives, has decided to continue to ban them.

I am glad to see the absurdity of this policy finally get some attention, in the New York Times, no less – Bits column, available here – but I find the most interesting part to be the FAA’s response, about halfway through the article, where the FAA’s spokesman admits that there is no evidence, but “would rather err on the side of caution.” If he really wanted to be safe, he would just ground every flight indefinitely; that would certainly be safe… and useless.

I do not know who at the FAA has the power to make these “safety” decision, just as I do not know who at DHS has the right to make the decision that 3 ozs of toothpaste is fine, but 3.5 ozs of cream cheese (seriously, I tried to take it through DCA once) is life threatening. But whoever is “erring on the side of caution” is not the “FAA”, but a real person with real incentives. These incentives, whatever they are, currently push towards being frightened unnecessarily. Find the incentives, you find the reason for the policy.

Today, IDG posted an article that Steve Jobs was looking at using unlicensed WiFi spectrum to create a direct competitor to mobile carriers. Although the effort failed, many viewed this as another proof that Jobs, as always, needed to control the entire experience.

My take is somewhat different. Mobile phones have only really been around for 20+ years, and digital mobile telephony and mobile data for far less than that. Yet, the large carriers are second only to cable companies in the bottom of the rankings for customer satisfaction, and apparently even Steve Job was thinking about how to disrupt them.

There is no question that they are ripe for disruption. Their pricing is sometimes high, but not absurdly so, except in overage charges and roaming. But their customer interaction is begging to put them out of business. I am sorry that Jobs could not get it done, but it is only a matter of time until someone finds a way to do it without the technical hurdles and massive capital currently required.

Back in 2004-2005, while doing my MBA at Duke’s Fuqua School of Business – which was an excellent experience at a great school – I had the pleasure of studying marketing under Preyas Desai.

A few days ago, Duke, together with Rice University, published press releases announcing research by the same Preyas Desai and his colleague Dinah Vernik at Rice. Their conclusion, which is counter-intuitive to the record labels but, ironically, makes perfect sense to many of us, is that removing DRM may actually reduce piracy. The press releases are at Rice and Duke. Additionally, the full article will be published in the November-December 2011 issue of Informs.

According to the press releases, looking solely at whether or not people can copy music they download is too narrow a view. One needs to look at the entire set of channels by which people can obtain (or choose not to obtain) music – CDs, legal DRM downloads, legal DRM-free downloads, and piracy. The impact of DRM on the consumer and his/her purchasing decisions across all channels need to be considered when understanding the impact of piracy.

While I have no doubt the authors’ science will be precise, mathematical, and far more detailed than I could do, I believe their key insights work at a more fundamental, business level. For the overwhelming majority of consumers, two key facts, psychological facts, hold true:

1. They are perfectly happy to pay for something and obtain it legally, if the price is reasonable and the alternative is clearly illegal.
2. They are unlikely to share music, i.e. pirate it, for others to benefit for free when they themselves paid for it.

In other words, given the opportunity to obtain something in a legitimate fashion, they will do so and *not* pirate it.

If so, why do people pirate? There are a few key reasons:

1. DRM: If I pay to download a file, but then cannot use it among my various devices, I am likely to strip the DRM if I am technically savvy, or just download it from a pirated site if I am not. DRM helps create the demand for pirated goods, which in turn increases the number of suppliers.
2. Availability: If I cannot obtain what I want legally with ease, I am likely to get it illegally. This is as true for drug users as it is for music aficionados. I personally believe that the staggered release dates of DVDs worldwide lead directly to increased movie piracy. iTunes’ global availability and the simultaneous DVD release dates have reduced the demand for piracy.
3. Bundling: As long as an album that contains two songs that I want out of ten is only available as an album, I have a stronger incentive to download it illegally. Quite simply, a $10 album (which none is anymore, of course) for two good songs is $5/song. If I could get each of them for $1-1.25, I would probably happily do so. But if I cannot, I have a strong incentive to find the two I want online.

At heart, though, I think the strongest indicator is the infamous lawsuits launched a few years back by the RIAA. Suing grandmothers or teenagers for listening to copied music may be bad law and bad for business, but it is a strong indicator of the music industry mindset, which is only beginning to change. Few people would actually pirate if the above three incentives were removed. But those same incentives are profit maximizers for the industry… at the expense of the consumers. Consumers may want what they want, but to music industry executives, these desires were and are threatening to a way of life and business, and thus began to view consumers as “the enemy.” Anytime a business or industry sees its source of revenue as the enemy, it is a very bad sign.

Ironically, removing those three could improve the industry’s fortunes, possibly exceeding where it was before:

1. Removal of DRM, which means I can share across my devices and back up safely, gives me greater incentive to purchase with comfort, leading to more purchases. Further, sharing my music with my wife and children in the house means others are introduced to a particular artist or style they otherwise would not have heard, and are likely to increase purchases.
2. Availability is fairly straightforward. If I can buy it, I will.
3. Bundling is the most insidious. Quite simply, forcing consumers to buy albums is partially to manage production costs, which are cheaper in bulk, partially to manage channel costs and profits, and partially (probably mostly) to create artificial subsidies for albums that only have a few good tracks. Yet, if I can buy the tracks I want, I will buy those at a higher price. Sure, plenty of people bought an album for just two tracks, but many more chose not to, a type of deadweight loss. This entire underserved market can now be fulfilled using singles purchases online. Additionally, the ability to sell singles profitably -without fixed channel and production costs – allows music labels to profitably sell one-hit or two-hit wonders, without needing to pad the rest.

I am happy to see Preyas, Dinah and their colleagues putting some real science on this. It is my hope that this research will have an impact at the book (Amazon, iBooks), movie (MPAA), and music (RIAA) industries, as well as possibly the software industry as a whole, leading to better consumer choices *and* higher profitability.

A lot has been written about the impact of cloud computing – on-demand with massive virtualization – on deployment of services and, perhaps more importantly, the reduced cost to market of Web-based businesses, thus spurring significant entrepreneurship.

An interesting side impact is the effect on the rate of technology change. New technology platforms, and especially software platforms and frameworks, are developed and released all of the time. Yet, there is usually a relatively slow uptake on these new technologies. It takes time for people to hear about them, go up the learning curve, find projects in which to use them, and then, perhaps most painfully, find the infrastructure on which to deploy them.

The advent of many Internet platforms – blogs, Twitter for microblogging, user groups – has increased the speed of knowledge propagation. However, I would argue that the dramatically reduced cost of getting infrastructure on which to run and try a new platform is one of the single biggest factors in adoption. Quite simply, when you can try some new platform for a few dollars or less, you are far more likely to try it, and quickly discard the ones that do not solve any problems while adopting (and advocating for) those that do.

In the words of Deep Throat… “follow the money.”

I love straight talking CEOs. Most people have a pretty good BS-meter. When someone – especially their own management and especially executive management – is trying to “spin” something, or hide bad news, or similar secretive activities, people can smell it. Some have better sensors, some worse, but employee morale takes a hit, and in the worst way. Consultants like me are pretty good at ferreting out why employees are unhappy, but it is extremely hard when there is simply a sense that execs are hiding something, but employees cannot clearly articulate it, and often are afraid to mention it even if they can; after all, if management kept it secret, could their even mentioning it get them into trouble?

Given that, I have learned to really appreciate straight talking CEOs, one who say it like they mean it, hide very little, and talk with the employees, not down at them. Call it the “Anti-Wise Men” philosophy of management; unlike those in some past administrations who believed that a few really “Wise Men” with enough information could make better decisions than the rest of us, and thus deserved to be better treated, better paid, and no lip from the unwashed masses, straight-talking CEOs believe that every employee has a brain, makes their own decisions, and has what to offer.

A great story came out this week about Apple during the beginning of its revival in 1987. I won’t repeat the story here, just read the post, but for those of us with too many smooth-talking and polished executives who cannot understand how to rally the team (in history books, read HP), refreshing candor is a great way to do it. But start with trusting your staff; they are probably smarter than you, definitely in their own domain of expertise. If you cannot, you shouldn’t have hired them (or be in charge yourself).

Henry Blodget (here) put me onto this excellent analysis by Horace Dediu of Asymco  of why Apple released the iPhone 4S – despitw what it must have known would be tepid reviews – rather than a completely revamped iPhone 5.

The analysis is worth reading in its entirety, both the original and Blodget’s short commentary. However, I think two key points are worth considering at the higher level:

1. Apple is a business. Sure, Steve Jobs’ great sense of consumer desire and taste, along with his showmanship and relentless willingness to look to the future, rather than worry about cannibalizing its own markets (see Oracle), characterize its product strategy decisions. But, in the end, it is a successful business, and that means selling products that will generate large amounts of revenue at a high profit margin. That, in turn, means relentless focus on product makret fit. Apple wants to be cool… because that is what generates high demand (which leads to high revenues) and strong “must-have” sense (which leads to higher relative prices and thus higher margins). Dediu reminds us that for Apple, from its own internal analysis viewpoint, the 4S and not the 5 make the most business sense.
2. Markets change. I know that this analysis makes sense on its own for Apple. But given the change in market – lots of Android alternative options – I do not know if this analysis makes sense given the current market. I think it does, but I can see arguments to the other side.

Either way, Dediu reminds us that Apple is a business, and makes the right decisions for the company and its shareholders, even if the general media doesn’t get it.

Steve Jobs was a difficult man, as most geniuses are. The (in)famous movie “Pirates of Silicon Valley” captured so much of the complex younger man, his personal life and his interactions with competitors, partners and employees.

Yet, he was a great man, a true visionary. He changed our lives, with the first accessible personal computer, with NeXT which led to Mac OS X and the current Mac resurgence, with the iPod and the iPhone and the iPad. He had vision and flair like no one else.

Many will say he was just the right person in the right time at the right place. I say that all of them are equally important, that even with the right time and right place, no one else could have done what he did. The next generation has its own visionaries, its revolutionaries, as will the next, and each will shine in their own way. But Steve has a place in the pantheon of great entrepreneurs, perhaps one of the tallest pedestals.

He will be missed sorely.

I have been reading Eric Ries’ excellent book called “The Lean Startup,” highly recommended for anyone in the entrepreneurial business, whether it is a fast-growth tech-startup or just a local laundromat. For that matter, I also recommend it for managers at larger firms, both in terms of managing their own internal innovation and in terms of understanding where their own metrics may fall short.

One of the interesting factoids about the MBA degree (of which the author is the proud holder of one from Duke University, an innovative and collaborative environment) is that business schools were originally founded for engineers. Around the turn of the 20th century, and especially later in the century as larger companies began to grow with Sloan’s management practices, many engineers who were excellent designers and builders of innovative products, were promoted into general management roles. However, these engineers had little to no real business experience, and the ins and outs of accounting, sales, marketing, etc. were completely foreign to them. To resolve these mismatches, schools for business (literally “business schools”) were set up.

Ries’ primary thesis in his book is that entrepreneurs often confuse “vanity metrics”, numbers that look good but do not actually give insight into how the startup’s engine of growth is working and being tuned, with “value metrics”, those that give critical insight into the engine, its functioning, and whether it is time to persevere or pivot.

Ries says, rightly IMO (and yours truly has definitely been guilty of this), that product people have a tendency to believe that building better quality, better features, leads to better business results. Yes, it does, but only once you have properly identified what features and quality in which market segments actually make the engine run. Of course, everyone is guilty of this: engineers who build better quality, product managers who insist on more features, marketers who are convinced that one more campaign is what it takes, etc. But at heart, it is about knowing which of these will make growth really matter.

In that respect, Ries’ “Lean Startup” is almost like the “Fast-Forward MBA for Entrepreneurs with a More Traditional Background,” the way that business school was “school for business for engineers.”