Did you miss it? In the run up to year end the five largest public companies in the US by market cap[i] were the masters of the ‘digital economy’. Can you guess their names? Apple; Alphabet (Google); Microsoft; Amazon; and Facebook.
At 41 years of age, Microsoft is the odd one out. The other four all owe their success to the internet. Even Apple at 40 years of age. In 2004 Apple’s market cap was still just $8B[ii] (ca. $650B today). The transition has dramatically accelerated in the last 5 years as shown below.
Let’s compare some numbers of these firms with the five largest ‘old economy’ firms (excluding 2 banks) at the time[iii]: Berkshire Hathaway; Exxon Mobil; Johnson & Johnson; GE; and AT&T.
The combined market cap of the 5 digital firms was $2.4T (yes, trillion) compared to $1.6T for the 5 ‘old economy’ firms. The aggregate annual revenue of the digital firms was $539B compared with $766B for the old economy firms. This translates to an average revenue multiplier of 4.5 for the digital firms compared with just 2.1 for the ‘old economy’ firms.
Okay, but what about cash? These top five digital firms generated a cumulative $162B operating cash flow (cf. ‘old economy’ comparators: $112B)[iv]. People are often surprised by these numbers. Perhaps it’s a bias driven by valuations of ‘new economy’ firms that often seem unfathomable. When there are more than 215 unicorns[v] burning cash, that’s not surprising.
So what? Well here are three overarching observations.
Firstly, ‘platforms and ecosystems’ matter. Platform business models have existed forever – think the shopping mall which connects outlets and consumers – but they have gained a special significance in today’s economy. There are different types of platforms. For example, Amazon Marketplace is essentially an aggregation platform: it connects buyers and sellers. Facebook is a social network. It’s value lay in creating a community and then leveraging access to that community to drive advertising revenue. Apple’s success has been in building an ecosystem with the primary goal of keeping consumers tied to its iOS.
Value innovation matters. And its bedfellows are speed, agility and risk acceptance. Amazon launched Prime Now ‘one-hour delivery’ within 111 days of dreaming up the idea. Built the customer facing app; secured an urban warehouse; selected and stocked the product range; recruited and on-boarded the staff; and developed the internal software. By contrast, Woolworths ‘set up an internal team to review competitive threats 6 months ago’. Amazon is obsessed with customers, not competitors.
Innovation demands a dramatically different attitude to risk and decision making. Amazon’s CEO Bezos reveals the logic. Given a 10% chance of a 100% payoff, he’ll take that bet every day; but he knows he’s still going to be wrong 9 times out of 10. He talks about Type 1 and Type 2 decisions. Type 1 decisions are consequential, irreversible one way doors. These decisions Amazon makes like most corporates: slowly, methodically, carefully and with extensive consultation. But they recognise most decisions aren’t like that: they are reversible. And these decisions are made by high judgement individuals or small teams. You don’t have to live with the consequences too long if the judgement turns out to be wrong.
Here are three questions to begin the process of rethinking your business model:
- Do you understand the architecture of these platform business models? If you were going to set out to disrupt your business by creating platform business model, what might it look like? Nike, GE and Walmart are all scrambling to incorporate platforms into their business model.
- Are you focused on customer value innovation? Do you obsess on customers ahead of competitors? What have you done in the last 12 months that has moved the dial on customer value by a material amount?
- Can you identify the difference between Type 1 and Type 2 decisions your organisation? Does the decision-making process reflect the difference in the risks associated with these decisions? One company implemented a rule: one to say yes; two to say no. Could you do that?
Over the next few months I’ll be writing in some more detail on these companies to highlight strategic issues and their potential lessons for ‘traditional’ firms.
DDB … a strategist’s view
[i] The ‘leader board’ moves around a bit, but the essential case remains: these guys are arguably the ‘masters of the universe’.
[ii] ‘Just’ is a relative term. At US$8B it still would sit comfortably inside today’s ASX50. But it’s a far cry from its current market cap around US$650B. And the iPhone delivers ca. 65% of Apple’s revenue. In fact, the iPhone revenue is greater than the revenue of any of the other tech firms.
[iii] Source data from Capital IQ via Yahoo Finance. Downloaded 9 January 2017
[iv] Yes, Apple contributes 40% of that, but cumulatively the other four outgun the comparator four from the old economy.
[v] Unicorns are private firms that have a valuation in excess of $1B. The most valuable (and best known) of these is Uber, currently valued at ca. US$62B