If we build it, will they come? Innovation & the Boom hangover

Exploring how R&D spending points toward a widespread desire for innovation in large companies but not necessarily an economic upturn any time soon.

I would gladly pay you Tuesday for a hamburger today.
- Wimpy

The way companies position their investments in research and development (R&D) or capital programs speaks volumes about the kind of innovation culture they possess. Increasingly, large companies stick to their innovation investment programs in the face of broader internal cuts in expenses. According to Booz & Co.’s special report “Profits Down, Spending Steady: The Global Innovation 1000,” by Barry Jaruzelski and Kevin Dehoff, some companies are even increasing their innovation spending in the hope of being better positioned for the longed-for economic upturn. Which would seem to be a sign that things will improve soon, right?

Not so fast.

Big Business does not represent the national economy
An article by Zachary Karabell in Time magazine recently described the divergence of large, market-capitalized companies’ performance from the respective economic performance of their headquarter nation-states, where previously they were linked quite closely:

Stocks are no longer mirrors of national economies; they are not — as is so commonly said — magical forecasting mechanisms. They are small slices of ownership in specific companies, and today, those companies have less connection to any one national economy than ever before.

The key message was that because of their ability to spread both their exposure and investment across multiple geographies, large companies had inoculated themselves against the impact of any single national economy. The ability of USA-based companies to straddle economies, in some cases by deriving more than 50 percent of their revenues overseas, has meant that they’re no longer profoundly impacted by the US economy, nor are they a true indicator of US economic status.

The economic upturn fake-out
While the US economy languishes with unemployment near 10 percent, faces housing foreclosures once again on the rise, and wrestles with a multi-trillion dollar plus-sized deficit, companies live in a different world (or possibly a parallel universe). The majority of publicly traded companies are beating analysts’ earnings estimates (250 beat estimates and 54 disappointed) and sales estimates. The gap between the US economy’s performance and US-based companies’ performance is also reflected to a lesser extent in the dire straits of the European economy and the reasonable success of EU-based companies. They, too, continue to thrive and spend on innovation.

At the heart of our success lies our commitment to innovation.
- Steve Ballmer, Microsoft CEO

Why are companies spending big on innovation when all indications say that we are in this economic mess for the long haul? The problem with a strategy that cuts back on all expenditures during an economic downturn is that you discover unpleasant consequences years later — when you’re lagging behind your competitors. By then it’s too late. It seems today’s companies have learned the lessons of the past. Immediately following the dot-com bust of the early 2000s, companies pulled back so far that their response to the economic upturn was delayed to the extent that competitors gained toeholds, or their enterprises folded, origami-like, in on themselves. They became small, misshapen relics of their former glorious selves.

Consider the examples of Nortel, Corning, and Cisco. Nortel died (its shares trading on their final day at $0.185, down from a high in 2000 when it comprised a third of the S&P/TSX composite index). Corning has taken the better part of a decade to recover (notwithstanding the emergence of its current breakthrough product—Gorilla Glass—discovered in, oh yes, 1962!). And Cisco, once the most valuable company in the world, finally figured out that having all one’s eggs in a single basket wasn’t a safe bet under any economic conditions, and is now built for survival.

Diversification via innovation is now seen as key. Hurray! Which is fine, but what happens if all this innovation takes place but there’s no one willing to buy it? Consumers without jobs don’t consume.

Is innovation really the answer to our economic woes?
Certainly the consumer space in the USA has tightened up remarkably, an indication that things won’t be turning upward any time soon. During this recession, the trend of consumers switching to store-brand labels and other cheaper alternatives has dug into the profits and dominant market shares of brands owned by P&G, the world’s biggest consumer-product maker and seller of many of the most premium-priced household products on store shelves. Of note was the recent news that for many of its core brand staples, P&G has reduced prices by as much as 10 percent. As for its premium-priced brands, the so called “nice-to-haves,” expect those prices to increase to offset the high volume product price drop.

The reality is that if you are doing well in this economy, either as a company or an individual, you will continue to do well regardless of a statistical double dip.
- Zachary Karabell, “A Double Dip Recession? Who Cares?” Time Magazine

The challenge with the current economic situation, and its associated strong company performance, is that investment in innovation by large companies will do little to improve the lot of the many people still living in recession conditions. In a report released earlier this month, the US Congress Joint Economic Committee observed fragile and uneven growth for the US manufacturing industry. The report cites 136,000 new jobs that the manufacturing sector created in the first half of 2010, but notes that inventory restocking may be responsible for much of those gains. For the millions of jobs lost, adding a little more than a hundred thousand is but a drop in an ocean. The unemployment rate is just under 10 percent, but that doesn’t begin to cover the enormous chaos on the job front.

The “true” unemployment rate (combining figures for workers who have dropped out of looking for work, to the underemployed working multiple part-time jobs, and those actually counted in the unemployment roster), is figured at closer to 17 percent. Total hours worked and total compensation have both declined. And the easy consumer credit and housing-backed affluence have gone, never to return. Essentially the economy has bifurcated.

Are we cheered up yet? No? There is a way forward.

Each month 400,000 new small and micro-businesses start in the USA. At present, there are 5 million (yes, million) small businesses (100 employees or less) employing far more people than the Fortune 100. If we are going to look to innovation as a transformative tool for unleashing creativity and improving the economic outlook of the majority of the population, it is to small businesses that we must turn. If we help build them, more could come to the table to promote a stronger economic upturn. They could be active participants in energizing an economy that not only helps people survive, it could once again be an economy where many could thrive.

Big business innovation is not the answer. It simply can’t create the number of jobs fast enough to pull us out of this economic funk. What can we build together to unleash the innovation residing in small and mid-sized enterprises?