Sunday, October 17, 2010

Entrepreneurship as Core Competence

Google recently announced a massive investment of $1.5 Billion into a new venture - to build an offshore wind power farm powerline transmission project. Google has also invested $38.8 Million in two wind farms in Dakota. Google said it is making the investment because it thinks it will offer a solid financial return while being good for the environment. As Google's cash pile crosses $30 billion, the company is expanding beyond its traditional Internet business to diversify into other promising areas - such as green energy.

This is an interesting development that other cash rich companies should take note of.
In every business, once a company reaches a point of saturation - where the business starts to generate more cash than what the company can invest profitably, then the company must look at diversification or give out dividends to reward investors. Having a huge cash hoarding is a clear sign of management failure - both the management & the board has failed.

Companies such as Microsoft, GE, Intel and several other technology companies are guilty of such gross management failures. In my opinion, having a huge cash hoard which earns 1-2% interest is a crime. Such an action can only indicate that the management has run out entrepreneural spirit and have big insecurity that is forcing them to hoard cash. Instead it is best to invest the cash into new business ventures or give it out as dividends.

Looking at this problem from Indian point of view, I would like to point out at Indian entrepreneurs - Ratan Tata, Mukesh Ambani, Anil Agrawal, Kumaramangalam Birla, Azim Premji, Laxmi Mittal, Venugopal Dooth, Anand Mahindra and host of others.
These Indian entrepreneurs have built multiple businesses which are highly diversified, they have invested in multiple ventures and all these companies are not sitting on huge pile of cash.

Take Dhurubhai Ambani for example, he has invested the cash from Textiles business and invested in polyester plants. Later he invested the cash coming from textiles and polyester business into petrochemicals, and petroleum - oil/gas extraction & refining business. Mukesh Ambhani - who succeeded Dhurubhai Ambani continued to diversify into retail, telecom, power, real estate sectors. Similarly Anand Mahindra has diversified Mahindra & Mahindra Company - which was traditionally into automobiles into Software services, Banking and Financial services.
Indian business leaders have displayed higher levels of entrepreneurship and have invested the cash generated by their business into other ventures that has given investors a higher rate of return. The end result, the shareholders have been richly rewarded. Just look at the Indian stock market returns in last 10 years & you will see an average of 500% return on investments for these companies.

This is in sharp contrast to the returns earned by shareholders of Intel*(-62.5%), GE*(-51%), Cisco*(-63%), EMC* (-66%) & Microsoft* (-51%).

On the other hand US companies that have invested their cash and expanded their business have given a better return to the investors : Coca Cola* (27%), Oracle* (20%), HP** (90%), Amazon* (250%), Google* (310%), Berkshire Hathway (270%) & Apple* (1000%)

Entrepreneurship Failure

The cash hoard is a clear symbol of entrepreneurship failure of the leaders of these companies. The CEO & the board of Microsoft, Intel, GE & others have failed in terms of being entrepreneurial and have failed to invest & launch new businesses, instead they have become trustees. I must admit that they have done a very good job as trustees.

In the long run, the shareholders will force the company to give out its cash as dividends or as share buy backs. Once the cash hoard is emptied, and if the business environment changes, these companies become weak and steadily decline into irrelevance. (Take the case of GM or Chrysler or ICI or Polaroid)

The only thing that can keep a business organization in constant investments and expansion - which allows companies to reinvent itself and flourish. GE was once a great company which expanded from its core base of electric appliances and light bulbs to Finance, Aero engines, plastics & chemicals, entertainment. But in the last two decades GE has lost its entrepreneurial skills.

Intel & Microsoft can be seen as classic examples of being limited to their core business, semiconductors and software. Both the companies have never invested in other business areas beyond their narrowly defined areas of core competence.

Entrepreneurship is the key.

Entrepreneurship is a key skill that keeps the business organization growing and healthy. Any successful business organization has tremendous resources at its disposal in terms of capital, management skills, business processes and people. The top leadership should be able to channel these resources into new ventures - be it in chemicals or wind farm or solar energy or wherever there are business opportunities.

In comparison, Indian & Asian companies tend to be highly entrepreneurial. The Asian business giants have succeeded in business because of their entrepreneural spirit and their risk taking ability. Tata group, Samsung, Hyundai, Reliance group, Wipro, ITC, Videocon, Airtel and several other business houses in Asia are thriving today because of their entrepreneurship coupled with their investment capital & management skills.

Closing Thoughts

The concept of core competence has limited several businesses investment options and has effectively killed entrepreneurship in several companies. In such companies stewardship - i.e., ability to preserve the company's wealth is a highly valued skill. It is noble to protect the existing wealth, and manage the current business to generate huge amounts of free cash flows. The current management thought of leaving the decision of diversification to share holders - in form of investing in different types of businesses, may not be the right approach towards wealth creation. Instead it is more efficient to leverage the current capability & capital of a cash rich business and create new business ventures - i.e., grow by diversification.
Google is showing the way ahead by investing in Wind energy, while Reliance is investing in retail, and Tata's are investing in construction, communications, and consumer products. These companies have redefined their core competence - their core competence is entrepreneurship and management skills.
* These are 10 year stock market returns
** This is for a 5 year stock market return.