Our world is being broken into bits, powered by algorithms, few things appear to be immune to the pervasive intrusion. One that has been largely immune is strategy development, a subjective hold-out in a world of programmatic automation.
Einstein told us that ‘defining the problem is the greatest challenge, the rest is just maths’. This applies as much to strategy as it does to any sort of problem, and it seems even possible to adapt Einstein’s simple beauty of E=MC2 to the creation of business value, albeit there may be some ‘stretching’ involved.
Back in 1937 as a graduate student at MIT, Claude Shannon demonstrated that complex problems could be broken into a series of minute, sequential steps with a binary answer that delivered an outcome. This break-through created the foundation of all modern computers. Shannon then went on to demonstrate in 1948 that digital systems could not only perform logic, but also enabled transmission of information. Another technical challenge addressed that can be reasonably translated to most strategic challenges.
The problem with strategy development is not the creation of strategies, as much as the definition of the problems to be solved, as Einstein so aptly observed.
When you have the problem defined, it is suddenly easier to break it into its constituent parts, to see the granular detail, and at least partially quantify the cause and effect chains that exist to enable informed testing, followed by adjustments based on the outcomes.
This is starting to look like Game theory: ‘if this, then that‘ mixed in with a dose of options theory, ‘do not commit to an option amongst all those available, until you absolutely have to‘.
I think it is only right to finish where this thought started, with Albert.
His theories of relativity that famous formula we all know, but have no idea what it means, explains the workings of the universe. Perhaps it can also give us an insight into the value we can add to an enterprise, which is after all, what we are setting out to do by strategic planning.
The internet has changed everything about the business models that will be successful in the future, because of the transparency and connectivity it delivers. Therefore we need to find a way to recognise the power of digital access and the compounding that is possible by leveraging networks in our planning processes.
I like E=MC2 as a strategic metaphor, because it can explicitly compound the value of our digital networks, something not done in any model I have seen.
Here is how it works.
E is the enterprise value. This is not the stock market valuation, which is only a financial calculation based on expected future earnings, but the total value that is created by the enterprise, which has many forms. Value can be time, services, transparency, design, everyone sees value as being different, and is subject to the context in which it is seen. The obvious challenge is to put a number on these usually subjective items, which evolves from the other side of the equation.
M is the mass of the enterprise. This is the sum of the physical assets and processes of the business, the stuff that enables the work to be done.
C is Capital of the enterprise. It includes financial capital, but the greater part is the capital contributed by the people who populate the place, those who are in the value chains, including existing and potential customers, and the context in which the business competes. This comes in many forms:
- Intellectual capital, what is between peoples ears, what they know, and how they extract and leverage that knowledge
- Relational capital of the individuals in the enterprise, as well as those assets, both tangible and intangible, the enterprise owns such as brands, patents, and defensible market assets such as franchises.
- Cultural capital, the way in which there is collaboration and alignment of activity towards the creation of value by the enterprise throughout the value chain, and the manner in which the enterprise, which is just a collection of people, conducts itself, both internally and externally.
- The competitive, strategic and regulatory environment in which the enterprise competes.
This number is squared, simply because of the geometric nature of relationships, and the network effect, the more you have the greater the sum of the value that can be created.
As noted earlier, there may be some ‘stretching’ involved to apply Einstein’s formula, but on the other hand, the logic is there. This thought process came about as a result of an acquaintance seeking to sell his business. The business brokers and accountants he spoke to all had variations of a similar formula which focussed on multiples of profitability that would be applicable, with only passing attention given to many of the intangible assets he had built up over a 30 year period. Knowing his business quite well, it was my view that the profitability multiples method substantially undervalued the business, so we set about putting numbers to some of the intangibles as a means to increase the sale price, by demonstrating that the profitability was not just robust in a challenging environment, but would be increasing over time.
The eventual sale price convinced me that Albert may have been onto something, and it just cemented my view that he was in reality, the most under-valued strategic guru in history, as well as being a pretty smart physicist.