It's fashionable to champion an investment-oriented model for software development, particularly around exploratory opportunities. Allocate risk capital, run experiments through software, learn what works and what doesn't work, re-focus, rinse, repeat, reap rewards.
I've been a proponent of companies doing this for a very long time. It twines the notion of devolved decision making with thinking of IT as an investment rather than a cost. Invest in what you know paid off handsomely for Peter Lynch. "Continuously adjust your investment position based on what you learn" seems an apt mantra for today's world. Organize for innovation, re-acquire lost tribal knowledge, challenge - but respect - commercial orthodoxy, and constantly re-apply what you learn to change the rules of engagement in an industry. Every day you're in business is a day you're able to bring the fight, and this is simply the new way of bringing the fight. Better figure it out.
What if this is not a viable strategy?
I've danced around this question for the past 7 or 8 years, challenging the invest-for-disruption premise from a lot of different angles. Among the problems:
- The labor density of new ideas has risen nearly 3x the rate of inflation. As the FT put it, that implies it is getting harder to find new ideas.
- Investment yields are highly concentrated. There are a plenty of analyses to show that a small percentage of investments yield the majority of the gains. A recent FT Lex article on biotech investing drives the point home: "A 20-year study found only one-fifth of exits were profitable. Just 4 per cent of investments made half the returns." Picking winners is hard.
- Regulated industries are unappealingly complex, but those complexities exist to protect consumer and provider alike. Denying, ignoring, or circumventing market sophistication results in bad outcomes for everybody: investors are subject to cycles they thought they were immune to, customers get robbed, and in the end management takes the same path their orthodox predecessors did decades ago.
- Cheap capital makes it easy for anybody to enter the innovation game. The multitude of companies competing to offer home meal kits and ride-hailing show there are no barriers to entry. Unique ideas aren't unique for very long, and the economics of exploiting them are much shorter lived.
- Deep pocketed investors make it expensive to stay in the innovation game. The WSJ has pointed out quite a few times that We Company, Uber, Tesla, and many other firms subsidize every customer transaction with investor capital. And as this graphic illustrates, that is an extraordinarily expensive investment proposition.
The whole point of the portfolio model applied to captive technology investing was to avoid taking a long position in any one thing. That created nimbleness at the portfolio level such that capital - and the knowledge workers that capital pays for - could be rapidly redeployed to the best opportunity given our most current information. This took advantage of a unique characteristics of software vis-a-vis its industrial (hardware) predecessors: real-time adaptability. Whether it was the accounting department building tools in Visicalc in 1982 or a team of developers creating the company's first e-commerce site in 1997, the ability to rapidly deploy a new capability in software created an operational differentiator. Manufacturing changes took years. Organizational changes took months. Software changes took minutes.
That meant that software had the potential to be lower-case-i-investing: we knew in the early 1980s and again in the late 1990s that applied adaptable cheap technology could create incremental efficiency gains and therefore advantages. The formula was to exploit the adaptability of software and expedite its application: get new code changes deployed every month, every day, every hour when possible. As an operating phenomenon - that is, as it impacted day-to-day operations - this offered tremendous potential for competitive advantage: land punches left, right and center at an alarming rate and you put all your competitors at a disadvantage.
Yet per the above, software is no longer strictly an operating phenomenon. It's a financial phenomenon. Software is now upper-case-I-investing: all positions are long positions, and the stakes are winner-take-all. The incremental nature of the portfolio model has more to do with trench warfare in World War I than it does with sustainable competitive advantage. These are wars of attrition.
I've chronicled this phenomenon over the years, and over the course of that time have written up simple playbooks for strategic responses: i.e., the incumbent-cum-innovator and late movers. These are appropriate as far as they go, but incomplete once the tech has been fully financialized. If the tech business has been fully financialized, the playbook has to reflect the influence of the finance, not the tech.
