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The changing patterns of industry in an advanced economy

In association with the TI Group plc
A Note by the Director (Ditchley 2001/03)
23-25 February 2001
Over a cold sunny weekend at Ditchley we looked at the changing patterns of industry in an advanced economy to see if any general lessons could be learned.  We approached the question from three angles:  the general proposition that advanced economies did in fact need an industrial sector;  growth versus value and the impact of globalisation.
We began by recognising that the definition of industry had changed enormously and would probably continue to do so.  While it still retained, at its core, the making of an artefact, modern industry created wealth not so much through volume production but through adding value to its products through software and services (solutions to problems, not just the provision of goods). Knowledge had become a key element.  Industry had also become much more fluid.  The IT revolution enabled a wide range of skills and inputs to be “assembled” on a global scale.  The example was given of a Korean company which having decided to launch a new automobile, might look for finance from Japan, design from Italy, engine and gearbox from Germany, electronics from the USA, labour intensive components from Korea itself, and finally assembly in the UK.
Against this background we tried to identify the characteristics of a successful industry in an advanced economy together with an appropriate facilitating role for Government.  The characteristics of a successful industry were agreed without too much difficulty and contained a list of considerations which would, or should, have been familiar to most successful CEOs.  Two which attracted particular attention were the need for a high market share, if the technology involved was mature, but above all creativity and innovation.  The view was expressed that Companies needed “an idea” if they were to be successful.  We also heard that innovation did not stop with the way products were produced or companies managed and run.  In the long run, those countries and societies which showed themselves open to change and innovation, and were prepared to reinvent themselves, would succeed in this fast moving interconnected world.
Views were more mixed when it came to the role of Governments.  There was general assent to the overall policy prescription of “benign facilitation”.  But in the detailed discussion two general trends emerged.  There were those who saw the Government’s role as ensuring the much discussed, but more difficult to define, “level playing field”.  Among the main components were thought to be the provision of an effective legal framework coupled with a transparent competition policy.  Government was also called on to provide high quality infrastructure such as transport, communications and, above all, an educated and skilled workforce.  Flexible labour markets were thought by some to be a Government responsibility but balanced, argued others, by the need for an acknowledgement of social responsibility on the part of employers.  “Socially inclusive wealth creation” was suggested as a description of this process.
Some argued that Governments should also take on the task of long-term thinking and investing.  Only Governments, it was claimed, had the capacity to detach themselves from the sharp focus of much business decision making to look at the longer term options facing communities and societies, (even though one participant contrasted the four to five year political cycle of power with the much longer time-frames for returns on major industrial investment).  Government was also held responsible for investment in basic research, and some thought it desirable for modest governmental  investment in trying to ensure that the results of this research were made available to those who might be able to apply it to industrial processes.  Environmental questions were also thought to be an issue for which Government was responsible although there was a fair amount of criticism of the practical effects of measures like the climate change levy which sought to translate long-term goals into practical policies.
Differences emerged on how far Government should attempt to play a role in influencing investment decisions, or, even more contentious, deciding at a political level how public resources should be allocated to specific projects.  There were also differences of view over the question of regulation.  The businessmen present argued that politicians did not understand business and should not attempt to second, or even first, guess commercial decisions.  Stated baldly the proposition was that politicians should stick to politics and businessmen to business.  Others contested this.  A democratically elected Government should not be inhibited from translating its election undertakings into policies.  Governments certainly made mistakes in this area, but the same was also true for some major business decisions.  Wisdom did not all lie on one side.  The case of the Airbus investment was cited as a long-term decision by the Governments concerned which was now beginning to show growing returns in a strategic sector of industry.  Others cautioned against drawing wide conclusions from the Airbus experience.  Similar arguments were thrown up over the point at which Governments should step back from the implementation of policies to stimulate economic activity in depressed economic areas and allow business to take the lead.  Regulation was seen as necessary and, in some cases like the US Food and Drug Agency, even a market advantage.  But once again the businessmen argued for as little regulation as was absolutely necessary and above all against making business act as an agent of government in collecting certain taxes. 
In looking at the role of finance in the industrial equation an interesting contrast emerged between the industrialists who were looking for a less volatile source of funds and the financiers who sought to explain the pressures on them in the allocation of funds.  The worst proponents of financial short-termism were described by one industrial participant in colourful terms as “rapers and pillagers”.  The main argument centred around the twin themes of growth and value.
The most spectacular manifestation of this had been the astonishing valuations attributed to Technology, Media and Telecommunications stocks between 1997 and 2000 with companies at times selling at multiples of 200 times illusory sales expectations.  A correction had been bound to occur and its course had been rapid and brutal.  Perhaps 20% of the companies involved in this sector would survive, which we noted was not an untypical result when previous bubbles of this nature had burst.  We were less clear whether long-term damage had been done to traditional industrial stocks by this whole phenomenon.  Most, however, thought that Governments had had only a marginal effect one way or the other on the rise and fall of the TMT sector.  Whether the fall had come to an end, we were inclined to think would depend on the course of the US economy.
Some of us thought, however, that the TMT experience had been salutary and represented a historic opportunity for those established industrial businesses who had understood the nature of the e-commerce and IT developments and who had adapted their traditional business plans, based on real sales, returns and profit margins, to take account of the new technologies – “bricks adding clicks” – in the prevalent jargon.  The market for e-commerce, mainly business to business was estimated to rise to 3 trillion dollars in the next three years.  Those companies which would prosper would probably be characterised by the appointment of IT experts to senior positions at Board level.
We noted that growth and value investment were distinct management styles in the US, and that these were probably spreading more widely.  Those who were at the value end of the market, as most industrialists were, could probably still attract the funds they needed, provided they took pains to identify their investors and were assiduous in communicating their plans and results in detail to their investor base.  This drew the comment that the information revolution had also reached deep into the business world.  Managers, including fund managers, now had to operate in the gold-fish bowl of press scrutiny.  Attempts to fend off the press or the investing public with the excuse of commercial confidentiality were likely to be counterproductive.  Senior executives would have to learn to deal with the press as a normal part of their investor relations duties.
We had a general discussion of the Anglo-Saxon investment model which tended to put enormous pressure on firms to improve their results continuously on a relatively short term basis, as opposed to the so-called Rheinland model of longer term investment horizons.  It was noted that if the Anglo-Saxon model became too onerous, firms might look to other sources of finance like banks or go private.  We noted that those companies which took stake-holders’ interests fully into account frequently provided positive results for shareholders, as indeed, some recent figures seemed to suggest, did companies following sustainable or good corporate governance policies.  Finally our attention was drawn to the continuing focus of global investors on the large capitalisation companies.  This trend was likely to continue, we were advised.  There were some advantages to size.
In looking at the much discussed, but ill-defined, concept of globalisation we tried to analyse whether industrialists had drawn any general conclusions for their investment, production and human resource policies.  We identified a number of pressures which were pushing companies to go global in their thinking.  We were advised that we should think first of individual markets and then whether to supply them from local production or from a company’s home base.  We also were warned not to get too carried away by the concept of globalisation.  Commercial exchanges within a country or a region were typically much more intense than those across borders.  Distance did still matter.  But, against that, first and second tier suppliers reported that their OEMs were demanding that their preferred suppliers should follow them into new markets and countries when they planned to set up production.  A refusal to follow this lead could lead to a major loss of business – “You lose big or you win big”.
We looked at the linked issues of wages and motivation.  Were wages and salary rates a major factor influencing investment decisions and did they also affect key wealth producing individuals?  The response ranged from those who thought that labour rates were relatively insignificant.  Most industrial labour in high cost countries was highly skilled and a small proportion of the total costs.  Others asserted that there was no doubt that labour intensive jobs were migrating to low cost countries and would continue to do so.  At the other end of the scale global companies were faced with the problem of retaining key management staff.  But if they paid them globally competitive salaries and posted them to developing countries their salary scales were likely to distort local remunerations and demotivate those with whom they were working.  Multinationals also needed to make it clear in their promotion policies that they were indeed multinational and that talent from any background and country could genuinely aspire to places on the main board including the CEO and Chairman’s jobs.  Stock options were considered as ways of linking the interests of the workers with the interests of the enterprise, but, experience showed, in a bear market they could have the reverse effect.  There appeared to be a preference for long-term incentive plans.  We were also told that for an increasing number of young people job and life satisfaction were becoming as important as wages and stock-options.
We looked at works councils and other structures for allowing management and workforces to communicate.  Although some doubts were expressed about their universal efficacy and strong doubts about the size of the company to which they were appropriate, the general view was that there was a strong relationship between performance and awareness of the work force about the plans and intentions of the management.  A plea was made for flexibility and content over form.  “Don’t get formal with the structures” was the advice of one experienced participant.
In looking at possible strategies for firms succeeding in global markets two centralising points stood out.  Headquarters of multinationals would do well to maintain central control of treasury operations in order to maintain financial discipline and achieve savings.  Research and development were also thought generally to be central functions, at least to the extent of ensuring overall coherence to the R & D effort.
In an attempt to draw the threads together the central question confronting industry in developed economies was formulated as “in an environment in which prices had dropped in real terms, how could industry make high quality products with a high value content for which they could charge high prices and pay high wages?”  A number of factors which had emerged in our discussions were identified as being necessary to achieve this goal.  A focus on customers, and the products and increasingly, services they demanded, was a starting point.  Global awareness was another.  Even if companies were local in their operations global trends and competitors would make their presence felt.  In Europe it was thought that the IT revolution and the introduction of the euro would hasten this process.
In case participants might have been lulled into a false sense of security in the sunshine and separateness of Ditchley, a concluding comment from one participant brought us down to earth.  There was a real risk of global recession.  Prices were falling, there was overcapacity in the commodity production end of the market, there was agricultural overproduction in developed countries, and in the new global financial market, strains in one area of the system could easily be transferred to others.  To which another participant added the unquantifiable risks to consumer confidence, and a popular backlash against some of the effects of globalisation.  The antidotes to this possible risk were thought to be a recognition of the speed of change and for all parties not “to fight the last war”.  But above all the search would have to continue for an acceptable balance between economic efficiency and social justice.
This report reflects the Director’s personal impressions of the conference.  No participant is in any way committed to its content or expression.
Chairman  :  Sir Peter Williams CBE
Master, St Catherine’s College, Oxford
Professor John Wheldrake

Head, Faculty of Science and Engineering, Flinders University of South Australia
Mr Marcel Côté

President, SECOR Inc
Professor John F Helliwell OC
Professor of Economics, University of British Columbia
Mr Harry Swain
Managing Director, Sussex Circle
Mr Jürgen C Gehrels KBE

Chairman, Siemens Holdings plc
Mr Fred Matzke
International Consultant  
Mr Gerhard H Storch
Chief Executive, Hoechst UK
Mr Christian Bratt

Director, International Affairs, Swedish Employers’ Confederation
Sir Michael Angus

Chairman, The Boots Company plc and formerly Chairman of Whitbread plc and Unilever
Mr Brendan Barber
Deputy General Secretary, Trades Union Congress
Mr Bernard Carey
Director, London Liaison Office, BMW Group
Dr Timothy Cook
Managing Director, Isis Innovation
Mr Gerald Evans
Adviser, Matsushita Group
Mr Mark Gibson
Director General, Enterprise and Innovation, Department of Trade and Industry
Lt Gen Sir Robert Hayman-Joyce KCB CBE
Chairman, Raytheon Systems Limited, UK
Mr Will Hutton
Chief Executive, The Industrial Society
Mr Digby Jones
Director-General, Confederation of British Industry
Mr John Langston
Group Managing Director – Sealing Solutions, Smiths Group plc
Mr David P Lillycrop
Director and General Counsel, Smiths Group plc
Mr Peter Marsh
The Financial Times
Mr Martin O’Neill
Member of Parliament (Labour);  Chairman, Select Committee on Trade and Industry
Sir Geoffrey Owen
London School of Economics and Political Science
Mr Jonathan Phillips
Director General for Resources and Services, Department of Trade and Industry
Mr Edward J Roberts CBE
Chairman and Chief Executive, Peterson Spring UK Ltd
Mr Jonathan Spencer
Director General, Business Competitiveness Group, Department of Trade and Industry
Mr Martin J Temple
Director General, Engineering Employers Federation
Mr Alan Thomson
Financial Director, Smiths Group plc
Mr T Allan Welsh
TI Group Automotive Systems
Mr John Diebold

Chairman, The Diebold Institute for Public Policy Studies Inc
Mr R Wayne Diesel
Vice Chancellor for Business and Industry Relations, State University of New York
Mr Francis Finlay
Chairman and CEO, Clay Finlay Inc
Mr Peter Funk
Executive Chairman, Newtel Holdings
Mr William R Howell
Investment Banker, Greystone & Company, New York
Dr Glenn A Pitman
Dean, School of Management, Binghamton University, State University of New York