Saturday, March 11, 2000

Everything old can be new again

Sorting out what’s what in the Internet era

Don Tapscott

The smart investment strategy for today’s stock markets is pretty clear: Dump stocks in the old economy and buy into the new economy. So far so good. Except I repeatedly see pundits and investors misunderstanding what constitutes the old and the new.

The upshot is that investors are ploughing money into high-tech firms that are destined to die because they haven’t embraced the fundamentally new rules of the digital economy. Conversely, investors are overlooking bricks-and-mortar firms that have reinvented themselves around the Internet and are becoming leading-edge members of the new economy.

In the simplistic analysis I see on television or read in the papers, new economy is equated with the high-tech sector. If a company builds IT or Internet hardware or software and is listed on Nasdaq, it is new. Companies in other sectors that create mundane products like cars or laundry detergent must be old.

Wrong. Any company can be part of the new economy, regardless of what industry it is in, what product it produces or on which stock exchange it is listed. The key question is whether the company is based on a new-economy business model. This will tell you whether the company is able to exploit the power of the Internet and accumulate digital capital.

Understanding digital capital is essential to understanding how to invest.

For example, many observers have been bewildered by seemingly absurd evaluations for so-called Internet stocks.

Using lenses from the old economy, such as a P/E ratio, some of today’s evaluations will appear incomprehensible. But during the past two years or so, those who stuck with the old view of capital and of evaluating companies sat on the sidelines during the greatest growth of corporate value ever.

What many shrewd investors knew intuitively is that many of the new economy companies are amassing what the Alliance for Converging Technologies calls "digital capital." They are creating new business models, new networked relationships and acquiring new human know-how on networks—all of which give them far-reaching ability to create value and generate wealth.

The foundation of this digital capital creation is the business web. A b-web is a distinct network of suppliers, distributors and customers that conduct business communications and transactions on the Internet to produce value for end-customers and for one another. It is more helpful to understand which business webs a firm participates in than to know what industry it comes from.

These internetworked enterprises are swiftly replacing the traditional industrial corporation as the new model of the firm. They create value through their relationships with other entities in their b-web, in a far more supple and effective manner than traditional firms.

The digital capital created by business webs is the most effective measure of a corporation’s ability to compete. Instead of focusing on earnings, investors should quantify the three elements of a potential investment’s digital capital.

These are:

Internetworked Human Capital Traditionally, human capital was viewed as the sum of the individuals’ capabilities in the enterprise—skills, knowledge, intellect, creativity and know-how. It has replaced physical and financial assets in determining corporate success. In the digital economy, this capital can extend well beyond the traditional corporate walls—companies can have it without having to own it. Cisco or Nortel’s human capital includes the intelligence and know-how of thousands of employees belonging to its business web members. Epinions.com—the b-web for consumers to evaluate other b-webs, gives out business cards to people who review products and companies on their site. Their human capital is huge—but they don’t own it.
Relationship Capital Traditionally, customer capital was viewed as the wealth contained in an organization’s brand, customer penetration and reputation. When internetworked in a b-web, customer capital becomes relationship capital, and intensifies into profoundly reciprocal linkages.

Dynamic two-way relationships replace the old concept of the brand as a one-way image that the vendor establishes through print and broadcast media.

eBay has deep relationship capital with millions of customers who have invested their time and effort to personalize their relationship with eBay and with each other.

The Capital in New Business Models As business model innovation determines competitiveness and wealth, industry-by-industry, business webs are destroying the old model of the firm. The lack of interest in B2C startups today reflects the lack of business model innovation in most of them. The action has shifted to B2B and C2C and C2B2B2B, where new business models are exploding daily.

Understand the ramifications of digital capital in the new economy and investing becomes a much less perilous process.

You won’t conclude, as I heard one TV pundit say this week, that many of the old economy stocks are really cheap. Compared with their P/E ratio, they may seem like a bargain.

But measure their digital capital and they may look very costly. Conversely a company with a P/E ration of 1,000-1 may be a bargain if it has high stores of digital capital.