How to benefit from disruption

Investors should look for companies setting the transformation agenda.

Summary: Disruptors are everywhere, especially in the digital space. Investors need to be aware of how well the companies they are invested in are responding, and to invest in start-ups or technology enabling change.

Key take-out: Many leaders don’t have a transformation strategy, but they will need to develop one.

Older investors will remember how two decades ago there was an event called the ‘dot.com bubble’ in the US and subsequent bust in 2001.

Amazon was a rising star then – and still is. In 1998, Merrill Lynch analyst Henry Blodget predicted that the online retailer, then trading at $US240 would trade for $US400 within the year, in what was considered an outrageous call. He was right.

Is today’s digital disruption phenomenon something similar? If so, what have we learnt and what can you do

Today, Amazon shares have hit the $US1000 mark and it is still going strong and about to expand further into Australia. This will impact a lot of businesses here, especially retail businesses.

So how do you determine what will be a good investment and what will be a ‘flash-in-the-pan’?

From our decades of experience in disruption and transformation, it is important to realise that it’s not about technology alone. It’s about disruption, in particular how that disruption will benefit consumers.

As such, investors need to determine how the leadership of their investment targets/holdings are responding to digital disruption and other competitive pressures and what they are doing to transform their organisation to not just survive, but thrive in today’s increasingly competitive and changing markets. It is one way to invest for future growth – and returns.

Disruption in the banking sector

Consider one of Australian investors’ favourite sectors, the major banks. The US magazine Forbes reported that 40 per cent of Americans have not stepped through the doors of a bank or credit union within the past six months and, as a result, the number of physical banks has dropped by almost half from 1995 to 2015, due to the rise of online banking.

This might seem like good news, as banks no longer have the expense of bricks and mortar outlets and can thus cut costs, increase profits and those all-important dividends.

But the digital world they have helped foster also means others can enter the market, without those costly branches. New technology means that there are now a myriad of platforms that allow consumers to have more choice to budget, bank, pay, and crowd-fund, all without leaving their homes.

So, if a bank treats a customer poorly, isn’t there to help them when they need help with their finance, that consumer can now easily go somewhere else. In fact, it has never been easier to switch providers, be it banks, insurers and many, many more organisations.

The power is in consumers’ hands; in particular their computers and mobile phones, which now makes customer service the biggest game in town.

Other organisations that can tailor and better help consumers save, lend and invest faster, more easily and cheaper, means banks will continue to lose market share, especially among the growing millennials market.

Then there are other changes that are associated with this transformation. Consider the impact of the Revised Payment Service Directive (PSD2) in Europe, which forces banks there to open their platforms to non-bank service providers from next year. This will break the banks’ monopoly on their users’ data.

This will allow competitors such as Amazon, or payment technologies like ApplePay, to expand in this space as they access the banks’ customer account details to make payments. This will not require customers to change banks, nor will the new players need to be banks.

In response, banks will have to cut more costs – which will annoy consumers, as well as their employees – to maintain their dividends.

Transformation knows no bounds

Similar changes are happening in a range of sectors: media, telcos, and more – where value has been transferred to disruptors like Google and Facebook.

These might seem like technology plays, but in reality they are customer service – customer control – plays and investments.

Amazon and China’s Alibaba use connectivity to redefine the retail transaction, removing the need for bricks and mortar branches in favour of a direct-to-customer distribution. The saving is distributed to customers.

There are a range of other products and services which are fundamentally consumed as information – music, movies, newspapers and phone calls – which lend themselves naturally to a shift online. And it’s where we will see more disruption - and investment opportunities.

Technology simply enables disruptors to better use knowledge and convert it into efficiently better customer service. Consider Uber and AirBnB.

As fund manager Loftus Peak says: “We are at a particular point in the economic history where disruptive companies are moving into industries which were previously considered inviolable; companies which couldn’t be damaged because demand for the underlying physical good was thought to stretch out to the horizon. In fact, the demand may still be there, but the way it is delivered, because of technological change, is affecting virtually all industries.”

Identifying those, and those who do that best, is what investors have to do now – and in the future. The way to do make this assessment is to determine what leaders say – and do – in terms of their transformation strategy.

Interestingly, many leaders don’t even have a transformation strategy.

They will need to develop one, as it will increasingly be the key component of investor relations.

How investors can benefit

Investors can benefit in several ways. These include:

  • being more aware of change and the need for transformation;
  • question, are the organisations you invest in transforming (or are they dinosaurs waiting to die out?);
  • invest in start-ups either directly or through funds (listed or unlisted), or technology enabling change;
  • transfer investments to organisations that empower the consumer.

But remember, some 95 per cent of start-ups are just tweaking the existing model. Very few create a revolution in their industry.

Also, expect a greater focus on social purpose in the coming years. While this is not a major consideration for older investors who recall the dot.com boom, it is a huge factor for younger investors. They prefer socially responsible organisations to those who aren’t – after all, they want the future to be better for them rather than worse.

As this trend and segment grows, so too will demand for investments with a social conscience or purpose.

Consider how World Vision recently announced an endowment fund targeting the interests of investors with the intention to “put their assets to use in new ways.” It is expected to cover a wide range of financial instruments from endowment and grants through to loans, impact investments, impact bonds, convertible notes and venture equity.

Are the investments, asset owners and managers you are using transforming – or do have their heads in the sand? If incumbents don’t do this, new competitors will – and they could be worth investing in.

Adam Salzer OAM and Guy McKanna are co-founders of the Australian Transformation and Turnaround Association