Langlois on Dosi and Lazonick

An interesting debate has begun between Professor Giovanni Dosi and Professor Richard N. Langlois. Dosi's 1988 "Sources, Procedures and Micro-economic Effects of Innovation" was the key document I used in the preliminary research report. Professor Richard N. Langlois has taken up the majority of writing and thinking on changes in business' organizational structure which was used in defining the Draft Specification.

Professor Dosi, Alfonso Gambardella, Marco Grazzi, and Luigi Orsonigo submitted a new paper a few weeks ago entitled Capitalism and Society. I have reviewed the paper and found nothing of real interest in it. It suggests that the large organizations have not been impacted by Information Technologies. A very provocative research topic but one that I think is limited in its scope. The research is based on a review of Italian and French firms. I am certain that there is not a substantial amount that can be related to the rest of the world. Old Europe doesn't change, they have the same firms occupying the top wrung of the corporate latter for over 50 years. Nothing changes much there.

Nonetheless much of the underlying premise for Dosi et al's research was based on Professor Langlois research, and specifically his paper entitled "The Vanishing Hand". This was a document that I reviewed here. Professor Langlois writes a response to Dosi et al that helps to clarify his position in writing about the boundaries of the firm and organizational change. Here is the focus of the discussion.

The Dosi et al. paper takes issue with the Langloisian point of view. The authors adduce statistical evidence on changes in the size‐distribution of firms and industrial concentration in the advanced economies over the past few decades that contradicts the notion that there has been a significant movement toward market coordination of the advanced economies. They argue that, if anything, organizational complexity has become greater in the ICT age, requiring industrial enterprises to engage in more, not less, organizational interactions, as distinct from market interactions. Indeed, they raise the possibility that organizational complexity, and hence the challenges for the visible hand of managerial coordination, may be greater across vertically specialized firms in the New Economy than it was within the vertically integrated firms of the Old Economy. (Lazonick 2008, p. 1.) p. 1

Nonetheless this is a finding that challenges Langlois' theory and the core underlying thinking of this software development project. I have suggested, and the Draft Specification reflects, that the "market" definition is the Joint Operating Committee (JOC) which imputes the volumes of suppliers and contractors involved in the service businesses, and the producer represents the firm.

Lanlgois cites IBM as his example of how Dosi et al misinterpret him. In the 1960's IBM was able to provide the soup to nuts type of computing experience that purchasers appreciated then. The majority of components were manufactured in-house by IBM. Today the situation has changed significantly as a result of the Information and Communication Technologies (ICT). Yes there are large businesses just as there always will be. However, the methods used to develop products and build them have changed substantially.

As an example I would select Apple which considers themselves to be a software development company. Their competitive advantage is in developing software that is substantially more "user friendly" and functional then other software. When it comes to hardware, Apple has not manufactured a computer for many years. They involve themselves in the design and secure manufacturing capability from other firms that specialize in chips, hard-drives, assembly etc. The iPod and iPhone are similar in that Apple notes on the product that it is designed in California, assembled in China and uses mostly Japanese parts. Therefore Dosi et al's argument that ICT has not changed the make up of firms is incorrect. They are predominately organized around the contract, which denotes clearly that the firm uses the market to attain their competitive advantage.

Charles Sabel and his collaborators have begun looking into the nature of the relationships that characterize the New Economy (Gilson, Sabel and Scott 2008; Jenne john 2007; Sabel and Zeitlin 2004). And what they find is not common ownership or hierarchy but rather a “form of contracting [that] supports iterative collaboration between firms by interweaving explicit and implicit terms that respond to the uncertainty inherent in the innovation process” (Gilson, Sabel and Scott 2008, p. 3). The New Economy may be highly organized. But it is fundamentally contractual, in a way that large Chandlerian multi‐unit enterprises are not. These latter, properly understood, are indeed fading away in a world of extensive, capable, diversified markets.

The Draft Specification uses much of Langlois thinking in its overall architecture. The best example I can think of is the use of the producers five year Capital Expenditure budgets. These budgets are aggregated by region and displayed in a fashion that enables the "market" of suppliers, the Schlumbergers, Halliburtons and Joes' Welding to peruse and determine what the producers may need in terms of their future spending. This information in the hands of the market will then enable innovative solutions to be proposed to the producer when the contract is sent out for bidding. Bringing a new capability to the firm with a perspective that is not limited to the firms current quarter.

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These companies don't deserve your respect.

As you can tell they haven't earned mine. They have sat back and done nothing about the markets demand for energy. Economists frequently say that prices tell the markets many things. Today the prices are shouting many things, but these companies management can't, or chose not to here them. They have done nothing other then endow themselves with complacency, inactivity, stock options and retirement benefits. Following the money reveals that they have been richly rewarded for their inactivity.

Faced with the overwhelming facts that I have presented in this web log. And the many proposals I have made to industry on systems supporting the JOC. They have done nothing. 37 McKinsey articles, 26 Articles from Professor Richard Langlois, 45 Calls to Action, publication of a future technical vision, etc. Codifying of all this research into a draft specification of eleven modules. The only response is the comment "not at this time".

The draft specification of eleven modules that are so fundamentally different from what is available today. Fundamentally different in that it sets out a course of action in making the producer companies innovative, increases industry wide capability and addresses many of the key issues facing the industry. But that requires effort on behalf of these companies.

Led by uninspired people with uninspired goals these companies have languished to the point where they are indistinguishable. Royalties are up, another reason to do nothing. They should be preparing for moves into the Beaufort Sea, the Arctic, offshore. Increasing the internal infrastructure necessary to explore. Instead they do the easy targets, the coal bed methane and shale oil. Have they no vision, drive or ambition?

I am unable to convince them of the merits of this research and software development. It's time for the shareholders of these energy companies to show the management the door. Either that or watch their investments wither away through dilution from management, declining reserves and ultimately declining production.

Does anyone believe inaction is the right approach? Are these managements able to foresee the future is different than what I have proposed here. Are they able to provide an alternate vision of how this industry has fundamentally changed? No they haven't. This series of entries showing the extent of the abuse of stock options, should provide you with an understanding that the direction we are traveling is not going to present any new opportunities for the companies or the shareholders that own them. All the opportunities involve stock option compensation and retirement of the fat and lazy management. If you doubt this after reading this series you may have a future in oil and gas management.

And what has my competition provided? SAP has stated that they want the upstream producer to get closer to the customer. Which is the most dramatic example of how SAP does not know anything about the upstream oil and gas business. Oracle is off doing something with the application vendors they purchased and the world is not holding it breath. I wouldn't either.

Sir Anthony Giddens theory of structuration, which was a part of the preliminary research report, states that organizations, society and people need to move in lock step or there will be failure. Society and people want to move ahead, organizations are holding up the show and causing all three to fail.

They have isolated themselves from any form of criticism and pursued their personal strategy of sloth, wealth and retirement at the expense of shareholders and society at large. They appear to me to be shut-ins as opposed to productive members of society. Where is the outrage? Failure is the only way to describe it. Join me here.

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McKinsey on Organizing for Value.

McKinsey have been able to provide a solid foundation for this software development project. This will be the 37th McKinsey article I have reviewed! (Click on the title for access to the document.) When it comes to organizational change and the impact of IT, McKinsey has invested heavily in this mega-trend and consistently gets it right. In applying this article to the oil and gas producer, strong support is given to the use of the Joint Operating Committee (JOC) as a key organizational construct of the industry.

This organizational blind spot, often combined with an excessive focus on short-term earnings, can produce unfortunate results, in our experience. Managers end up optimizing earnings goals at the expense of long-term growth and value creation. “We typically spend 80 percent of our time figuring out how to squeeze the economics, and only 20 percent on actual strategy, without numbers to back our decisions,” says one executive. Some readily admit to cutting back on value-creating projects in order to meet short-term earnings targets.

This is the systemic problem that all public companies face. Don't meet you targets for the quarter and you will be punished. Managing to these criteria becomes the focus and strategy that drives the management to perform at its best. It certainly leads many companies to focus on optimization at the expense of innovation and long term value generation. However, McKinsey are hitting on a key point with their definition of "value cells".

As a rule of thumb, value cells have standalone economics and must be relatively “homogeneous” in regard to their target market, business model, and peers—that is, they must have one target segment, one country or region, or one group of products. The trick is to create financial analyzes, such as P&L statements, as if a value cell were a stand-alone business. This is normally not done in a classic divisional structure, where each division’s financial's are an amalgam of different products, markets, and costs relating to shared assets. A useful litmus test is determining whether a value cell could be sold and whether there would be a clear market price for it.

A JOC does all the things that McKinsey define as required for a value cell. But their is more, McKinsey intimate that the value cells are somewhat separate from the divisional organization structure. Just as I have defined the boundaries of the firm and the JOC in the eleven module Draft Specification. The firm undertakes the role of establishing and attaining the financial targets, whereas the JOC develops the innovative ideas and builds value for the long term.

Value cells can easily coexist with the organizational structure of a division, which might need to take other factors into account, such as geographic proximity or economies of scale in common functions such as production plants, supply chain, or sales networks. As an overlay on an existing structure or a lens through which to view existing businesses, however, the cells facilitate strategic decision making.

An oil and gas firm may have hundreds of JOC's, this would cause the management workload to increase substantially. Not so McKinsey say;

In our experience, a company of above $10 billion market capitalization should probably be managed at the level of 20 to 50 value cells, rather than the more typical three to five divisions.

and

While managing so many value cells might appear to increase the CEO’s workload, the reverse is often true. Focusing more on single cells actually reduces complexity because managers find it much easier to identify and monitor the two or three operational metrics that truly drive performance, as well as to make decisions in a more straightforward way. In essence, the CEO can use value cells to take out a “disintermediation layer” between actual business decisions and the corporate planning process. Instead of aggregating strategies and economics into complex divisions and then spending lots of time understanding the overall strategy and performance, the CEO can take a larger number of more rapid, more specific, and more radical decisions at the value cell level.

This makes intuitive sense. The logic in using the JOC in the oil and gas industry is substantial. It is the financial, legal, operational decision making and cultural framework of the industry. Participants in JOC are motivated by financial rewards therefore concurrence can be easily attained. Today's Information and Communication Technologies (ICT) also enhance the expanded use of the JOC. In the Draft Specifications it is stated explicitly that the management role would increase in the redefined boundaries of the firm.

It’s worth noting that a value cells approach is meaningful only if a company has the courage to follow up on decisions to invest or divest. Managers must regularly scrutinize cells that destroy value and divest them if turnaround plans don’t materialize. They must nurture high-potential businesses aggressively and continuously. If competitors devote far more resources to a given business, for example, the real choice is exiting it or doubling down on the investment—not adapting marginally.

This however does not mean that our four little piggies can double down on their stock options. Which appears to be the only strategy in play. This next quote from McKinsey imputes the level of change that needs to be adopted within an organization. To benefit from value cells requires some major systems, organizational and people changes.

And that is what we have done in the eleven module People, Ideas & Objects Draft Specification. Our motivation is to focus on innovation within the JOC. That is what the commodity prices are telling the producers, and providing the financial resources for, to innovate. As everyone generally agrees, the easy oil is gone and an earth science and engineering based capability is the new methodology of earning value in the oil and gas industry. As science and innovation come to influence each other, the speed of change will accelerate. The firms in the industry have lost the ability to keep up with the market demand for energy. Without the systems to support any organizational changes in place, we are relegated to manual systems or utter failure.

Using value cells to emphasize value management requires some obvious implementation challenges—creating better data, exerting pressure to collaborate, adopting incentives that reflect the value created per cell. The real change of culture and mind-set requires even more: instilling business managers with the feeling that the new process gives them more freedom and more resources for good ideas.

We also live in a time where the technologies, based on the People, Ideas & Objects Technical Vision, will conspire to overwhelm the unprepared producer with information. Recall that Nobel Laureate Herbert Simon stated "a wealth of information creates a poverty of attention."

Focusing corporate and divisional decision processes on value and growth isn’t simple, particularly when the activities that create value are embedded in large divisions. Companies that adopt a finer-grained, granular approach can better identify and manage their value creating assets.

The performance of the oil and gas producers stock option compensation costs is the only thing spectacular coming from these firms. They have abused the trust of the investors and poorly prepared their firms for the changes brought about by the commodity prices. Potential retirement is liberating them from responsibility. The oil and gas industry has changed fundamentally? Someone should tell the management.

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Deja vu, all over again.

A number of years ago I did some analysis on Petro Canada that remains some of the most popular content on this blog. I thought since they did not make any material changes as a result of the analysis. I would just link the posts in this one entry.

Petro Canada Q2 Earnings
Petro Canada Piles it on Again
Petro Canada's accountability framework
Oil and Gas Reserves of Petro Canada
Top 10 Management Excuses from Petro Canada
Petro Canada Garage Sale continues
Petro Canada's First Quartile
Petro Canada Definitions
Maturation of Petro Canada
Petro Canada Options
Petro Canada news management
Petro Canada is more disturbingPetro Canada Series
Petro Canada Executive
Petro Canada
Petro Canada Definition of Value
Anti-Petro Canada
Petro Canada Some Clarifications
Petro Canada's Conflicting Statements
Petro Canada's Reserve Report
Petro Canada Earnings
Petro Canada Believes 


Enjoy!

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15 TCF of Natural Gas

That was the volume of gas that Shell bought from Duvernay Oil Corp. The purpose of this entry is to provide a little more about the understanding of reserves.

Way back when the geological survey determined that Canada would potentially produce 150 TCF of natural gas. Updates to the survey show that Canada has produced a little over two thirds of what they once had.

Now Duvernay comes along and discovers 15TCF of gas? The question is, is this 10% of the 150 TCF or is it an addition to total 165 TCF. The answer is "I don't care". Reserves have taken on a distorted meaning in the Peak Oil crowd. They are meaningless in determining what the future potential of an entrepreneur can do if they truly understand the business. While the Peak Oil crowd and Cambridge Energy Research Associates were reviewing reserves, Duvernay got down to the business at hand. Getting down to the business at hand is available to everyone, everyone who is not so glazed over by the value of their stock options.

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Nexen reports it's losing its mind.

Reading Nexen's second quarter financial results press release; leaves one with the feeling all is well "Nexen reports solid second quarter financial results". Yet Bloomberg reports a rather poor performance, and the stock is down over 10%. How's this? Bloomberg in their opening paragraph.

July 17 (Bloomberg) -- Nexen Inc., the Canadian producer that gets most of its output from oil fields, said second- quarter profit rose 3.3 percent as stock-based compensation costs blunted higher crude prices.

Makes it very clear that the management were celebrating the latest round of stock based compensation. Another $300 million for the piggies, and $380 million for the shareholders. That seems fair doesn't it? If these little piggies can't boost their profits by more then 3.3 percent at a time when oil prices are up, then they never will. All the upside from the increase in oil prices is clearly deemed as the valuation of further stock based compensation. I suggest the shareholders show them the door.

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NOC's Don't Explore.

First of all, a quick comment, price volatility is not a welcome trend. The price of oil in the world is moving up and down in a rather violent manner the last few weeks. This is a precursor to some major upswing in the price, so hang on this might get really rough.

I find it amusing that the companies are not even listed in the call to action by the former Secretaries of Defense, State, Commerce and Energy. The companies have cruised to the point where even the politicians are not expecting anything from them!

Back to the key topic of this post. One of the key complaints of the oil and gas companies is that they are being kicked out of the countries that manage their energy assets through "National Oil Companies" (NOC's). Countries such as Saudi Arabia and Venezuela. To expect an exploration mindset from either Saudi Arabia or Venezuela is wrong headed. They're only interested in the efficient and effective management of their countries energy resources. Because of this the oil and gas companies should not have any competition from NOC's. (Wasn't that in the movie "Apocaplypse Now" "NOC's don't explore"). Sitting in the corner and crying is not a proper posture for these oil and gas companies. Or do pigs squeal in the corner.

If as I had suggested in my review of the book "Profit from the Peak", these companies don't know how to explore, can't explore and are not able to organize themselves to explore. I say sure they have exploration departments; but the people there are only picking up their companies leadership position in having their retirement homes bathrooms wallpapered with stock certificates. If they are doing nothing but squealing and lining their pockets why don't we send them to the slaughter house?

Is an exploration mindset necessary? Would it provide the discovery of new oil and gas fields? You be the Judge. In Calgary, Duvernay was purchased this week by Shell for $5.9 billion. Never heard of Duvernay Oil Corp? I can assure you not many have. They started in 2001 from nothing and this is their story:

Duvernay Oil Corp. is an aggressive Alberta based oil and gas company with an aggressive activity plan for future growth. The company is engaged in exploration and development of natural gas and crude oil emphasis on the deeper, western portion of the western Canadian sedimentary basin in Alberta and Northeastern British Columbia.

Reading their annual report for 2007 will reflect that exploration is their core focus. If you download the report, look at the awesome pictures on page 2. Aggressive innovation is Duvernay's middle name. And the map on page 13. That little map contains the work of probably a few genius level geologists life-time of work.

Therefore a start-up focused on Alberta and BC can earn $1 billion per year? That's what exploration is about. I'm tired of the noise and smell of the oil and gas companies that I have highlighted as pigs. Lets get rid of them. Join me here.

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And this little piggy...

Up next in the shocking level of stock option compensation, is Nexen. Their 2007 based compensation was $175 million "in the money" and $465 million "in the money" stock options issued and outstanding. For a total "in the money" compensation of $640 million. The total of the four oil and gas companies is now $3.36 billion. You tell me if you think its excessive.

Company	Stock-Options	Market Cap
Canadian Natural Resources	$1.53 billion	$50.6 billion
Petro-Canada	$492 million	$24.5 billion
Encana	$698.2 million	$62.8 billion
Nexen	$640.0 million	$19.3 billion
Total Producers	$3.36 billion	$157.2 billion
Apple	$873 million	$151.9 billion

I have stated here that these companies had the opportunity to address these problems almost five years ago. What has happened since then is an inability of these firms to make their targets in terms of production volumes. This has occurred on an almost systemic basis with each company reporting that there are material cost overruns and scheduling problems. More or less these companies can't keep up to the demand for energy. Can't keep up because they are too bureaucratic.

But there's more. Over the course of time we have seen the problem escalate in the world. That wasn't of any concern of these companies. Indeed we have seen the slackening of their pace and a deadening of their sense of urgency. Confident in their abilities to control their environment from any serious criticism of their performance. They became bold in their actions and believed they were entitled to these stock options. Stock options that became valuable from increases in earnings from higher prices. High prices that masked the declines in reserves and production. After all it was working. They are now that much closer to their retirement, a retirement that will be far more comfortable. This was their special reward for gracing the oil and gas industry with their presence. Don't do anything and be richly rewarded.

The consequence of their greed is reflected in this article from ASPO USA:

The CIA reports that there are 266 “nations, dependent areas, and other entities” on the world today. During the last few weeks at least 90 of these are reported to be having continuing serious or very serious energy shortages. The number of countries with energy problems may be much higher as the CIA also reports that 94 of the world’s nations are islands many of which are so small they are rarely heard from but are almost certain to be suffering from $140 oil.

When I proposed this idea in September 2003 and subsequently published the research results in May 2004. These two dates were not the only times I marketed to these companies. I have contacted those within the industry, and particularly the four pigs I've already mentioned, (Petro Canada, Encana, Canadian Natural Resources, and Nexen) on an annual and semi-annual basis. The last time being December 11, 2007. I always received the same response of "not at this time". Well of course not, they hadn't retired, and who wants to work hard?

Well the time has now past by any reasonable measure. And the management have proven that they are not capable of acting in any constructive way, other then for themselves. Therefore I appeal to the investor class to take action and fund these software developments. Create the necessary alternative organization for you, the investors, to able to manage your assets.

Do we have to wait until their are riots in Europe, Canada and the U.S. before someone dispatches these people to the pig sty? Is $4 gas enough? I don't think so, we have a lot of pain heading our way due to these selfish people. What more do we need to realize that the same old muddling along just isn't going to work. Join me here.

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Apple, my favorite tech company.

Apple is a company that has risen from the ashes in 1997 to a stellar performer and one of the top four technology companies. Only Google, IBM and Microsoft are larger in terms of market capitalization. Apple had a market cap of approximately $700 million in 1997. Today it is $153.3 billion.

Here is a firm that has taken the world by storm in one of the highest profile industries, and in ten years turned itself into a juggernaut. I'll bet their stock based compensation must be stratospheric. Not really Apple recognized $242 million in stock based compensation for 2007 and $631 million in unrecognized compensation for a total of $873 million.

So here we have what has to be the greatest story of a company rising from the ashes and building 219 times their 1997 values. Apple is 2.4 times the size of Encana (the largest oil and gas company that I have highlighted in this stock option review). Only Apple is capable of approaching the values of the stock option feeding frenzy of these producers. We know that Apple's management generated $152 billion in shareholder value to earn their stock options, what have these oil and gas companies done to deserve theirs?

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The last 2 Draft Specifications!

Draft Specification - Performance Evaluation
Draft Specification - Analytics & Statistics

Two plus nine equal's eleven. These specifications are now the communities to take and build upon. The draft specifications are in a way a codification of my vision of what could be, and the research that I have conducted on the organizationally constrained producer companies.

I can not tell you how good it feels to have completed these.

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