Langlois Personal Capitalism Part II

In this second post on Chapter 2 "Personal Capitalism" of "The Dynamics of Industrial Capitalism" Professor Richard N. Langlois documents four centuries of the history of the Swiss watch making industry. I highly recommend you download the book and read Chapter 3 for an understanding of how the Swiss watch industry evolved in the face of many unseen dangers. The key break-through in this post is the role of the large organization in making People, Ideas & Objects and the Community of Independent Service Providers real. There are many contradictions in this post, none more contradictory then myself reflecting on the positive role of the bureaucracy.

This positive role that the bureaucracy can provide is based on the realization that change can be a top down decision. In this post Langlois argues there are two alternatives for change. Through charismatic authority or as a top down decision. For the bureaucracy to fall on its sword seems to be a tall order, however, other miracles have allegedly happened. Funding of this project is the step that would need to be taken in order to initiate top down change. I'm not holding my breath.

That leaves us with charismatic authority as Langlois describes it.

This is so because charismatic authority solves a coordination problem in a situation of “chaos” in which rights, roles, and responsibilities are in flux. All participants would prefer some structure or constitution; but the costs of coordination are high, as each is willing to constrain himself or herself to a new order only if many others simultaneously agree to do so. Charismatic authority cuts through these costs and establishes a structure, which then presumably evolves in a Weberian way as stability is achieved. p. 37

People, Ideas & Objects have published the Draft Specification as the structure for participants in this project. This is the beginning vision of how the energy industry could be structured to facilitate innovation and speed. The ideas contained within the vision enable people to see their potential rights, roles and responsibilities in the industry. From there they will be able to build the systems they will need to do their jobs in this new environment. If cutting down on the costs of coordination is the objective, I can see how this vision enables the people to begin working constructively towards fulfilling that vision.

I am appreciative of Langlois' point about "as each is willing to constrain himself or herself to a new order only if many others simultaneously agree to do so". It would be difficult without the Internet to organize the volume of people needed within these communities. I've always assumed that the numbers of people wanting to contribute would only do so when it was deemed safe to do so. The bureaucracies are particularly difficult towards people who are willing to be the first to step into an "unauthorized" area. Protection from the bureaucracies actions are our first priority.

By using the Joint Operating Committee as the key organizational construct of the innovative oil and gas producer. We align the firms ERP systems with the legal, financial, operational decision making, cultural and communication frameworks of the global oil and gas industry. Therefore the Draft Specification resonates with the ways and means that the industry operates naturally. This natural way provides People, Ideas & Objects with an advantage in that people can see that the vision of the Draft Specification provides what Langlois calls "cognitive leadership".

The “constitution” in demand in a world of change is a cognitive one. Those who need to cooperate in such a world need to share a cognitive frame or system of interpretation in order to orient themselves toward one another’s goal’s and actions. The entrepreneur provides this orientation through what Witt calls cognitive leadership. p. 37

In addition, much of the Draft Specification provides new metaphors for how the system will integrate with the natural way of the industry. Metaphors such "marketplace" modules and the Military Command & Control Metaphor provide the users with an understanding of what is being created. These are the primary reasons that these developments should be funded.

Oil and gas is based on the partnerships that are created to manage oil and gas assets. These Joint Operating Committees are systemic the world over and are an inherent part of the nature of the business. Multiple ownership is a necessity derived from the desire to reduce risk and the aerial extent of physical assets. Operational decision making is determined based on each contracts "Operating Procedure" which is a codification in the regions culture. It is here that Langlois brings up an interesting point regarding the decision rights in incomplete contracts.

More recent economists tell a similar tale. In the work of Oliver Hart (1989), the necessary incompleteness of contracts in an uncertain world requires the existence of a residual right of control — that is, a right to make decisions in circumstances unforeseen. The ownership structure of production turns on whose possession of that right minimizes the sum of production and transaction costs. p. 39

In a separate post I noted that we will use the technologies that are available to us to make these operational decisions better and faster. Having each of the companies representatives on the JOC participate in an interactive video conference to determine the decisions that need to be made is part of the Draft Specification. Since we are providing the oil and gas industry with a much needed software development capability. These decisions being made can be documented and implemented during the conference in real time with the appropriate AFE's or work-orders being dispatched based on the voting and decisions being made. This is one of the key areas where I see the performance of the producers being able to make the decisions in the time frame in which they are expected.

I want to turn now to the last point in Chapter 3 "Personal Capitalism" and discuss the fact that innovation requires that firms take on characteristics of marketplaces. In this next quote, Langlois reflects on the impact that American watch manufacturer Waltham posed to Swiss manufacturers. Waltham was able to increase the quantity and quality of American watches to a point where they seriously challenged the Swiss manufacturers. The key point is highlighted in italics.

In the specific case of watchmaking, the fragmented Swiss industry responded quickly to the American threat. “In spite of some inevitable resistance,” Jequier (1991, p. 326) tells us, “the spirit of enterprise asserted itself”; and assemblers began building new factories and introducing the same kind of machinery as the Americans. In 1870, three quarters of the 35,000 employed in Swiss watchmaking worked at home; by 1905, only a quarter of the more than 50,000 workers did so (Jequier 1991, loc. cit.). Nonetheless, when Switzerland regained the technological and market lead toward the end of the nineteenth century, it remained far less vertically integrated than the American industry; relied far more on outwork; and comprised thousands of firms to the dozen or so in America (Landes 1983, p, 323). Meanwhile, Waltham’s highly integrated structure proved far less conducive to the routine administration of its operation than it had to bringing that operation into being, and the firm virtually collapsed under principal-agent problems (Landes 1983, pp. 329-334). Even its better-run competitors lost ground to the Swiss. Indeed, both Waltham and Elgin, Waltham’s long-time domestic rival, are now Swiss owned. p. 42

Key to the Draft Specification is the division of labor that is needed in order to increase the economic output of the oil and gas industry. The Military Command & Control Metaphor provides for a pooling of the resources from the firms represented in a JOC. Eliminating the redundancy built in each firms silo of technical capability. The eleven different modules of the specification provides for an enhanced division of labor. And finally, the division between "market" and "firm" is a further division of labor. Within this framework, the People, Ideas & Objects software development capability, and the Community of Independent Service Providers will be able to define ever greater divisions of labor for the producer firms that subscribe to this project.

The first, and most obvious, point is that it was an outside individual, not an organization, who was responsible for the reorganization of the industry. Lazonick is right in saying that genuine innovation involves reorganizing or planning (which may not be the same thing) the horizontal and vertical division of labor. But it was not in this case “organizational capabilities” that brought the reorganization about. It was an individual and not at all a “collective” vision, one that, however carefully thought out, was a cognitive leap beyond the existing paradigm. If SMH came to possess organizational capabilities, as it surely did, those capabilities were the result, not the cause, of the innovation. p. 46

It's this next quote that I find the variety of contradictions. The bureaucracies are all about centralization and we are talking about moving the majority of the industry into the market definition. This requires the bureaucracy to voluntarily say so long. Something that this projects history has shown, the bureaucracy won't do.

As I have argued elsewhere (Langlois 1992b), the benefit of centralization lies in the ability to bring about change, not in the ability to administer existing structures. p. 47

If the bureaucrats need further justification for their self selection, I recommend the following.

Nonetheless, innovativeness requires more than mechanistically searching for new routines. In Hamel and Prahalad, it essentially involves forcing the firm to take on more of the characteristics of a market: it must develop the kind of genetic diversity Friedrich Hayek praised. “In nature,” they write, “genetic variety comes from unexpected mutations. The corporate corollary is skunk works, intrapreneurship, spinoffs, and other forms of bottom-up innovation” (Hamel and Prahalad 1994, p. 61). In the end, however, they, like Crozier, realize that the most radical kind of change must come from the top down: it requires a Schumpeterian entrepreneurial vision. “Top management cannot abdicate its responsibility for developing, articulating, and sharing a point of view about the future. What is needed are not just skunk works and intrapreneurs, but senior managers who can escape the orthodoxies of the corporation’s current ‘concept of self’” (Hamel and Prahalad 1994, p. 87). Example? Nicolas Hayek’s “crazy” vision that the Swiss could manufacture cheap watches competitively with the Japanese (pp. 98-99). p. 49

and

Indeed, one might argue that, the farther an innovation is from the ken of existing firms, the more likely it is that the innovation will be instantiated in new organizations. p. 49

It's now 2010 and it feels like, as a result of the bureaucracy, that we will be arguing the same points in 2020. The deliberate nature of building organizations has to consider that we need to build the systems that define and support those organizations first. Without software, there is no change. Without cash, there is no software, and the bureaucracies are not going to fund these developments. And therefore, here we stand.

Whether Schumpeterian entrepreneurship operates from the top of an existing organization or in the creation of new ones, the same conclusion seems unavoidable. The charismatic authority and coherent vision of such entrepreneurship remains an inevitable part of capitalism, however modern. For reasons that have to do with the nature of cognition and with the structure of knowledge in organized society, some essential part of capitalism must always remain personal.

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Langlois Personal Capitalism Part I

In Chapter 3 of Professor Langlois book "The Dynamics of Industrial Capitalism" we look at "Personal Capitalism". In this, and my next post, I want to highlight the role of the entrepreneur in making the changes in the oil and gas industry. The Community of Independent Service Providers (CISP), Industrial Districts (ID), Business Groups (BG) or Small Knowledge Intensive Enterprises (SKIE) being filled with individual entrepreneurs acting in innovative and value generating ways. What becomes clear in this chapter is that the evolutions an industry goes through are usually brought about by unseen changes. I think that the unseen changes that the oil and gas industry will soon be faced with is the prospective decline in deliverability. This may appear to be an industry problem, but I think it is more of a societal issue in that reducing our energy demand will be problematic.

The bureaucracies that are in power today are unwilling to address the overall deliverability issue as theirs. If a producers production profile declines, they see that as a remote possibility and that would qualify as an isolated single event. If there is a potential decline of overall industry production, producers are unwilling to comment on the probability and don't see that as their problem. If unseen dangers lead to changes in an industries makeup, oil and gas might be in for a shake-up.

Nonetheless a decline, if it should occur, will be difficult to stop and impossible to reverse based on the current performance of the oil and gas firms. Five years of static deliverability is an ominous pre-cursor to a potential decline. The passing of these five years would seem to date how far behind the curve we are. With years of software development before we can exploit the Joint Operating Committee as the key organizational construct of the People, Ideas & Objects software application. We have much work to do. This morning the Obama administration have announced a six month moratorium on all offshore drilling. This may be the straw that breaks the Camel's back in terms of the U.S. energy consumption.

If one was willing to bet which group, the bureaucrats or the entrepreneurs will be the ones that solve this deliverability issue, I put my money with the entrepreneurs. Professor Langlois analyses Schumpeter's definition of the term.

The broad outlines of Schumpeter’s theory of entrepreneurship are of Weberian provenance (Carlin 1956). Indeed, one might say that Schumpeter’s schema is an application of Weber’s social theory to the problem of economic growth. Schumpeter’s innovation is to associate Weber’s category of charismatic leadership with the concept of entrepreneurship. p. 32

Weber is principally concerned with the religious leader or prophet, and to a lesser extent with military and political leadership; Schumpeter borrows heavily from that analysis in his characterization of the entrepreneur. Here we begin to see the outlines of Schumpeterian “personal capitalism,” which in its pure form is the antithesis of bureaucratic organization. Consider Weber’s account of the organization of charisma. p. 32

The corporate group which is subject to charismatic authority is based on an emotional form of communal relationship. The administrative staff of the charismatic leader does not consist of “officials”; at least its members are not technically trained. ... There is no hierarchy; the leader merely intervenes in general or in individual cases when he considers the members of his staff inadequate to a task to which they have been entrusted. There is no such thing as a definite sphere of authority and of competence. ... There are no established administrative organs. ... There is no system of formal rules, of abstract legal principles, and hence no process of judicial decision oriented to them. But equally there is no legal wisdom oriented to judicial precedent. Formally concrete judgments are newly created from case to case and are originally regarded as divine judgments and revelations. ... The genuine prophet, like the genuine military leader and every true leader in this sense, preaches, creates, or demands new obligations. In the pure type of charisma, these are imposed on the authority of revolution [sic] by oracles, or of the leader’s own will, and are recognized by the members of the religious, military, or party group because they come from such a source. (Weber 1947, pp. 360-361.) p. 32

Charismatic authority is thus outside the realm of everyday routine and the profane sphere. In this respect it is sharply opposed both to rational, and particularly bureaucratic, authority, and to traditional authority, whether in its patriarchal, patrimonial, or any other form. Both rational and traditional authority are specifically forms of everyday routine control of action; while the charismatic type is the direct antithesis of this. Bureaucratic authority is specifically rational in the sense of being bound to intellectually analysable rules; while charismatic authority is specifically irrational in the sense of being foreign to all rules. Traditional authority is bound to the precedents handed down from the past and to this extent is also oriented to rules. Within the sphere of its claims, charismatic authority repudiates the past, and is in this sense a specifically revolutionary force. (Weber 1947, pp. 361-362.) pp. 32 - 33

It is the charismatic, and therefore revolutionary, quality of entrepreneurship that makes it a source of economic growth, that allows it to play the role of “industrial mutation — if I may use that biological term — that incessantly revolutionizes the industrial structure from within, incessantly destroying the old one, incessantly creating a new one” (Schumpeter 1950 [1976, p. 83], emphasis original). p. 33

Recast in these explicitly Weberian terms, Schumpeter’s theory of entrepreneurship looks something like this. In its undeveloped state, an economy is based largely on traditional behavior, which bounds the possibilities for conscious economic activity. Under the right institutional setting — bourgeois capitalism — charismatic leadership arises, in the form of the entrepreneur, to break the crust of convention and to create new wealth by “‘lead[ing]’ the means of production into new channels” (Schumpeter 1934, p. 89). Charisma is personal and revolutionary; “in its pure form charismatic authority may be said to exist only in the process of originating. It cannot remain stable, but becomes either traditionalized or rationalized, or a combination of both” (Weber 1947, p. 364). In the economic sphere, of course, the tendency is toward rationalization. Not only do imitators rush in once the entrepreneur has blazed the trail, but also the problem of succession within the entrepreneurial organization leads (if the organization is to continue) to bureaucratization, that is, to the substitution of rules for personal authority; to the creation of abstract offices divorced from their individual holders; and to the increasing preeminence of specialized knowledge and spheres of competence (Weber 1947, pp. 330-334). p. 33

Langlois has captured Schumpeter's creative destruction and the business cycle in these quotations. If we agree on the problem that faces oil and gas, the decline in deliverability, it is reasonable to assume that we agree on the entrepreneur being a key to solving the problem. Langlois notes the change that needs to be brought about are initiated by the entrepreneur. Yesterday we discussed how individuals need to approach People, Ideas & Objects with a different mindset. [The cognitive and motivational paradox', the risk of becoming blind sleep-walking agents in the hands of whoever wants to feed us.] This mindset is accurately captured in Langlois discussion of the entrepreneur.

How I see this project developing is through the entrepreneurial efforts of the Community of Independent Service Providers. Each member of the CISP, SKIE, ID or BG would fulfill the role in making the necessary changes within the industry. Each member maybe supported by 5 - 10 support staff that are able to leverage the entrepreneur's talents. These groups would be part of the larger SKIE community that would work together through the enhanced Information Technologies they build with the People, Ideas & Objects software development capability. I think this is the logical and probable makeup of the service sectors of the greater oil and gas industry. What needs to be done today is that these members need to act.

I approach this environment with a sense of self preservation. There is an abundance of work that needs to be done. I have two choices in approaching this work, I can do it all, or I can do none of it. I choose the sane approach and find a role that I am best suited to filling. Raising the money needed for development and the CISP. To involve myself in the actually software development at this point is counter productive, or more probably destructive. My key role to date has been to ensure that the change as defined by the Draft Specification happens.

But — and this is the heart of Schumpeter’s thesis — once the hard work of crust-breaking has been done, charismatic leadership is no longer necessary, and the entrepreneur must ride into the sunset. p. 34

I can be a strong advocate for this software development. I am the one to encourage the investors and shareholders in oil and gas to fund these developments. I am the one who can direct the producers to involve themselves in the various communities working to build these solutions. That is the role that I feel I should fill on a go forward basis.

As we saw, however, Schumpeter’s claims are much different. He associates “personal” capitalism with charismatic leadership. It is the entrepreneur who makes dramatic, and often creatively destructive, changes. In Schumpeter, those who come along and fill in the details are important, but it is the changes that really matter. The obsolescence thesis is a claim not that large, fully articulated enterprises may be necessary to realize the vision of an individual entrepreneur; rather, it is a claim that those enterprises will be the sources of change. Let us put it succinctly. In Chandler, large organizations are the result of economic change; in Schumpeterian later capitalism, economic change is the result of large organizations. p. 36

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Douglas North Chapter 1

Taking a short break from our review of Professor Langlois. I noticed that a new and interesting book has been published. The book is "Understanding the Process of Economic Change" by Nobel Prize winning economist Professor Douglass North. I took the opportunity to download the first chapter and I highly recommend the entire book, however, at this time we will only be covering this first chapter in our review.

If there is one word to summarize what People, Ideas & Objects is about, it's change. Moving from the bureaucracies that control the industry today. To a newer more innovative footing as represented in identifying and supporting the Joint Operating Committee. Brings about a significant scope of change in the oil and gas marketplace. How this change is implemented is of great concern to me. Making sure this process is focused on the new innovative footing, and not on the bureaucracies needs is a difficult dynamic to manage. Specifically we can't be concerned with the day-to-day of the industry. These day-to-day concerns are for the bureaucracy to manage for the time being. We can not be constrained by the difficulties that constrain the bureaucracy. People need to approach this project with fresh thinking that is free to be as it should be. This unfortunately makes my life infinitely more difficult, however, we are close to securing some funding. And that funding will be from the appropriate resource, the oil and gas investors and shareholders. Selling out to the bureaucrats at this point would be very destructive in terms of ensuring that we are not constrained by the bureaucrats.

We have also been mindful of how individuals approach People, Ideas & Objects. Mindful to ensure that there is a strong break from the day-to-day to ensure they don't bring their cognitive and motivational paradoxes with them from their day jobs. These paradox defined in 1998 by Carroll and Rosson were spelled out in an appendix to the Preliminary Research Report and are noted for the following.

The “motivational paradox” arises from the production bias. That is, users lack the time to learn new applications due to the overwhelming concern for through put. Their work is hampered by this lack of learning, and consequently productivity suffers.

The “cognitive paradox” has its root in the assimilation bias. People tend to apply what they already know in coping with new situations, and can be bound by the irrelevant and misleading similarities between the old and new situations. This can prevent people from learning and applying new and more effective solutions.

In the first paragraph North provides us with an understanding of where we are and the significance of the times at which we live.

UNDERSTANDING economic change including everything from the rise of the Western world to the demise of the Soviet Union requires that we cast a net much broader than purely economic change because it is a result of changes (1) in the quantity and quality of human beings; (2) in the stock of human knowledge particularly as applied to the human command over nature; and (3) in the institutional framework that defines the deliberate incentive structure of a society. A complete theory of economic change would therefore integrate theories of demographic, stock of knowledge, and institutional change. We are far from having good theories of any one of these three, much less of the three together, but we are making progress. The central focus of this study, and the key to improving economic performance, is the deliberate effort of human beings to control their environment. Therefore, priority is given here to institutional change, with the consequent incentive implications for demographic and stock of knowledge changes; but there is no implication that such an approach deals adequately with the latter two. p. 1

Clearly we have much to learn in terms of how best to approach the development of these systems. The other day I noted that we risk becoming blind sleep-walking experts in the hands of whoever wants to feed us. (Habermas) And this is reiterated by North. To "improve the economic performance" of the oil and gas industry requires that we deliberately exert effort to control our environment. I believe, if we continue in the fashion of the bureaucracy, that the world oil production will begin a serious decline in deliverability. Then we will realize, that some of the tasks that we need to occupy ourselves with are beyond those that are parsed out by managements budgets. North details the impact that existing constraints can have.

The structure we impose on our lives to reduce uncertainty is an accumulation of prescriptions and proscriptions together with the artifacts that have evolved as a part of this accumulation. The result is a complex mix of formal and informal constraints. These constraints are imbedded in language, physical artifacts, and beliefs that together define the patterns of human interaction. If our focus is narrowly on economics, then our concern is with scarcity and, hence, competition for resources. The structure of constraints we impose to order that competition shapes the way the game is played. Because various kinds of markets (political as well as economic) have different margins at which competition can be played out, the consequence of the structure we impose will be to determine whether the competitive structure induces increasing economic efficiency or stagnation. Thus well-developed property rights that encourage productivity will increase market efficiency. The evolving structure of political and economic markets is the key to explaining performance. pp. 1 - 2

If well developed property rights that encourage productivity will increase market efficiency, I think People, Ideas & Objects achieves the appropriate institution of those rights. Here I am talking about the Intellectual Property (IP) rights of the people that are associated with this project. I as the copyright holder to the ideas expressed here and in the Draft Specification license those participants in this project with unencumbered use of this IP. In turn, the derivative ideas generated in the development of the applications is essentially sold back to me, where in turn they become available to everyone in the community that has signed the license. This maintains the IP in its pristine condition and is available to all that need it. The license also provides members of the Community of Independent Service Providers with the rights to build a service based offering that is associated with the People, Ideas & Objects software applications.

North provides us with an understanding that we need to be ever vigilant in terms of these concerns.

While the uncertainty that pervades our existence may be reduced by the structure we impose, it is not eliminated. The constraints that we impose have, themselves, uncertain outcomes reflecting both our imperfect understanding of our environment and the equally imperfect nature of both the formal rules and the informal mechanisms we use to enforce those constraints. p. 2

I am unsure at this point if there will be a second post on this chapter. I have downloaded a number of Professor North's papers and we will review those for applicable content. I have also set up a "North" label so these posts can eventually be aggregated.

This book is a study about the ceaseless efforts of humans to gain greater control over their lives and in the course of that effort continually confronting new and novel problems to solve. It is a study of the perceptions that induce institutional innovation intended to reduce uncertainty or convert uncertainty into risk. It is also a study of a continually changing human landscape. This landscape poses new challenges, as a consequence of which policies emanating from “non-rational” explanations frequently play a part in the structures we create. p. 2

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Langlois Obsolescence

I am encouraged by the shareholder lawsuit against BP's directors. Each day there appears to be more and more people taking action to deal with these bureaucracies.

Chapter 2 of Professor Richard N. Langlois' book "The Dynamics of Industrial Capitalism"  is entitled "The Obsolescence of the Entrepreneur" and deals with the Schumpterian Dichotomy. That dichotomy is the declining importance of the entrepreneur in the latter part of Schumpeter writings. This appears to be in contrast to his earlier writings in which he focused on the entrepreneur. What this post seeks to better define is Professor Langlois' vanishing hand hypothesis and its application to oil and gas. That is, the era of the large bureaucracy had its time and place. That era is now passing, to be replaced once again by the entrepreneur.

In the "early" Schumpeter -- Schumpeter I -- the innovation process might best be characterized as a linear one. Christopher Freeman (1982) describes it this way. Basic inventions are more or less exogenous to the economic system; their supply is perhaps influenced by market demand in some way, but their genesis lies outside the existing market structure. p. 21

Freeman notes that innovation is under the direction of no one group or individual. Adam Smith's invisible hand is present and the market provides. In this next quotation we see Chandler's visible hand.

“The main differences between Schumpeter II and Schumpeter I,” says Freeman, “are in the incorporation of endogenous scientific and technical activities conducted by large firms... p. 21

These quotations are noting the changes in the source of innovation. From the entrepreneur to the rise of the successful corporate Research & Development (R&D) arms of large firms such as Xerox PARC, Bell Labs and others. These firms R&D activities replaced the role of the entrepreneur during the middle of the last century. Langlois vanishing hand suggest that the role of the entrepreneur will rise again in prominence to the bureaucracy. Therefore it is reasonable to ask, what is the critical role of the entrepreneur?

Indeed, the job of the entrepreneur is precisely to introduce new knowledge. The “Circular Flow of Economic Life” is a state in which knowledge is not changing. Economic growth occurs at the hands of entrepreneurs, who bring into the system knowledge that is qualitatively new – knowledge not contained in the existing economic configuration. p. 27

Its more then just knowledge. Ideas have a critical role in economic growth. People, Ideas & Objects is derivative of Professor Paul Romer's "New Growth Theory" of People, Ideas and Things. The idea of using the Joint Operating Committee as the key organizational construct of the innovative oil and gas industry was in front of everyone in the industry. Why didn't this idea percolate to the top earlier?

There has to be a mechanism by which new knowledge enters the system. And that mechanism cannot be rational calculation, for as David Hume (1978, p. 164) long ago observed, “no kind of reasoning can give rise to a new idea.” p. 27

What has been done already has the sharp-edged reality of all things which we have seen and experienced; the new is only the figment of our imagination. Carrying out a new plan and acting according to a customary one are things as different as making a road and walking along it. p. 27

How different a thing this is becomes clearer if one bears in mind the impossibility of surveying exhaustively all the effects and counter-effects of the projected enterprise. Even as many of them as could in theory be ascertained if one had unlimited time and means must practically remain in the dark. As military action must be taken in a given strategic position even if all the data potentially procurable are not available, so also in economic life action must be taken without working out all the details of what must be done. Here the success of everything depends on intuition, the capacity of seeing things in a way which afterwards proves to be true, even though it cannot be established at the moment, and of grasping the essential fact, discarding the unessential, even though one can give no account of the principles by which this is done. Thorough preparatory work, and special knowledge, breadth of intellectual understanding, talent for logical analysis, may under certain circumstances be sources of failure. (Schumpeter, 1934, p. 85.) pp. 27 - 28

I read this as not being the role of one entrepreneur. I have identified that the Joint Operating Committee is the key organizational construct of an innovative oil and gas producer. I have taken that idea and formulated a vision, the Draft Specification, of how the idea of using the JOC could be incorporated in the day to day of the industry. From this point forward, it is the work of many entrepreneurs to develop the application and make the industry as innovative as possible. That is where the Industrial District (ID), Business Groups (BG), Small Knowledge Intensive Enterprises (SKIE) and Community of Independent Service Providers play a key and different role then what is done today. Langlois notes.

Entrepreneurship – introducing the qualitatively new – is an activity inherently different, it would seem, from the kind of rational calculation portrayed in the imagery of neoclassical modeling.

It is interesting that Schumpeter regards the entrepreneurial act as requiring in fact greater conscious rationality than routine activity (Schumpeter 1934, p. 85). This reemphasizes the empirical nature of his conception of economic knowledge. Routine behavior requires less conscious rationality because it is essentially “preprogrammed” through trial-and-error learning. Notice, of course, that, at least in “early” capitalism, the conscious rationality of the entrepreneur is not adequate to the task of innovation. This is why entrepreneurship requires intuition, the leap of logic. But – and here we get to the heart of the matter – conscious rationality, for Schumpeter, is in fact becoming increasingly adequate to the job of dealing with the radically new.

The more accurately, however, we learn to know the natural and social world, the more perfect our control of facts becomes; and the greater the extent, with time and progressive rationalisation, within which things can be simply calculated, and indeed quickly and reliably calculated, the more the significance of this [entrepreneurial] function decreases. Therefore the importance of the entrepreneurial type must diminish just as the importance of the military commander has already diminished. (Schumpeter, 1934, p. 85, emphasis added.)

Notice the syllogism. Because the unknown can be increasingly calculated rationally, the “extra-logical” function of the entrepreneur becomes increasingly unnecessary, and so the importance of the entrepreneurial type must diminish. p. 28

Placing the caveat "experienced entrepreneur" on the ID, BG, SKIE or CISP is a necessary. People who are able to see the forest for the trees in terms of what has to be done. As much as no one was in control of the innovation in the entrepreneurial era of Schumpeter's first writings, no one can influence the scope and scale of the project defined here. What we can do is share the understanding of how the industry operates, capture that in the software and apply it through the innovative tools that we develop.

We are at the beginning of this process. The bureaucracy remains in complete control. However we find encouragement in the ongoing activities in the industry. In these next three quotations Langlois provides us with an understanding of where we are in the process and how the transition will come about.

"Defenseless fortresses invite aggression, especially if there is rich booty in them. Aggressors will work themselves up into a state of rationalizing hostility -- aggressors always do. No doubt it is possible, for a time, to buy them off. But this last resource [sic] fails as soon as they discover that they can have it all" (Schumpeter 1950 [1976, p. 143]). p. 30

and

“Thus the modern corporation, although the product of the capitalist process, socializes the bourgeois mind; it relentlessly narrows the scope of capitalist motivations; not only that, it will eventually kill its roots” (Schumpeter 1950 [1976, p. 156]). Like Marx, then, he sees capitalism as leading to its own destruction. But unlike Marx, Schumpeter sees capitalism as the victim of its own economic success not its economic failure. This tale stands Marx on his head, its plot laced with a heavy and self satisfied irony. The tone is disinterested and the attitude fatalistic; but the message is largely cautionary. At base, Schumpeter is nothing so much as a neoconservative, perhaps the first neoconservative. p. 30

Lastly a word of caution to put these points in context.

In the end, however, taking all this too seriously puts us in danger of reading Schumpeter literal-mindedly. The force of the argument is in the texture of the landscape -- not in its details. Indeed, there is a sense in which the “Schumpeterian tension” -- the tension between the Schumpeter who comes to praise entrepreneurship and the Schumpeter who comes to bury it -- actually enriches the majestic irony of Capitalism, Socialism, and Democracy. p. 31

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Langlois Progressive Rationalization Part II

In Part II of our review of Professor Richard Langlois book "The Dynamics of Industrial Capitalism", Chapter I "Progressive Rationalization" we discuss the role of capabilities. In People, Ideas & Objects Draft Specification capabilities reside in both the firm and the market, however, the division of labor between the two is different then what exists today. We will also see in this chapter that the multi-unit vertically integrated firm is of diminishing value. How the hierarchical organizational construct was designed to provide control to the means of production and how today, that means of production is best met through dynamic markets.

As Chandler tells us on the first page of The Visible Hand, two characteristics set the managerial corporation apart from earlier modes: (1) it is overseen by salaried professionals rather than by owners, and (2) it comprises multiple units or stages of production each of which could in principle have stood on its own as a separate organization. The last characteristic is really the essential one. In the large corporation, management supersedes the price system as a method of coordinating stages of production. p. 8

Scratch the surface of any start-up oil and gas firm today and you will find the primary owners are the engineers and earth scientists that are running the firm. Using debt for leverage and to expand their scope, these small teams are actively developing a number of oil and gas fields over a five to ten year time frame. When the fields are fully developed, they will monetize their investments by selling the firm to one of the major independents or International Oil Companies (IOC's). This focus on building value is the future of the industry. Although the scope of the projects may not be as large as the multi-billion dollar programs of the IOC's. They are prototypical of how I see People, Ideas & Objects Draft Specification providing all members of the oil and gas industry with the means of value generation through exploration and development.

The future configuration of a producer firm will have a handful of engineers and earth scientists augmented by similar resources from the partner firms of the Joint Operating Committee. These individuals will be joined by the various resources of the dynamic field and service sectors on as required basis. The JOC will implement a comprehensive governance structure through the applications Military Command & Control Metaphor. The scientists and engineers will be leading these groups through the five to ten year development of the oil and gas reserves. Langlois notes;

The question, then, is clear: why did managerial coordination supersede the price system? Why did “managerial capitalism” supersede “market capitalism” in many important sectors of the American economy beginning in the late nineteenth century? p. 9

In breaking down the way that oil and gas firms operate, People, Ideas & Objects is only providing the ERP software that identifies and supports what is desired by those in the industry. The difficulty today is that each producer firm is conflicted and constrained by their own needs. One of the conflicts is that they are focused on their own compliance needs. Focused on the compliance requirements of their tax, royalty and SEC requirements as opposed to the business of the oil and gas business. Companies are also attempting to secure the global scope of capabilities that their firm may require. As a result they may have a greater in-house capability then required at any point. Replicate this over each producer firm and we see independent and mutually exclusive capabilities silo's being built. The industry as a whole can not afford to maintain capabilities in this fashion.  

As each barrel of oil produced requires progressively more earth science and engineering resources, where will the future technical resources come from? With each producer firm attempting to secure all the capabilities they can, they quickly realize the industry wide demand for these capabilities far exceeds the resource base. The capacity to increase the capability is very limited, and therefore the alternative means of deploying a limited capability over a greater scope of projects is through re-organization. Reorganizing to the JOC as the key organizational construct; permits a pooling of the capabilities from all the producers represented in the JOC and the greater service sectors. Langlois helps to define capabilities with the following definitions.

Coase noticed that there can be costs of transacting because of limitations of knowledge and information; capabilities theory insists that limitations of knowledge and information are the key to understanding everything an organization does (Langlois and Foss 1999). Indeed, transacting is just one of the many activities an organization undertakes – one of many activities requiring capabilities (Winter 1988). p. 11

Richardson (1972, p. 888) describes capabilities as “the knowledge, experience, and skills” of the firm. p. 12

Why is there an assumption that the capacities resident in the earth science and engineering resources fixed? To train and deploy them takes the better part of ten years, and the community that exists today have a predetermined retirement date. In other words its not an assumption but a fact that the population of these technical resources will probably remain constant over the foreseeable future. Based on that fact, would it be reasonable to assume, that the industry will produce no more oil and gas over the foreseeable future? That isn't the case, this therefore becomes an economic problem and not a resource constraint.

Economic growth is fundamentally about the emergence of new economic opportunities. The problem of organization is that of bringing existing capabilities to bear on new opportunities or of creating the necessary new capabilities. Thus, one of the principal determinants of the observed form of organization is the character of the opportunity – the innovation – involved. The second critical factor is the existing structure of relevant capabilities, including both the substantive content of those capabilities and the organizational structure under which they are deployed in the economy. p. 13

Innovation in oil and gas will arise as a result of People, Ideas & Objects use of the Joint Operating Committee in the manner as described in the Draft Specification. No other alternatives, that I am aware of, have been suggested. The bureaucracy can not function in today's environment, and are certainly incapable of transforming itself to the future demands of the marketplace.

In highly developed economies, moreover, a wide variety of capabilities is already available for purchase on ordinary markets, in the form of either contract inputs or finished products. When markets are thick and market-supporting institutions plentiful, even systemic change may proceed in large measure through market coordination. At the same time, it may also come to pass that the existing network of capabilities that must be creatively destroyed (at least in part) by entrepreneurial change is not in the hands of decentralized input suppliers but is in fact concentrated in existing large firms. The unavoidable flip-side of seeing firms as possessed of capabilities, and therefore as accretions of habits and routines, is that such firms are quite as susceptible to institutional inertia as is a system of decentralized economic capabilities. Economic change has in many circumstances come from small innovative firms relying on their own capabilities and those available in the market rather than from existing firms with ill-adapted internal capabilities. Chapter 5 will reconstruct the New Economy of the late 20th and early 21st centuries along exactly these lines, once again adding nuance and historical texture. If the antebellum period reflected the Invisible Hand of market coordination, and if the late 19th and early 20th centuries saw the rise of the Visible Hand of managerial coordination, then the New Economy is the era of the Vanishing Hand. p . 14

Management are being unreasonable in expecting that theirs is the only way in which to proceed. Managerial coordination in today's marketplace is redundant. People, Ideas & Objects have received no support from the bureaucracy. As a result there is no competitive form of organization to challenge managements ways. Control of the financial resources of the industry ensures that we are reduced to blind sleep-walking experts in the hands of whoever wants to feed us. (Habermas)

Schumpeter’s account of progressive rationalization takes the form of a contrast between two modes of economic organization, modes roughly cognate to the difference between the small owner-managed firm and the large multi-unit enterprise. Characteristically, however, the issue in Schumpeter is a dynamic one: he is concerned with the respective merits of these two modes of organization not in the static allocation of existing resources but in generation of economic change and growth. The paradox of Schumpeter is that he famously defended, and has come to be associated with, both of these modes as drivers of economic growth. Schumpeter has returned to prominence today as champion of the role of bold entrepreneurs in creating new combinations and redirecting the means of production into new channels, to such an extent that he is revered as an inspiration to the present-day field of entrepreneurship studies (Shane and Venkataraman, 2000). In this (Schumpeterian) literature, the force behind economic growth comes from individuals or small groups of individuals who work mostly outside the established structure of organization rather than from within it. pp. 17 - 18

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Langlois Progressive Rationalization Part I

We now have the opportunity to review Professor Richard N. Langlois book "The Dynamics of Industrial Capitalism: Schumpeter, Chandler, and the New Economy". Written in 2006, this is the book for which Langlois was awarded the 2006 Schumpeter Prize. This first post deals with the first of five chapters and is called "Progressive Rationalization".

One of the areas that we will be concentrating on in this review is the firm. By the firm I mean the oil and gas producer who holds a variety of interests in multiple Joint Operating Committee's (JOC's). These are the firms that own the oil and gas leases, facilities and production. The organizations that have the specialized engineering and earth science talents that are focused on building value through expanding their oil and gas reserves and deliverability. We will continue to focus on the market, particularly with the concepts of Industrial Districts, Small Knowledge Intensive Enterprises, Business Groups or our Community of Independent Service Providers however, I want to balance this discussion across both the firm and markets. To begin, Langlois starts off with an appropriate quotation from Joseph Schumpeter.

As soon as we go into details and inquire into the individual items in which progress was most conspicuous, the trail leads not to the doors of those firms that work under conditions of comparatively free competition but precisely to the doors of the large concerns – which, as in the case of agricultural machinery, also account for much of the progress in the competitive sector – and a shocking suspicion dawns upon us that big business may have had more to do with creating [the modern] standard of life than with keeping it down. (Schumpeter 1950 [1976, p. 82].) p. 2

This statement has certainly been the case in the oil and gas industry. Without the size and scale of the current large International Oil Companies (IOC's) we would not produce the volumes of energy we produce today. To list the number of $1 billion plus projects currently being undertaken in oil and gas is impressive. This is the nature of the industry, and to a large extent it will continue on in this fashion. To drill a well in the Gulf of Mexico may require the market capitalization of $20 billion or greater. So how is it that I reconcile these facts with the abundant criticism that I have tossed in the direction of management and the bureaucracy.

My argument is more about the velocity at which these firm's can move. Their pace is too slow and cumbersome to meet the market demands for energy. Particularly in the very near future. Just because the industry has such large scale and scope does not mean that it has to be slow and pondering. The large IOC was developed in an era that was consistent with the time frame of Professor Schumpeter's quotation, in 1950. That was several generations ago, and although the quotation is still valid today, it does not preclude us from developing innovative forms of economic organization.

Through our review of Langlois' paper on Business Groups. We learned of the "gap filling" that is the discovery mechanism for new and innovative product and services. Filling gaps is the way that people can rely on their entrepreneurial skills to provide the product or service that is needed. We also discovered that the mechanism that is necessary for filling gaps is a strong governance model. And the Draft Specification provides that governance mechanism through the Military Command & Control Metaphor (MCCM). It is through the implementation of the Draft Specification and the MCCM that the large oil and gas firm will be able to continue on with the development of their large projects. However at greater velocity and innovativeness, due to the fact that each one of these projects is a Joint Operating Committee.

Institutions may be the ultimate drivers of economic growth, but organizational change is the proximate cause. As Smith tells us in the first sentence of The Wealth of Nations, what accounts for “the greatest improvement in the productive power of labour” is the continual subdivision of that labor (Smith 1976, I.i.1). Growth in the extent of the market makes it economical to specialize labor to tasks and tools, which increases productivity – and productivity is the real wealth of nations. As the benefits of the resulting increases in per capita output find their way into the pockets of consumers, the extent of the market expands further, leading to additional division of labor – and so on in a self-reinforcing process of organizational change and learning (Young 1928; Richardson 1975). p. 3

I can also legitimately argue that the economic output of the oil and gas industry has stagnated since 2005. Commodity prices have accommodated for the lack of supply growth. As the global economy continues to demand more energy production to fuel its growth, will these large producers have the velocity and innovativeness to provide those markets? If not, who will voluntarily reduce their energy consumption? Although our large firms have the capacity to undertake the scope and scale of large projects, they are failing us by not meeting the demand for energy. Langlois points out that;

Economic growth is about the evolution of a complex structure (Langlois 2001). p. 6

The status quo is failing because there is no evolution from the Chandlerian corporation! The bureaucracy is inefficiently efficient and is poorly designed to meet the demands of the prospective energy consumer. We also know in our advanced organizations, software defines and supports the organization. Therefore to change the organization requires that we change the software first. Management have distorted this knowledge by realizing, if they never changed the software, their domain would never be challenged. Langlois notes this general trend.

History is never kind to historicists, of course; and the facts of the last quarter century have made life uncomfortable for those who would project the Schumpeter-Chandler model into the present. It has become exceedingly clear that the late twentieth (and now early twenty-first) centuries are witnessing a revolution at least as important as, but quite different from, the one Berle and Means decried and Schumpeter and Chandler extolled. Strikingly, the animating principle of this new revolution is precisely an unmaking of the corporate revolution. Rather than seeing the continued dominance of multi-unit firms in which managerial control spans a large number of vertical stages, we are seeing a dramatic increase in vertical specialization — a thoroughgoing “de-verticalization” that is affecting traditional industries as much as the high-tech firms of the late twentieth century. In this respect, the visible hand, understood as managerial coordination of multiple stages of production within a corporate framework, is fading into a ghostly translucence. p. 7

and

Schumpeter and Chandler have given us triumphalist accounts of the rise of the large corporation. But what to do with triumphalist accounts of something no longer triumphant? The menu of intellectual alternatives is short. One could reject the account as having been wrong from the start. One could deny that the large corporation is less successful and superior today than it was in the past. Or, most interestingly, one could attempt to reinterpret Schumpeter and Chandler in a way that preserves the essence of their contributions while placing those contributions in a frame large enough to accommodate both the rise and the (relative) fall of the large managerial enterprise. This last alternative – if done right – has the great advantage of preserving many of the insights of these remarkable and profound authors while at the same time extending our understanding of economic growth and of the economic theory of organization. pp. 7 - 8

People, Ideas & Objects, through our review of Langlois and others, have determined that the Joint Operating Committee is the key organizational construct of the innovative oil and gas producer. It is the legal, financial, operational decision making, communication and cultural framework of the industry. None of the existing ERP vendors even recognize that the JOC exists. Their systems are focused on the compliance to royalty, tax and SEC requirements that have nothing to do with the business of the oil and gas business. Compliance is a fall out as a result of conducting the business. By adopting the Draft Specification People, Ideas & Objects are suggesting that the industry move towards its culture of partnerships. Recognizing those partnerships within the ERP systems and aligning the business and technologies to facilitate velocity and innovation.

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Baldwin's "Option Value"

In a presentation entitled "Unmanageable Designs: What Some Designs Need from the Economy and How They Get It". Professor Carliss Baldwin provides more support for those people who are contemplating becoming a member of the Community of Independent Service Providers.

Harvard Professor Carliss Baldwin is someone that we watch closely here at People, Ideas & Objects. Review of her papers have provided clear direction in the areas of "modularity and thin crossing points", "mirroring hypothesis" and "actionable transparency". We have benefited substantially from these concepts. In this presentation Professor Baldwin brings another substantial concept to this project, "Option Value".

There is a definitive reason that the Draft Specification is eleven modules. Particularly from a software development point of view. Having everything operate as one integrated system with the size and scope of the Draft Specification is probably impossible. The ability to break down the size of the system into modules helps the developers deal with the complexity that larger systems provide. Modularity also allows users to be familiar with a smaller set of application functionality, familiarity that is consistent with their training and skills. For example a person that works in the "land" function will probably rarely leave the Petroleum Lease Marketplace Module.

Modularity is something that Professor Baldwin has spent much of her time on during the past decade. What really brings out the value of modularity is what she calls the "option value". This is particularly important as we have recently been discussing the Industrial Districts (ID), Small Knowledge Intensive Enterprises (SKIE), Business Groups (BG) and Community of Independent Service Providers (CISP). Option value is critical to the performance of this community.

In slide number two Professor Baldwin summarizes her three main points. I want to subsequently address each point in detail.

• Designs need to become real.
• They become real by creating the perception of value.
• Designs act as a financial force.
• Perception of value = incentive to invest
• In making the design = "use value"
• In making the design better = "option value"
• Modular designs with option value.
• Create hurricane type forces
• Will change their economic "space"
• Unmanageable and dangerous (unless you understand them)
  

To her first point, the Draft Specification is real because people can see the value that the specification can provide. The purpose of the specification is to provide a vision of how the industry could operate using the Joint Operating Committee (JOC) as the key organizational construct of the innovative producer. Perception is reality.

Baldwin's second point should note that members of the Community of Independent Service Providers (CISP) have a substantial business opportunity. By joining, these people have the opportunity to develop a service based offering that delivers the People, Ideas & Objects software applications to the innovative producer. They have as their overall objective; "to provide the most profitable means of oil and gas operations". To address the "use value", as we have noted before, we are moving towards the systemic culture of the oil and gas industry, the JOC. By recognizing the JOC we are indeed adopting the culture of how the industry works. Contrast this "use value" to the SAP culture of a manufacturing firm.

And lastly to address the "option value". The power of a modular specification, particularly in software that supports an industries culture, that is backed up by a dedicated software development capability, and most importantly, the producers, CISP and People, Ideas & Objects gaining the option value. This type of design becomes a "hurricane" financial force that will change the oil and gas "space". I can assure you that this hurricane is beginning. If you have an interest in becoming a member of the CISP, I would highly recommend that you begin your research phase today.

The critical element of this hurricane force is the Community of Independent Service Providers. Having the Draft Specification without this community does not generate the value. As Baldwin notes on Slide 23 "Modularity in the absence of option potential is at best a breakeven, at worst an expensive waste of time". This is intuitively the case, Professor Baldwin then asks the important questions.

• What is this elusive property that gives rise to option value?
• Where does it arise?
• Can we measure it?

Answering that first question, what is the "elusive property" Baldwin notes on Slide 29:

• Option value lies in seamless, asynchronous upgrading
• Modeled in design rules.

I have been a strong proponent of asynchronous communications. People, Ideas & Objects adopted a technical vision early on in the design of the Draft Specification. Within that technical vision, a cornerstone of it is what we call Asynchronous Process Management (APM). Today I am stating that the methods that the CISP and user communities interact with the developers of People, Ideas & Objects is in this asynchronous manner. Therefore we have captured that "elusive property that gives rise to option value". The creative and iterative development of the applications and communities.

In terms of measuring option potential. I have selected the following five points from slides 29, 30 and 32 as key to the CISP.

• Successive, improving versions are evidence of option potential being realized over time - after the fact.
• Designers see option potential before the fact.
• What do they see?
• Users - new perceptions => new preferences

• Perceptions of desires emerge through use.
• Value of discovery, direct experience play.
• Unexplored potential = option potential.
• Pfister's Observation (In Baldwin's words)
  
• Recombining modules in new ways has more option value than the modules themselves.

Lastly, Professor Baldwin suggests ways in which we can gain from "option value". These past few months we have been reviewing many of the principles that were used in forming People, Ideas & Objects, Community of Independent Service Providers and the Draft Specification. Whether that is through ID's, SKIE's, BG's, or the CISP I think the value is there and this project is moving forward.

• What do option rich modular designs do to the economy?
• Answer: Attract entry with a promise of lots of $$$
  
• How do you manage something inherently unmanageable?
• At first you don't.
• Then, small footprints yield high ROIC.
• Then, lead firm M & A
  
• Will you always get a modular cluster of firms?
• Yes, almost certainly.
  

And what actions does Professor Baldwin's recommend you should do: (Recall this is a 2005 presentation.)

• Plunge in.
• Get lucky
• Watch out for Microsoft
• Get bought by HP.

Professor Baldwin's research strategy - look for;

• Stable patterns of behavior involving several actors operating within a consistent framework of ex ante incentives and ex post rewards.

My personal opinion of what is valuable today, and this ties in with this project, is ownership or access to Intellectual Property (IP). It's the only asset that provides any long term sustainable value generation. Members of the Community of Independent Service Providers have access to all of the IP that is part of People, Ideas & Objects, the ideal framework of "ex ante incentives and ex post rewards". Management of this IP at People, Ideas & Objects is noted here.

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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Langlois, Economic Institutions Part IV

This will be our last post on Professor Richard Langlois July 2009 paper "Economic Institutions and the Boundaries of the Firm: The Case of Business Groups." Langlois analysis of Business Groups (BG) follows on our review of his work on Industrial Districts (ID's), Professor Carlota Perez' Small Knowledge Intensive Enterprises (SKIE) and People, Ideas & Objects Community of Independent Service Providers (CISP). What ever we may call these "institutions", they all seek to build the "market-supporting" infrastructure of an industry. Although there is a strong service sector supporting the oil and gas industry, it does not have the market-supporting institutions necessary for it to qualify as a BG, SKIE, ID or CISP. What is needed, critically, is an ERP styled software development capability that supports these communities. A capability that supports the innovation that is occurring in these communities. Langlois helps to further define the decentralized nature of the concept that I am referring to: (For the remainder of this post I will use communities to describe ID, SKIE, BG or CISP.)

So far I have talked generally about vertical integration and disintegration, not specifically about business groups. And I have yet to engage the third level of contingent facts, political institutions. I now propose to argue that business groups and political institutions are closely related; indeed, in some of their forms, they are the same thing.

Scholars generally distinguish business groups from more loosely arranged structures like business networks. “When ownership and control are more centralized and organizational subunits enjoy limited autonomy, the commonly used term is business groups. When subunits enjoy more autonomy with respect to ownership, control, and operations, interfirm network is the correct term. In other words, business groups are more centralized and closely held, while interfirm networks are more decentralized and loosely held” (Fruin 2008). Indeed, in some eyes, the “groupness” of a business group is orthogonal to its structure of corporate governance. Mark Granovetter (1995, p. 95) considers business groups to be “collections of firms bound together in some formal and/or informal ways, characterized by an ‘intermediate’ level of binding.” Purely anonymous market relations don't qualify in Granovetters definition; but neither do American-style conglomerates, whose wholly owned divisions have little connection with one another and are but modular pieces on the financial chessboard. But a variety of governance structures, from hierarchical and structured chaebols on the one hand to Marshallian industrial districts (Marshall 1920, IV.x.3) on the other, would qualify as business groups in Granovetter’s sense. p. 21

Therefore, providing a governance model is a necessity for these communities. The Draft Specification implements the Military Command & Control Metaphor (MCCM) to provide a governance structure. Originally conceived to provide a pooling of the resources of each producer within a Joint Operating Committee, the definition was expanded to include the necessary technical resources that can be sourced from the communities as reflected in the Resource Marketplace Module. This enables a JOC to cobble together the necessary people to implement their plans. Each of these people are able to quickly determine theirs and others qualifications in terms of their experience, training and skills. Once assigned their role in completing the tasks, they can also see how others are able to interact within the process. Gaps will begin to show. And the innovative solutions necessary to fill those gaps will begin. Without a global industry wide governance model as contemplated in the Draft Specification, innovation will remain the domain of the bureaucracy.

Explaining the existence of business groups in Granovetter’s sense is arguably easier than explaining the mantle of ownership and governance those groups take on. “Intermediate” linkages are essential to the process of gap-filling. Links among entrepreneurs, whether formal or informal, permit the sharing of information about gaps and encourage the coordination of necessary complements (Kock and Guillén 2001). p. 22

As a result of implementing this governance structure, there is an increased potential of innovation within the community! I am making the connection that the market-supporting institutions the oil and gas industry needs are the MCCM and the Draft Specification.

There may yet be another explanation. Even in developed open-access societies, pyramidal business groups may exist because they play a gap-filling role. In this case, the issue is not vertical integration but governance. In developed economies – which increasingly means one integrated global economy – markets are relatively thick and market-supporting institutions relatively abundant, making it possible to coordinate complementary activities in a decentralized way. But there are still gaps: new products, new processes, new ways of organizing, new profit opportunities to seize. p. 27

The gap's that need to be filled become more obvious as a result of implementing the MCCM governance structure over the community. As gaps are filled, more gaps become noticeable. The capacity to change is highly dependent on the software that these communities will use. If that software is static, then their will be only one iteration of gap filing. What the industry needs to do is to iterate on the earth sciences and engineering disciplines, and innovations based on those sciences.

But even in “developed” economies, novelty and change creates the sorts of gaps that call for business groups, including less-formal sets of “intermediate” relationships, as, for example, in geographic (or, increasingly, “virtual”) industrial districts. In this sense, the economics of organization generally can learn from the literature on business groups outside the developed world. The problem of gap-filling in highly developed economies differs from that in less-developed economies because the path ahead is cloudier, which suggests that more-decentralized organizational structures may be more successful at the cutting-edge of technology. p. 29

In today's energy marketplace we see many examples of how the industry is failing. I believe the expectation that today's oil and gas company can transform themselves into these communities is unreasonable. An expectation that will lead to disappointment. With the debt crisis about to play out across the global economy, I expect those producers that are carrying even reasonable amounts of debt to be severely constrained in the short to mid-term. This during a time when the industry needs to be as innovative as it can just to keep its costs under control. Whether the industry as it stands today will look the same in ten years isn't the point. The point is that we need to enable these types of capabilities within the industry irrespective of the oil and gas companies actions. The industry will need to be built brick-by-brick and stick-by-stick to enable these types of attributes to become the norm. The bureaucracies have chosen not to participate. It's now up to these communities to begin this process by starting with People, Ideas & Objects.

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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McKinsey on Valuing Value

Today we have a short article from McKinsey on valuing value. Entitled "Why value value? -- defending against crisis: Companies, investors and governments must relearn the guiding principles of value creation if they are to defend against future economic crisis." The crisis in the economy is now called a debt crisis and no longer the financial crisis. The financial crisis was a liquidity driven issue and our current debt crisis is a solvency issue. Liquidity can be resolved relatively easily by governments providing cash to the markets, debt crisis' can only be solved with difficult choices and significant hardship one way or another.

An interesting perspective on the current economic situation is provided in this weeks EconTalk podcast by Professor Russ Roberts. Here Professor Roberts breaks down how things became unhinged from an investment point of view. I find the discussion around housing as an investment, Collateral Debt Obligations (CDO's), Synthetics and most of what Wall Street has been involved in as gambling. Nothing is generated out of all these machinations. No new products or services, nothing tangible or worthwhile. It seems to me that Wall Street management have provided leadership to the energy industries management. Leadership in terms of losing sight of what is real.

Discussion of the current economic situation is of importance to the development of People, Ideas & Objects. We can only institute the levels of cultural change within the oil and gas industry through an economic transition that causes the existing bureaucracies to atrophy, and the alternative, as represented in the Draft Specification, is built and grows to replace it. The debt crisis is this mechanism, and we are focused on building value throughout the oil and gas industry.

What I expect will continue to happen is the existing bureaucratic firms will have difficulty in earning "real" income from their operations. Commodity prices are high, and the expectation that they will stay high is supported through the increase in global energy demand and the difficulties in increasing reserves and production. Costs of operations will continue to escalate due to the inability of the bureaucratic culture to build the necessary scientific and engineering capabilities in the time they are required. Throwing more money at the problem will continue to be the only solution that management can provide. The point of making the changes as suggested in People, Ideas & Objects Draft Specification, is to enable the oil and gas producer to focus on generating value. It is the point of generating value that is discussed in this McKinsey paper.

In response to the economic crisis that began in 2007, several serious thinkers have argued that our ideas about market economies must change fundamentally if we are to avoid similar crises in the future. Questioning previously accepted financial theory, they promote a new model, with more explicit regulation governing what companies and investors do, as well as new economic theories. p. 1

One continuous theme that we are finding in our review of Professor Richard Langlois' papers is that markets need "market-supporting" institutions. Leaving the future to unfold as it "should" is consistent with the Lassiez Fairre form of capitalism that brought us here. Now, as represented in the Gulf of Mexico, it could be argued that the inability of BP to shut in the well is a market failure. I would argue that it is a failure of establishing the appropriate market-supporting institutions. I have also argued that software plays a key role in establishing these market-supporting institutions. Software is an enabler or inhibitor to innovation. The current bureaucracies use of SAP has cemented the hierarchies ways and means permanently.

In this next quotation the author intimates that crisis' are created as a result of a miss allocation of capital. This is accurate in the sense that the low costs of money over the past few years has created a lack of discipline in making the right investments. Do we save for the future or buy a bigger house? These types of decisions have been made by consumers and businesses and have led to the situation where everyone is now carrying large debts supported by poorly performing assets. What is the investment capital discipline in the oil and gas industry?

My view, however, is that neither regulation nor new theories will prevent future bubbles or crises. This is because past ones have occurred largely when companies, investors, and governments have forgotten how investments create value, how to measure value properly, or both. The result has been a misunderstanding about which investments are creating real value—a misunderstanding that persists until value-destroying investments have triggered a crisis. p. 1

and

The guiding principle of value creation is that companies create value by using capital they raise from investors to generate future cash flows at rates of return exceeding the cost of capital (the rate investors require as payment). The faster companies can increase their revenues and deploy more capital at attractive rates of return, the more value they create. p. 1

Oil and gas firms have been profitable, many have had record profits. And that would denote they have generated value. However, what about the long term. These record profits have been generated as a result of increased multiples of the commodity prices. These profits have not been effectively invested in expanding reserves or productive capacity. Now that costs are escalating systemically and culturally, as I argue in the review of Professor Langlois, how much longer will value as defined by McKinsey continue to build?

In the Draft Specification, strategy is set by the producer at the Joint Operating Committee level. The producers competitive advantages are structured around their unique asset base and the scientific and engineering capabilities that are made available to them. With these tools the producer firm is able to focus on increasing their reserves and deliverability. Determining the best manufacturing methods to build drill bits do not provide value, and I have suggested that their involvement in owning and operating field level innovations be limited to defining and funding these types of industry capabilities.

Companies can sustain strong growth and high returns on invested capital only if they have a well-defined competitive advantage. This is how competitive advantage, the core concept of business strategy, links to the guiding principle of value creation. p. 2

The oil and gas industry stands at a unique time and place. We recently learned through our review of Professor Alfred D. Chandler that bureaucracies essentially failed during the great depression. We see hierarchies in the global banking system have also failed. Do we need to wait until it is evident to everyone that the energy industries management are failing? High commodity prices have made these companies look like they are functioning properly. However, the excess cash flow has not increased their reserves or production? Knowing what we know about the duration of the commodity price spike, and the logarithmic decline curve, what is the future deliverability of these companies. Understanding the role that energy plays in our lives we need to act before the failures become too obvious.

These principles have stood the test of time. Economist Alfred Marshall spoke about the return on capital relative to the cost of capital in 1890. When managers, boards of directors, and investors have forgotten these simple truths, the consequences have been disastrous. The rise and fall of business conglomerates in the 1970s, hostile takeovers in the United States during the 1980s, the collapse of Japan’s bubble economy in the 1990s, the Southeast Asian crisis in 1998, the dot-com bubble in the early 2000s, and the economic crisis starting in 2007 can all, to some extent, be traced to a misunderstanding or misapplication of these principles. Using them to create value requires an understanding of both the economics of value creation (for instance, how competitive advantage enables some companies to earn higher ROIC than others) and the process of measuring value (for example, how to calculate ROIC from a company’s accounting statements). p. 2

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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