In the last post (Part I), we reviewed six lessons from established companies that can sustain innovation and harvest its promises in terms of increased profitability and market growth. While these lessons apply to firms of all sizes, untapped growth opportunities are possible when applied to medium-sized Latin American firms.
This post (Part II) first considers how medium-sized Latin American firms can leverage the ongoing start-up revolution happening across Latin America, to retain their vitality in the existing markets and/or enter new ones with new emerging technologies.
Second, this post considers those medium-sized firms across Latin America founded in the 1980s and 1990s that have reached annual revenues between US$5MM and $50MM. These firms are likely to have leadership teams with average ages in the 50s and 60s. Their founding coincides with the opening of Latin American economies following the so-called “Washington Consensus” and all that it implied: increased levels of deregulation, liberalization and privatization of state owned enterprises. These firms face unique challenges today. While they often benefited from market opacity and asymmetries of information, they now face growing transparency. Ironically, free trade promoted by the Washington Consensus has led to the entry of new, global competitors. For example, few have been spared from China’s ascendance as a fierce competitor and top trading partner across Latin America.
Mid-sized firms in Latin America, despite their remarkable achievements in the face of adverse and hostile circumstances, face significant challenges today. Their technologies are aging, their management would prefer to operate on auto-pilot, their competitive advantages are eroding, and their customer loyalty is wearing thin as customers demand next generation products and services to achieve the increased productivity promised by emerging technologies.
These firms devote their R&D budgets to making incremental improvements to their current offerings and supporting their legacy clients. As a result, these firms rarely have sufficient resources available for internal experimentation in disruptive technologies or considering new business models. This presents a great opportunity to leverage the ongoing start-up revolution happening across Latin America.
The real question is whether mid-sized Latin American firms can be successful at both (a) executing their current business models with existing products while simultaneously (b) inventing new and disruptive businesses to address the emerging needs of customers with new products/services based on new technologies?
These firms are unlikely to develop both activities within the same organizational structure. The first task is optimized to manage known knowledge, which requires executing and incrementally improving current operations in a known environment, a solid understanding of the customer base and well-understood technology/products. The second entails managing unknown-knowledge, which requires experimenting, dealing with extraordinary levels of uncertainty, learning fast and coping with failure and dead ends, and pivoting as many times as required.
How do we organize these firms so that new and innovative developments can take form simultaneously? Large firms will often have their own venture capital arm (e.g., Intel Capital and Google Ventures) to make strategic bets in young start-ups through minority equity positions. These investments have a “double bottom line:” (i) it should make financial sense in terms of valuation and anticipated IRR and (ii) it should be a strategic fit for the firm.
This model could be easily adapted to the mid-sized Latin firms. Instead of staking out minority equity share participation in new ventures, these firms can provide in-kind contributions. These firms can act as “incubators” for selected local start-ups and offer them support in areas where the firm has underutilized capacity across its many functions including finance, accounting, marketing and legal. The hypothesis I’m asserting is that, given the right incentives, these firms could support and incubate a nascent start-up by leveraging its departments while simultaneously giving them access to new initial customers, access to pilots, access to technological infrastructure, and even new markets.
This is easier said than done! There are many barriers to implementing this model. Some of the restrictions are objective while others are cultural and subjective. Managing these young start-ups being incubated within an established mid-sized firm will require adjusting its operating culture, performance metrics and priorities.
While this incubation poses objective management challenges, devising clear policies properly communicated and followed through could enhance the chances of achieving a successful outcome. However, some changes that do not fit prevailing Latin culture could be more problematic to implement. Several of the key changes are identified below:
NOT YET ALIGNED WITH THE LATIN CULTURE
|Minority vs. majority participation of the mid-sized firm in the young start-up||Negotiating the best possible terms in terms of percentage ownership. “The more the better.”The higher percentage of ownership increases the risk that the acquired start-up’s entrepreneurs/founders will transition from owner to employees.||Taking a 15% to 25% ownership leaving the majority of the ownership and consequentially the majority of the potential upside in the hands of the founders/entrepreneurs. This does not preclude the larger firm acquiring the start-up at a later stage, once the products or services are proven and its market developed. However, by then most of the value created will be in the hands of the entrepreneurs as a reward for their innovations and risk capitalized.|
|Managing a minority stake||Start-up is neglected with minimum value added contributions. Not tuned into the company operations and synergies exploited.“Since I don’t own it, it can’t be interesting”||Leverage firm resources to the benefit of the start-up. View the company being incubated as part of the brilliant future of the mid-sized firm.|
|Managing the possible failure of the start-up being incubated||Start-ups are riskier and present considerably higher probability of failure. Since failure is culturally unacceptable, maintain distance. Any failure will be attributed to the founders/entrepreneurs, labeling them as losers!||Embrace failure as a learning opportunity. Realization that the risk of doing business-as-usual represents even a higher long-term risk.The future will happen and the incumbents will be seriously threatened.|
|If the start-up is successful, could it integrate retaining its dynamic youth?||If the technology and/or the market pilot is successful, the mid-sized firm will attempt to harvest the benefits immediately creating resentment from the founding team and potential departures and know-how lost.||Nurture the growth of the start-up new technology base to deliver a series of products/services. If new market access is provided due to the start-up, develop this new segment to become a dominant force. Speed and customer satisfaction is more important than the % of ownership.|
The Mid-Sized Latin American Firm in the Global Marketplace
These firms do not operate in a vacuum. In fact, mid-sized Latin American firms are being subjected to increased pressure to innovate and compete in the global marketplace. As technology cycles shorten, the arrival of global competitors accelerates and more attention is focused on BRIC countries (Brazil, Russia, India and China). The “B” from Brazil has had a spillover effect to Latin America. Today, the developed world struggles to reach an “unthinkable” 3% GDP growth while many Latin American countries are sporting growth well over 3% and as much as 6% per year.
Mid-sized Latin American firms need to insure the present by flawlessly executing their current lines of business. However, their futures will be assured only by their ability to perform limited experiments and accept controlled failures as the cost of doing business. The key will be for these firms to fail quickly and cheaply as they compete in the global marketplace! Can the start-ups sprouting across Latin America become engines of innovation and growth for these established mid-sized firms? Will the mid-sized firms adapt to selected start-ups and incubate them by sharing their knowledge, client base and infrastructure to pilot new technologies with their existing customer base and/or address a new market segment?
What do you think?
Until my next blog-post – Carlos B.
 LatAm Technology: The Startup Revolution, by Alternative Latin Investor. http://www.alternativelatininvestor.com/365/emerging-markets/latam-startups.html