#3 — October 25, 2023
The automotive industry has been an important capital creation system for well over a century. It produces about 60 million vehicles per year and directly employs about 4 million people. As one the world’s largest industries, it plays in the premier league of capital creation.
In this newsletter, we examine how innovation in an industry’s capital creation recipe can have massive impacts on market share. This dynamism results in better products and lower prices. In this multi-part newsletter, we trace progress from Ford to BYD.
- A capital creation system recipe is dynamic
- Business model innovation can profoundly change market share
Any customer can have a car painted any color that he wants so long as it is black
Following the introduction of the Model T, Ford had a decade of market supremacy and massive profitability. His success was based on continually reducing the price of a mass-produced, unchanging, single model. Over nearly 19 years, 15 million Model T cars were sold. However, his pioneering production systems were quickly copied. He dismantled his administrative systems (organisational capital) in 1920, and there was minimal infrastructure for testing Ford cars and engines (organisational capital). Ford sales peaked in 1923 at around 60% while GM was about 12%. By 1927 Ford had lost its market pre-eminence to GM.
Ford focused on economies of scale to drive down costs. The construction of the massive River Rouge complex (economic capital), beginning and 1907 and completed 11 years later, typifies Ford’s emphasis on creating economic capital by building the world’s largest integrated factory employing over 100,000. His recipe worked exceptionally well until Sloan identified another essential ingredient.
|Alfred P. Sloan|
CEO of General Motors Corporation
A car for every purse and purpose
Take my assets – but leave me my organisation and in five years I’ll have it all back
In mid-1921, Sloan recommended that GM “…should produce a line of cars in each price area, from the lowest price up to one for a strictly high-grade quantity-production car …”. This differentiating strategy required multiple innovations, which set GM apart from all other manufacturers. Ford steadfastly refused to imitate GM’s diversified product offering.
As a firm grows, coordination, control, and communication issues stretch managers beyond their capabilities and domain knowledge. Sloan instituted a multi-divisional corporation, an innovation for reducing managerial complexity. He also increased formalisation, such as written policy justifications, and involved divisional managers in decision-making. The GM Research Corporation supported innovation and the development and testing of new vehicles. These organisational capital creation actions resulted in better products to match different needs. They were a key contributor to GM’s success over Ford.
Sloan added organisational capital to economic capital to create a more successful recipe for the automotive industry. GM went from 12% market share to market leader and continues to outsell Ford.
Founder of Toyota Industries
Workers are (the) treasure of the factory. They are important to me
Toyota offers workers lifetime employment in exchange for complete commitment and absolute loyalty to Toyota. Management and labour cooperate closely in a creative environment. Employees work in teams, and they are cross-trained. Lifetime employment means that educating human capital is a long-term investment.
The goal is to maximize the utilisation of human resources to raise product quality and productivity, lower turnover, and reduce absenteeism. In addition, the Toyota Production System (TPS) (organisational capital), emphasising lean management and flexible manufacturing, was influenced by Toyoda’s observation of excessive waste and inflexible manufacturing processes at Ford’s River Rouge plant. Toyota demonstrated that advanced organisational capital, such as TPS, was a necessity. Sloan has shown the value of investing in organisational capital, and Toyota took this innovation to another level.
The quality and price of Toyota’s auto imports into the US market inflicted lasting wounds on Detroit. In 1970, Ford and GM had 70% of the US auto market and by 2020 were down to 30%. Toyota is the world’s largest automotive manufacturer, but it seems poorly prepared for the EV transition.
Toyota added human capital to the auto industry’s recipe. It forced the entire industry to recognize that profitability required continuous investment in human capital.
Comments and conversations are welcome.