If Charles Dickens was alive today, he might have described digital transformation thusly: “It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness.”
Pat Bakey, president of industries at SAP, flies around the world meeting with executives to talk about their greatest challenge. His insights and words about digital transformation echo Dickens’.
“There are two types of disruption,” he says. “When innovation attacks your fundamental business model, there’s either an ‘ah-ha’ moment or an ‘oh-no’ moment.”
For companies entering the new digital reality, this truly is a tale of two cities. Only 3 percent of companies have gone enterprise-wide with digital transformation, while the vast majority falls further behind, according to an SAP study.
Companies in the best of times show real gains in practically every facet of their business: 23 percent expect more revenue growth from digital transformation over the next two years, 80 percent report higher profitability, 70 percent have seen significant or transformational value in customer satisfaction and engagement.
Conversely, companies in the worst of times watch helpless as their businesses erode. Some may face outright extinction. The business landscape is riddled with former giants slayed by digital newcomers. Since 2002, more than half of Fortune 500 companies have fallen off the coveted list because of digital disruption.
The fate awaiting companies unable to make the digital pivot isn’t just hyperbole. Not this time. “For those that get replaced, it’s doomsday,” Bakey says. “It’s probably more accurate than it’s ever been, this disruptive nature of business.”
We sat down with Bakey to get his take on digital transformation and how companies must focus on speed and agility. He offers insights on the differences between companies in the best of times and the worst of times. The following is an edited transcript of the interview.
Digital transformation, where do we begin? Let’s start with a definition.
Bakey: Digital transformation is understanding how the nature of work is going to get done in your business and industry. It's understanding how business processes and activities will fundamentally change based on available technology. Is my business model going to change? It’s not defining the business by the industry but by the business model. This is what’s taking many companies into completely new industries.
Digital transformation is also the ability to follow the customer more closely than ever. Retailers, apparel and footwear manufacturers are moving from a product centric view to now understanding the customer based on their profile and building a better product or delivering a better service.
You see this happening with Under Armor, Adidas, Nike. For instance, Nike is able to use Internet of Things to understand the use of their products and services and thereby build more configurable customer-centric experiences.
Why is this happening now?
Bakey: There's a fundamental shift, a logarithmic reduction in the affordability of technology. Take a look at what's going on with robotics, chips, databases. It's dramatically being reduced. When that happens, the economic viability of applying these technologies to business scenarios becomes quite pervasive.
In our space, artificial intelligence, machine learning, and predictive analytics are reaching a level of maturity. These technologies require a certain size of datasets to become more valuable, smarter, more insightful. In the automotive industry, look at the cost of battery storage. In biotech, human genome sequencing for the masses.
These forces are coming together and unleashing business opportunities that executives now are acting on. The challenge is, how do I create investment capital, investment resources to pursue that while I still run the business I'm in today.
Is there a moment when companies realize they must act?
Bakey: Every single industry, every single sub-industry is going through some form of disruption. We refer to it as velocities of wind. Within the next two to three years, every industry will be in the hurricane-type of environment. Clearly, there are those in the hurricane right now: any industry close to the customer, such as retail and banking, and any industry that has already gone through an analog to digital step, such as telecommunications and media.
(Editor’s note: Bakey used this metaphor last week before Hurricane Harvey made landfall in Texas.)
When innovation attacks your fundamental business model, there’s either an “ah-ha” moment or an “oh-no” moment.
What, exactly, is the “ah-ha” moment?
Bakey: The “ah-ha” moment is when you recognize an explosive, disruptive technology as a threat to your business model or that can be applied to modify your business model.
The insurance industry is a pretty good example. It has been experimenting with different types of digital transformation technologies around customer engagement. They've reached a point where leveraging these disparate digital technologies allows them to have a different view of their customers. Because it's more granular, they can reassess what's fundamental to that industry – the nature of risk.
They can now start looking at different business models, different services, different offers. That's the kind of explosive disruption and “ah-ha” moment when the scalability of a technology reaches a point where it can change your business model.
In the mill and mining industry, Komatsu recognized massive compression with commodity prices on profitability. People weren't buying trucks; sales pipelines stalled; and they’re not making the quarter. What to do? Well, Komatsu decided to address customers that need to extract ore but can't afford the CAPEX. They became a services company by using their capital to pull out ore and then charging by the tonnage.
Sometimes the “ah-ha” moment is the trigger. I think smart leaders recognize when they have an “ah-ha” opportunity and seize the moment.
And the “oh-no” moment?
Bakey: The “oh-no” moment happens in a compressed environment: A company knows what’s happening but hasn't found the resources to address it at scale, and now needs to move. I'd probably say that that's the majority of the cases.
A compressive type of disruption happens over a period of 10, 20, 30 years where your profit margins are compressed by the nature of the business you're in. You no longer have enough investment dollars or investment resources or investment of human capital to invest in new business. Then a new entrant comes in and shakes things up.
An SAP study found that only 3 percent of companies have gone enterprise-wide with digital transformation. Where is the sense of urgency?
Bakey: Speed in business is at a pace I've never seen before. Not just in ideation but in business experimentation, in business prototyping. I definitely see, in the last 24 months, a profound shift in the speed from ideation to deployment of many new business ideas and concepts.
It's rare to find executives in the C-suite of any industry who aren't aware of what's happening. There's strong technical and intellectual horsepower in the C-suite around these topics. Nobody is asleep at the switch, but for some reasons some companies and industries are applying and executing faster than others.
What sets the 3 percent apart?
Bakey: Everybody understands that digital transformation has no end game. It is a constant journey of discovery, application, innovation. For the 3 percent, a disruptive event probably forced them to move from recognizing the challenges and opportunities to operationalizing their strategies. They’re realizing results from those investments.
It’s tough to say one size fits all, but I think one of the common threads of the 3 percent is that they're in industries that are being radically disruptive, their business models are under attack, and they've taken decisive action. They have management attention and addressed the investment criteria of financial capital, human capital and leadership time. They also are investing in the skillsets of their people.
Sounds like a massive cultural change.
Bakey: Absolutely it's cultural. But what's the cultural change? It's cycle time. We've blown past that generational curve where human beings actually have the capacity to understand and react to the change around them. Now change is happening much faster than human beings can react. That's why you see this proliferation of AI and machine learning assisting humans to deal with the pace of change.
It’s a social shift finding its way into business culture.
Take SAP, for example, the leader in business applications for 40 years. There's a fundamental shift from delivering a business model based on perpetual licenses and innovation cycles to the device cycles in the cloud that need to be weekly, monthly, quarterly. We've shifted our investments, skillsets and resources to the cloud. The cultural change needs to start at the top and be pervasive throughout the organization. It needs to be persistently managed and lived.
How can companies overcome these barriers?
Bakey: We see companies, large and small, faced with two challenges today. One is, how do I survive in the business and industry that I'm in today? How do I continue to win at my core business while recognizing that the core will get marginalized over time? The other is, how do I invest in the new?
That is a strategic imperative, and it's just really hard. For public companies especially, they’re delivering quarterly and dealing with tough global conditions. Every ounce of their resources seems to go into this business.
The strategies that I see emerging are companies trying to revitalize the core. They’re driving costs through efficiencies in their core to create the investment profile to fund the new. At SAP, a lot of our innovation delivered through the cloud, our agile line-of-business applications, HANA and our cloud platform, we're there to help drive cost out.
A big part of what my organization does is spend time talking with customers. Twelve months ago, we stood up executive digital exchanges – a gravitational center for executives both in the strategic side and operations side from different industries coming together and discussing what you and I just spent thirty minutes talking about.
Look at Blockchain, for example. If you just apply Blockchain to the intermediary aspects in financial services – a very small part of the total opportunity of Blockchain – you’re going to pull 12 billion of productivity. That is a step change in the cost structure of an industry. That's where we are right now.
Tom Kaneshige writes the Zero One blog covering digital transformation, AI, marketing tech and the Internet of Things for line-of-business executives. He is based in Silicon Valley. You can reach him at [email protected].