Buying tech skills through acquisitions too often causes value destruction.
The Wall Street Journal in December 2018 argued that “every company is now a tech company” and called on established organisations to add “technical co-founders” – a view that, if correct, reinforces the threat of digital disruption and its implications for boards.
Large, mature companies often respond to this threat through acquisitions of entrepreneurial firms. They buy tech start-ups for their management, software engineers and organisation skills. But many acquisitions are disastrous because of culture clashes between large and small firms that have different risk appetites and speeds.
The WSJ cited research by J. Daniel Kim, a PhD candidate at the Massachusetts Institute of Technology (MIT) who studied 4,500 high-tech start-ups that had 400,000 workers, from 1995 to 2011. Kim found that within three years of the acquisition, 60 per cent of the employees from the acquired start-up had left, despite equity incentives to stay and non-compete clauses.
The turnover of start-up employees ‘acqui-hired’ (hired through acquisition) by a large firm was almost double the norm. Kim’s research suggests mature companies cannot upgrade their tech skills through quick acquisitions because many staff of tech start-ups – the firm’s key assets – leave within a few years after the acquisition.
The only sustainable solution is to integrate entrepreneurial tech staff into leadership positions in large organisations, a process that author and former Cisco CEO John
Chambers describes as “spinning in”. His rule at Cisco was for at least a third of the firm’s leaders to be recruited from outside, a third from acquisitions and a third from inside the organisation.
Few, if any, Australian boards follow this approach with their oversight of executive succession planning. The rate of internal CEO appointments at Australian companies hit an all-time high in 2016, according to a PwC study of CEO succession. Companies preferred internal over external CEO appointments and the research found internal hires delivered better returns over time.
Moreover, Australia, like other developed nations, has a history of large companies acquiring tech start-ups and destroying value. Not all acquisitions end like this, but there are many stories of culture clashes between entrepreneurial tech start-ups and conservative large organisations, and value being destroyed because of staff integration problems.
These are important issues for boards grappling with the opportunities and threats of digital disruption. Organisations that make most senior tech appointments internally could miss out on valuable tech skills, experience and networks developed elsewhere.
But if the organisation seeks board approval to acquire these skills through tech start-ups, value could be destroyed if the firm’s key people leave. Boards need to know that the start-ups’ top people can be integrated into the larger firm’s leadership team and become “tech co-founders”.
That, too, poses problems. Some organisation cultures stubbornly resist change or take years to achieve it. As global business becomes more volatile, uncertainty, complex and ambiguous, organisation cultures need to adapt quickly to the digitisation of business.
The pace of technological change could encourage companies to favour external over internal appointments, as Chambers suggests, and challenge board succession-planning processes.
Professor Paul Kerin, of the University of Adelaide’s School of Economics, made a similar point in the Governance Leadership Centre in November: “As companies experience faster industry change, the value of firm-specific and industry-specific experience, in theory, falls and the value of external candidates rises. I suspect more companies will appoint external CEOs in coming years because they need new skills and perspectives that internal managers cannot provide.”
The same may be true of tech skills: companies favouring a far higher proportion of external-to-internal hires. And boards wanting to know how succession planning, and organisation culture, is responding to digitisation.
Alison Gaines FAICD, global CEO of Gerard Daniels, an in-demand search firm and board consultancy, says boards she deals with are focused on their organisation’s technology capabilities. “Technology is a priority issue for many boards and not just related to enabling strategy,” she says. “Directors must know the organisation can manage cybersecurity, privacy and other tech risks.”
Gaines says large companies in the business-to-consumer space, such as a bank, insurer or university, want someone on the board who understands the power of data analytics to drive the next generation of strategy. “They also need directors who understand digital technology and product and service delivery through modern online platforms.”
Here are 10 technology governance issues for boards to consider in 2019:
1. Board’s role
Boards need sufficient tech skills to understand how technology is affecting organisation strategy and risks, ask the right questions of management and oversee governance of large tech projects. But technology, like other operational issues, is fundamentally a management task. The board’s job is to ensure the organisation has the right structures, people and processes to manage digital disruption threats and opportunities, without blurring lines with management.
2. Board composition
Several ASX 200 boards this decade have appointed directors with technology expertise, mindful that this is an issue for all directors, not only specialists. But if “every company is a tech company”, boards will question if they have enough directors who can challenge management on artificial intelligence, automation and other fast-moving tech issues.
3. Board skills - part one
Many ASX 50 companies have organised trips to Silicon Valley or other innovation clusters for their boards, and presentations from leading technology experts and futurists. Or encouraged their directors to take short courses on technology issues.
Gaines believes technology skills will be a bigger part of board-organised professional development issues in 2019. “I suspect more companies in 2019 will ask if their directors are building tech insights fast enough and how they can align this to the professional-development programs for boards,” she says.
4. Board skills - part two
Rapid changes in technologies will force large organisations to invest more in their information systems and require board approval.
Gaines says boards must ensure they have directors with technology-project governance experience. “You don’t hear much talk about this issue, but boards are being asked to approve tech investment that could be tens or hundreds of millions of dollars, and the investment cost and project outcomes can be the difference between successful and unsuccessful organisations.”
5. CEO recruitment
Ensuring a new CEO leads the organisation through rapid digital transformation, using technology to seize opportunities and manage risks, will be a bigger issue for boards in 2019, says Gaines. “Technology skills continue to be elevated in the CEO selection process. Boards need to know the CEO is capable of steering the organisation in this era of digital disruption.”
6. Executive team structure
Gaines believes executive teams of large organisations will expand to include newer roles such as Chief Digital Officer or Chief Data Officer (CDO). “Boards will want to know the executive team has sufficient capability in technology and digital leaders who could step up to CEO one day.”
Tech industry researcher Gartner in 2016 predicted 90 per cent of large organisations will have a CDO by 2020.
7. Chief Risk Officer/Chief Compliance Officer
Gaines expects continued strong growth in demand for Chief Risk and Chief Compliance officers after the Financial Services Royal Commission. “Boards must be satisfied the organisation has senior people who can oversee risk and compliance as technology disrupts markets. As new technology and data is added to business, digital risks around data collection, security and privacy are becoming a bigger consideration for boards in their risk-oversight function.”
8. Human capital
Boards will spend more time with the organisation’s human resources executive in 2019 on its technological capabilities and succession planning, says Gaines. “There will be greater focus from boards on whether the organisation has the right tech capabilities now and in the future; and succession-planning strategies to develop tech talent internally or acquire it. Organisations risk not having enough skills in data analytics or cybersecurity when demand for people with these skills is high and supply is tight.”
9. Organisation culture
Boards will consider whether their organisation’s employment brand sufficiently attracts and retains technology talent and is capable of integrating staff who join through tech acquisitions into leadership positions. “Any organisation that relies heavily on technology must consider its appeal to millennials (22-37 years old),” says Gaines. “Boards need to know their organisation is an attractive place for young people to work.”
Boards need a considered approach to the alignment of organisation strategy, risk-management and culture with technology and to be wary of tech hype. For all the talk about automation destroying millions of jobs, there is no evidence yet.
“Boards are right to ask whether all this talk about technology threats has been over-egged by consultants and it has boxed companies into corners about the need to invest in technology,” says Gaines. “Directors should be sceptical, but I agree that every company is now a tech company in one way or another. Boards I deal with understand the urgency of digital disruption and are taking more steps each year to ensure their organisation has the right structures, people and processes to deal with technological change.”
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