In 1909, a portly German was busy at work in his laboratory. He and his assistant had been at this particular problem for over five years. They sensed that they were close to a breakthrough. The problem was seemingly simple - extract nitrogen from the atmosphere. And nitrogen was one of the most abundant gases in the atmosphere. And yet, this abundant gas had eluded scientists for decades. This was due to the strong bonds that hold nitrogen atoms together.
Frustrated by the lack of progress, the scientist opted for a more novel path. He forced air into a large container under conditions of extreme pressure and temperature. His assistant then added hydrogen to the mix. Under high pressure, nitrogen atoms in the air were forced apart. These then joined with nitrogen to form the familiar compound - ammonia, NH3. While both of them immediately understood the value of this discovery, even they couldn’t have predicted how transformational it would be.
The process was unveiled to the scientific community a few months later with much fanfare. Ammonia’s vast potential as a fertilizer was already well understood. Germany faced chronic food shortages and desperately needed the raw material for fertilizers. The rest as they say is history.
Relatively few people know the scientist today. His name was Fritz Haber. Even though he won a Nobel Prize for his work, he was shunned by the scientific community due to his pro-Germany stance in WW1. And yet, his scientific achievements mirror those of Einstein and Galileo in their significance. Most of us would likely not be alive if he had not made his discovery. Haber process is estimated to have saved a total of over 2.7 Billion human lives. Here is a picture of the guy we are all indebted to:
Now let’s move onto a different subject, economics. Under any economic framework, it can be easily said that Fritz Haber’s discovery created a lot of economic value. It might also be argued that he was able to capture little to none of this value. And yet, in the annals of business history, there are many more like Haber who saw little windfall from their discoveries. Many of these inventors and tinkerers failed to amass riches due to much more direct and conscious choices. These individuals and corporations created vast economic and social value and yet chose to give it away for free. These examples are anathema to standard economic models. To create value and choose to not capture it is not something any rational actor would do. And yet there were many.
Jonas Salk invented the polio vaccine that saved millions of lives. However, he chose to not patent the vaccine as he wanted his discovery to save lives. By his decision, he chose to forego a personal fortune of over $7B. Tim Berners Lee, the creator of the World Wide Web and the first Web Browser, is another example. Not only did he not patent his creation, he actually fought hard in subsequent years to keep the internet open and nonproprietary. There are many companies too who have foregone profit for societal welfare. Volvo discovered the seatbelt but realized its life-saving potential and chose to give away the patent for it. Companies like GitHub and Stack Overflow have long focused solely on value creation and saving developers time versus focusing on monetization. GitHub alone is estimated to have saved corporations hundreds of billions of dollars of economic value by improving developer productivity. And yet, the company actually did less than ~$300M in revenues before it was acquired by Microsoft in 2016.
A lot of public companies today exceedingly focus primarily on value capture. Armed with an army of consultants, they draw up business plans and make plans for how their financials might look once they get to 5-10% market share. This is especially true for industries like banking, insurance and pharmaceuticals - 3 industries that are heavily regulated. Consider this graph for the life insurance industry in Germany:
While this is probably an extreme, consider what this really means. Over the past decade, the buyer of a life insurance product in Germany failed to ever get half his money’s worth. For what is basically a relatively vanilla savings/retirement product. The great irony here is that all of us will at some point in our lives be customers, distributors, shareholders and/or employees. How we feel about that economic split will then be dictated by where we are in our lives.
If egalitarianism and reducing inequality was a societal objective, it is likely better if the proportion of value captured by customers and employees is higher than the graph above. What can be said with more certainty is that society would definitely be better if the overall pie expanded significantly. For instance, an innovation like Vanguard’s index fund which made the entire investing industry more competitive. And if the pie keeps expanding, the share of economic value captured will naturally rise too.
Unlocking new economic value is one area where technology companies generally perform much better than incumbents. A lot of startups aren’t just highly valued because they have fancy technology stacks. Rather, it is their attempt to re-imagine the value chain that makes them so excitable to investors and customers.
Take Uber and Airbnb - two darlings of Silicon Valley for the past decade. What is unique about them isn’t the marketplace business model. While that is interesting, bazaars have predated the internet. What makes them unique is how these platforms enable utilization of previously unproductive assets. Thus, by allowing people to rent out their cars and homes, they are unlocking new economic value. And remember - 80% of what Uber ‘earns’ it pays out directly to drivers. Airbnb only takes a 10% cut from its hosts. Forget the debate around valuations and realize that Airbnb has 600,000 hosts and Uber has 4million+ drivers. While debates around valuation can wait until another time, there is no doubt that these platforms have re-jigged the value equation.
And for now, the value such platforms create is an order of magnitude 10x greater than what they capture. And that is something we all should all aim for. Just like Haber, Salk and many others in the past have done.
To receive more posts like this, sign up for our newsletter!