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Oct 07, 2011

Thinking of value-add in a way that guarantees future of sustainability

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The world was once run on three big economic engines: Europe, North America and Japan. These engines of growth are slowing down but three or four or five new engines have come onto the scene with youthful vitality: India, Brazil, Turkey, China and so on. The resource hunger of these countries will exert new demands on commodities, energy and finance.

The growth of these countries has implications for all of us as we simultaneously watch a new world unfold before us. How these demands will be met is a matter of speculation, but what we know is that, if you have five or six large economic engines running all at the same time, resource demands will be stretched beyond current capacity.

Since 1900, according to a BP World Energy Outlook report, real income has grown by a factor of 25 and energy demand by a factor of 22.5. But most of this growth was in the last 20 years. For instance, real income grew by 87% in the last two years.
At the current rate of population growth (which is slowing down), developing and emerging economies’ real income is projected to grow by 100% in the next 20 years. Increased income has a strong correlation with increased consumption.

To continue with the BP analysis – world primary energy consumption grew by 45% in last 20 years and is projected to grow by 39% in the next 20 years. By 2030, non-Organisation for Economic Coop- eration and Development growth in energy consumption will be 68% higher, averaging about 2.6% a year.

Between 1990 and 2010, fossil fuels contributed 83% to the growth in energy supply. However, in the next 20 years, fossil fuels will contribute 64% of this growth and nonfossil fuels 36%, of which renewables will account for 18% by 2030.
One can add a similar picture of demand surge for food, metals and so on.

Clearly, for both countries and corporations, it cannot be business as usual. This demand can only be met by either increasing supply, making production more efficient or through technological innovation.

In the meantime, the surge in demand has generated supply scarcity and vola- tility problems. The prediction is that conditions for opening up more supply chains are not going to be as rapid as the pace of demand.
Even in the capital markets, toxic debt has thrown out predictable trends in the financial markets. Uncertainty in both resource availability in the capital markets and in currency values makes planning a challenge.
Value-add itself loses its firm moorings of predictable measures for containing costs. We are now in a situation where a multiplicity of resource constraints and price volatility trends interact in ways that only heighten systemic risk to economies and require new approaches to dealing with risks that are often beyond the control of a firm or a nation, a case in point being the scarcity of oil in conjunction with the currency weakness. These manifest themselves through food inflation as a result of the increases in transport costs and oil-based inputs costs. If we were to think of this as value-add for the economy, it would simply mean that all the value of gross domestic product growth output is eroded by the countergrowth in inflation and costs of imports.

Countries are facing constraints and trends not experienced before for a very long time. Countries are responding to these pressures in different ways. Those that are better resourced are seeking to lock long-term contracts or build inventories in critical resources, all of which merely compound the problem rather than resolve it.

Why has value-add become so important? Firms and countries are judged by their output but a better way is to judge them by their value-add. Value-add, in simple terms, means the value of outputs minus the cost of inputs. Traditionally, the focus was primarily on capital deployment (cost of capital) and labour. Value-add quickly has to shift from a supply cost issue to a demandside cost issue as well. Value-add is generated at every step of the production chain – right up to sales – that is, the value added in each step and the price at which the product or service is sold.

Indeed, Unilever has already recog- nised this challenge. The corporation’s new CEO threw a stretch challenge to his team last year: to double the output of Unilever products within the next 20 years but remain within its current resource consumption footprint.

With large firms, the integration of this new type of value-add has a long range and focus than smaller firms. They are better at it because they have greater capability.

For countries, this is even more challenging as it is dependent on the state of the national economy and ways in which politi- cal decisions are efficiently and timeously made around various national investments.

Putting it more simply – it is not a question of paying cheap to get more but rather having to use less to generate more. Value-add, as a result, must make use of multiple strategies to sustain a country’s or a company’s competitiveness. This is one of the reasons why sustain- ability or resource optimisation both at the supply and demand ends is now becoming far more integrated and mainstreamed. This is not only in terms of production but also in terms of employee effort. In other words, not only does optimisation of input use matter but also employee practices outside the production system – within the workplace and at home. Employees do not become just an input cost but intelligent and conscious social actors in and outside the firm, which is key to the integration of sustainability in a more universal sense.

If countries and firms achieve this, then, in the long term, the idea of value-add extends beyond the boundaries of the firm or the borders of a country.

Smart countries and firms want smart citizens and employees. All this contributes to the new value-add notion or a more integrated approach to sustainability effort, or VA+Sef.

Edited by: Martin Zhuwakinyu
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