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Technological leverage

  Consider Autodesk, Inc. Autodesk was formed with less than $60,000 in capital, yet less than seven years later has a market valuation in excess of $600 million--an appreciation of a million percent, based on essentially no capital investment, no physical plant, and no assumption of debt. This kind of performance has the distinct odor of inherent leverage and, if viewed in that light, reveals one of the fundamental properties of the New Technological Corporation.

What is the essential aspect of inherent leverage as exemplified by the Bitter Luck Next Time Mine? It's the possibility of enormous gains to be had if certain future events occur, with no out of pocket costs while waiting, and the ability to fund development of the assets from operating revenue should success smile upon the venture. What is different about the software business?

Our cost to develop and launch a new product is minuscule compared to the revenue generated from a successful product (assuming we focus on establishing new product categories rather than attempting to ``buy market share'' in a market dominated by others). The total expenditure involved before the decision whether a product merits further development and promotion or discontinuation is small. The value of becoming the de facto standard in a market is enormous. And yet the downside is no more than a write-off of the product development funds--a tiny sum compared to the capital costs of any other business.

The huge difference between the sunk costs of product development and initial marketing and the ongoing revenues from a success constitute leverage just as much as does the production cost of a mine compared to appreciation of its end-product, or the strike price of an option compared to appreciation in the underlying security or commodity. In the case of technological leverage, funds committed to new product development are multiplied by a huge factor in the revenues they return when they yield a successful product. Because the multiplier is so large, the consequences of a failure, or many consecutive failures, are of limited economic consequence except in opportunities foregone to attempt the products which failed.

Technological leverage is the economic consequence of the value of information. Technological leverage translates possession of information into economic value, multiplied by market position and the ability to compound the initial success by delivering follow-up products to the original customers. Inherent leverage always involves a nonlinear price function. In the silver mine case, the cost of production set a floor on the profit curve. A software company with a successful product turns blank magnetic media and paper purchased for pennies into products sold for thousands of dollars by adding nothing but information to them. Technological leverage in the software business stems from the tiny costs of product development as opposed to the enormous ongoing profits of success. The flip side of technological leverage is that possession of large capital resources does not confer a competitive advantage (although the credibility of an established vendor and the access to distribution channels attendant upon that position has value).

To believe in technological leverage is to acknowledge that information has a value equal to or greater than financial assets. Information--embodied in a computer program, a perception of a market niche as yet unexploited, or a new way to organise a business in a market considered saturated by look-alike competitors--is capital. Capital acquired without cash constitutes leverage. Technological leverage is the capital that inheres in information, and therefore is the most powerful leverage of all. The New Technological Corporation is a corporation in which technological leverage is the predominant factor relating product development investment and operating results. The astonishing success of such corporations can best be understood in that light.


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Editor: John Walker