Asset-based or physical conglomerates are splitting up, and it gives the impression that the conglomerates’ era is over. But if we take a closer look at activities in different industries, we see that digital conglomerates are emerging. And this is mixed news for engineering service providers.
Asset-based conglomerates are splitting up. In the last few years, there has been news of the splitting up of many conglomerates such as GE, Emerson UTC, Bayer, ThyssenKrupp, J&J, Toshiba, Philips, Siemens, Bombardier, Kone.
It looks like conglomerates are a 20th-century business model where companies did diversified capital allocation to tide on different cycles. These conglomerates entered the new business with the rationale of how attractive that industry is for them and how easy it is to get into new business and make it successful with the efficient capital allocation (often acquisitions) and superior execution. They used their competitive advantage of knowledge and access to many local markets by way of early entry, legal structure, and government relations which they could spread over many industries. They leveraged their brand equity in new businesses and kept on spending average industry figures (as a percentage of Revenue) on R&D.
The situation has changed for sure now. First, it was the success of digital natives firms in many industries, and now they are diversifying into other industries, thus transforming into digital conglomerates. Many digital natives have a lot of surplus cash from their core operations or from investors, and they think of opportunities where they can deploy it. Some digital natives even changed the name of their firm to reflect conglomerate ambitions, as Google changed to Alphabet and Facebook changed to Meta. Some are doing backward and forward integration to emerge as a conglomerate as Amazon is doing. Some other digital natives who are getting into multiple industries are Tesla, Apple, Uber, Ola, Go-Jek, Alibaba, and Baidu.
Digital conglomerates’ reasons, strategies, and approaches are different from conglomerates of the earlier era. They look for disruption opportunities across industries. Their approach is to provide a superior customer experience than provided by incumbents and look for network effects to scale the business. Technology is often a differentiator for them, and they often spend high on R&D than the industry average.
Then there are some asset-based conglomerates that are transforming themselves into digital conglomerates, such as Reliance and Tata Group in India.
Implications for engineering services
Asset-based conglomerates are big customers for engineering services, first for time-to-market and lately for cost also. Digital conglomerates don’t outsource engineering that much, though digital conglomerates rely more on R&D for disruption. But when digital conglomerates diversify and look for other industries, they are more open to partnering with engineering service providers.
Still, the overall propensity of digital conglomerates to outsource engineering is less than asset-based conglomerates. As digital conglomerates are entering and disrupting many industries, it could be a long-term risk for engineering service providers unless they raise their bar and focus on supporting digital conglomerates more aggressively. Based on my conversations with some digital native firms about their propensity to outsource, the following challenges emerged (in no particular order)
- Business Model
Bottom Line: The trend of the emergence of digital conglomerates will increase further. The number of industries is finite, so sooner or later, digital disrupters will emerge in most of the growing industries. It is an opportunity for engineering service providers to help digital conglomerates scale in new areas. There are challenges discussed above, but they are not difficult to solve if this becomes a focus area for engineering service providers. For future-proofing their businesses, engineering service providers need to start giving digital conglomerates strategic importance. The fast-growing startups and unicorns also should be given importance even if they may not give a large deal today. Today’s startup might become tomorrow’s digital conglomerate. This will be an interesting trend to watch.