Investing in intangible capital for SMEs during uncertain times

By Fauzi Said, Andy Page, Liz Salter and Chander Velu

During a period of extreme uncertainty and economic downturn, such as the COVID-19 pandemic and its aftermath, firms often spend less time and effort developing intangible capital – such as the skills and knowledge of employees, leadership talent, and company culture – than they do on tangible capital – such as equipment.

Often this is because intangible capital is more difficult to measure, manage and finance. Similarly, governments tend to cut expenditure on industrial transformation programmes during uncertain times.

A new study shows that this is the exact opposite of what is required. Firms need to show leadership by engaging and empowering their employees, while governments should continue to invest in programmes to help strengthen the intangible capital of small and medium-sized enterprises (SMEs).

The study investigated firms in the Sharing in Growth (SiG) programme, a government-funded transformation programme that raises the productivity and capability of SMEs in the UK aerospace sector (IfM Engage is a delivery partner in the SiG programme). The study evaluated the firms that responded to the UK Ventilator Challenge to provide equipment to the UK health service in order to tackle the pandemic, compared to the firms that did not respond.

The UK aerospace supply chain was chosen for three reasons. First, the aerospace sector has been severely impacted by the Covid-19 pandemic as a result of the grounding of air travel. Second, the UK is a global leader in the aerospace industry, with a turnover of more than £32 billion. Third, a number of aerospace suppliers have been involved in the UK Ventilator Challenge to supply ventilators or personal protective equipment (PPE).

The research led to two important lessons for responding to a period of extreme uncertainty, one for firms and one for policymakers.

Lesson 1: Firms should invest in and develop a leadership culture that engages and empowers employees to experiment and learn.

In-depth case studies of three of the SiG beneficiary firms show that intangible capital has provided the basis for key capabilities to respond to opportunities provided by the UK Ventilator Challenge.

In particular, the cases show that organizational capital, in terms of the role of leadership in fostering a culture of engagement and empowerment via continuous experimentation and learning, is a key capability for firms to respond to sudden and unexpected changes in the environment.

One firm created an environment whereby employees were able to go out and explore new market opportunities in the quest to diversify into the non-aerospace market. The leadership team enabled the organization to learn how to apply the underlying principles to different contexts, which contributed to picking up new opportunities. The firm normally manufactures flexible joints and pressure duct systems but was able to switch to manufacturing visors and supplying them to local NHS hospitals.

Another firm, which designs and manufactures printed circuit boards and supplied them to support the UK ventilator effort, developed team leaders and encouraged ownership and left the responsibility down to the people involved in the processes. Such process ownership enabled more initiative to be taken by the process owners to solve problems, as well as improving the operations without micro-management.

A third firm focused on creating a set of values, notably being dynamic and agile through continuous process improvements. This enabled the employees to take the initiative and be engaged with achieving the overall objectives. This firm normally designs, develops and manufactures components for the electronics and avionics industry, but has switched to repurposing PPE for use on the front line.

This firm emphasized the engagement of its employees. It enabled everyone to take turns at being involved in producing the visors for the UK Ventilator Challenge, even though the actual work could have been done by a small team.

Leadership and culture are important aspects of intangible capital in a period of abrupt changes to the environment. Leadership in such a context is important for two reasons. First, leadership sets the direction for the organization and encourages employees to be ambitious. Second, leadership is key to changing the culture of the organization by encouraging engagement through continuous learning and experimentation. Such a learning and experimentation culture requires the senior management leadership team to be able to ensure personal safety and offer compassion for trying and failing.

Lesson 2: Governments should enhance investment in transformation programmes that build intangible capital among SMEs.

Studied firms that were involved in the UK Ventilator Challenge reported that they had benefited more from the SiG programme and also reported better financial performance compared to firms that did not participate in the UK Ventilator Challenge. It appears, therefore, that the SiG programme helps in overcoming the market failure of insufficient investment in intangible capital among SMEs.

In particular, the study shows that the building and enabling of effective organizational capital among SMEs would not have been possible without the benefits from the SiG programme. This is because leadership and cultural capital to enable engagement and empowerment are less easily measurable and take a long time to build. Therefore, there tends to be underinvestment by SMEs in these forms of intangible capital compared to more tangible forms of capital. Hence, from a policy perspective, capability-building programmes such as SiG are important to fix the market failure caused by underinvestment.

This article is based on the working paper ‘Intangible capital and reorientation of manufacturing during a pandemic’ by Fauzi Said, Andy Page, Liz Salter and Chander Velu.