When Biz Stone moved to California in 2003, it wasn’t simply to take a job at Google working for its newly acquired Blogger platform. He wanted to work with fellow entrepreneur Evan Williams. A group that included Stone and Williams left Google in 2005 to form Odeo, a podcasting company. A two-week “hackathon” at Odeo produced a prototype of Twitter, a side project that quickly moved center stage.
In this interview with Knowledge@Wharton, Stone discusses his new book,Things A Little Bird Told Me: Confessions of a Creative Mind, which tells the story of his nontraditional path to co-founding one of the world’s best-known brands. He emphasizes the importance of pursuing apprenticeships, embracing failure and benefiting from constraints, and also talks about his new venture, the social search engine Jelly, the first company for which he has served as CEO.
An edited transcript of the conversation follows:
Knowledge@Wharton: You place a lot of value on simplicity and constraint, two words one might expect to see paired together. But then you throw in a third, less-expected word: provocation. How do constraints create provocation, and why is that good for business?
Biz Stone: Constraints inspire or provoke creativity because it’s human nature. When our back is to the wall, we’re forced to come up with the creative solution. It’s the MacGyver in all of us. Given restraints, we come up with incredible solutions. If you ever watched the movieApollo 13, you remember that scene where … Ed Harris says: “[Mission Control] needs to put a square peg in a round hole. We need to build an air filter out of this…. It’s a pencil, a hanger and a piece of tin foil….” And they do it. It’s that kind of thing that I really believe in.
“Look at Twitter. We had this failed company, Odeo. [And then] Evan Williams had this great idea….”
I had dinner once with [Hermann Hauser] who founded ARM, the chip maker. He said, “You want to know the secret to my success? I gave my team no time, no money and no resources, and [they] came up with this genius, low-powered chip that was perfect for mobile phones.”
Knowledge@Wharton: You also tell the story about the incubators made out of automobile parts.
Stone: That’s part of my bright spot theory…. When everything around you seems terrible, and [there] doesn’t seem to be anything going right, try to find something, anything … good that’s happening. That story was about a developing nation where they had a very high infant mortality rate. A hospital in New York said, “We’re going to donate these very expensive incubators [to] help lower your infant mortality rate….” They donated them. They went back a year later and said, “What’s up? Your infant mortality rate is still really high.” [The hospital in the developing country] said, “These machines are so fancy and they require maintenance. They broke, and nobody knows how to fix them.”
That attracted the attention of another doctor in Boston who went out there and said, “Well, here’s what I’m going to do. I’m just going to find out what isworking. Forget about the incubators. What in this area is working?” He noticed that there were a lot of old Toyota trucks that were still running. He said, “Well, the folks in this place seem to be really good at fixing Toyotas.” So, what did he do? He worked with a design lab to come up with an infant incubator made out of automotive parts, where the headlight was the warming [mechanism]…. He told them, “If this breaks, call the mechanics.” I thought that was just so great. It sets a great example of not only looking for the bright spot but very non-linear thinking. Who would have thought that a Toyota 4Runner would be the key to lowering infant mortality rates in that region?
Knowledge@Wharton: Aided by the arresting image of the Fail Whale, you essentially turned Twitter’s early technical difficulties into a tool for engaging your customers in a deeper way. How can other business leaders adopt that approach?
Stone: We embraced our own failure, and we were authentic about it. We just told it like it was. When something would break, I would act as the embedded reporter and go around and try to figure out what exactly happened so that I could, as soon as possible, publish to our blog what had happened, what we did about it and why it [wasn't] going to happen again. That’s not to say we’re not going to break in some other way, but at least we won’t break in exactly this particular way again. I think that served to humanize the company, which becomes a way of building a brand. You build good will.
“We’re living in such a different time now. We launched Jelly, and within 24 hours, we had more than double the accounts created in the first year of Twitter.”
The opposite is presenting yourself as bulletproof. If you do that, then the second you have a failure, people slam you for it. You don’t get any breaks. But if you recognize the value in vulnerability, you can build up some good will as long as you are open and honest about it but also working to fix it. That doesn’t last forever because you also spend good will and it runs out. You can’t just lean on that forever.
Knowledge@Wharton: You talked about how your decision to drop out of college and pursue book jacket design was essentially choosing apprenticeship over schooling. Do we place too much emphasis on degrees and credentials and not enough on promoting a learning culture within companies?
Stone: It comes down to the individual. For me, that was a better way. For me, the immersive experience of focusing and working eight to 10 hours a day with a master in his field was just the perfect thing. It was what I needed. For other people, the structure of a school environment is better.
[But] part of me does think that we tend to focus too much on … testing. There’s a lot to be said for cooperative learning. There’s this guy named Professor [Sugata] Mitra at Newcastle University who has studied self-organizing systems and new ways of learning that are not hierarchical and go against the traditional ways that we have built our educational systems…. [The research shows] how children are able to learn on their own. Teachers can — as long as they act as the guides, nudge them or keep them in bounds, so to speak — [help children] do miraculous things on their own.
Knowledge@Wharton: You’re a big fan of the artist Andy Goldsworthy, whose creations are by design ephemeral. Business leaders, by contrast, like to think that they are building something lasting. In an economy marked by flux and constant change, is there a business lesson to be learned from Goldsworthy?
Stone: That’s a good question because I haven’t thought about it that way. I’ve just enjoyed his work. But if there’s a business lesson to be taken from Goldsworthy’s work, it’s … work with the resources you have around you. That’s what he does. He goes out into the woods, and he just builds using the stuff that’s there…. He’s built huge, gigantic snaking stone walls out of felled buildings and things like this. Not all of his stuff is completely ephemeral, but a lot of it is. It disappears with the wind or the tides….
Look at Twitter. We had this failed company, Odeo. [And then] Evan Williams had this great idea: He said, “How about let’s all of us pair up and just work on something that you think is cool?” Twitter grew out of that….
Knowledge@Wharton: How has the process of launching your new venture, Jelly, been different from that of launching Twitter?
“How do you institute change in a company? You change what you measure. You change the measurement of success.”
Stone: Worlds apart. We’re living in such a different time now. We launched Jelly, and within 24 hours we had more than double the accounts created in the first year of Twitter. That’s because of Twitter and Facebook. When Twitter started, word of mouth was word of mouth — actual mouths. Now you can launch something, and if it’s good, [people] just buzz about it on these [social media] feeds. They tell their friends, and they retweet it and so forth. You just explode onto the scene.
Not only that, we don’t have servers. We have servers, but they are Amazon’s. We don’t have to go into a room and unplug things and rewire things. It’s amazing. It’s a really, really different experience. We could potentially have a service where we have hundreds of millions of customers and tens of employees.
Knowledge@Wharton: You have reinvented your professional and creative career several times. Do you have any advice for executives and entrepreneurs trying to reinvent themselves or their companies?
Stone: In the introduction to my book, I talk about faking it ‘til you make it. You say something, and then you start becoming it. Once I dropped out of college, people would ask me, “What do you do?” I would just say, “I’m an artist.” People believed me. I started to believe myself, and then I was. Part of reinventing yourself is just taking that first step and just saying what you want to be. Then you slowly back into it.
Knowledge@Wharton: How about on a company level?
Stone: That’s a lot harder, especially if you are a big, publicly traded company…. In that case, I think change has to come from within. People fear change, because humanity seeks homeostasis. Our bodies themselves always try to get back to that same temperature…. So, when you want to change, you have to shake things up and get to that new homeostasis, that new place. Then that’s who you are…
For example, Citibank — I spoke to their chief marketing officer a few years ago. They were part of this whole giant banking crisis. They were part of why families were breaking apart — because they couldn’t afford their mortgage, because they were given a mortgage they couldn’t afford. What they did was they changed what they measure. They decided to radically change their internal metrics. They put goals on the board like: How many people can we save from foreclosure? Given the fact that we are definitely going to have to foreclose on “X” number of people, how many of those people can we help get into an apartment?
They set goals like that to reinvent themselves and get back to that idea of Citibank becoming the provider of the American Dream, which they had lost sight of. How do you institute change in a company? You change what you measure. You change the measurement of success.
The business landscape for companies is changing as a result of global trends such as aging populations in the U.S. and other major economies, corruption, geo-political risks, and the potential of 3-D printing and robotics, among others. Mauro Guillen, a Wharton management professor and director of Wharton’s Lauder Institute, spoke recently with Knowledge@Wharton about how companies can leverage these trends to come up with strategies to drive profitable growth. Guillen will also teach a free online course on this theme via Coursera starting May 5.
An edited transcript of the conversation appears below.
Knowledge@Wharton: Let’s imagine that we have here with us a group of executives from multinational corporations. What are some of the most important global trends that they should be paying attention to?
Mauro Guillen: Well, there are several of these trends. And, of course, all these trends can be seen as threats on some level. But they actually represent major opportunities. We’re seeing, for example, major trends in terms of population shifts around the world. The centers of gravity of the global economy are shifting away from Europe, the United States and Japan toward the emerging economies. That is where the markets of the future will be. That’s where the middle class of the future will be. And hence, consumer markets are going to be gravitating towards those parts of the world.
We also see trends in terms of geo-politics where the risks are where the natural resources are in the world. And finally, we are seeing very important financial trends. We’re seeing that there are certain countries in the world that are accumulating more and more reserves. They are accumulating more and more firepower for the future. That’s going to bring about realignments in currencies around the world. As a result of those shifts, companies will need to change the structure of their operations.
“The centers of gravity of the global economy are shifting away from Europe, the United States and Japan toward the emerging economies.”
Knowledge@Wharton: These are a great group of topics that you’ve laid out. Why don’t we start with the demographics? In some other contexts, you have referred to the fact that this is probably the first time in history that you have more grandparents living in the world than grandchildren. What are the consequences of the aging population? How does this affect, say, banks or other companies’ products and services?
Guillen: Well, you’re exactly right. Population aging is a very important phenomenon. It has been going on for the last 20 years but at this time and moving forward into the next five or 10 years, it’s going to reach critical levels. For banks, for example, what this means is that they are going to find it harder to attract deposits. Deposits are the easiest and cheapest way for banks to get funding. So, banks will have to look for alternative sources of funding, precisely at a time when regulators are asking them to maintain higher capital ratios. Also, the kinds of products banks sell to customers are will have to change as a result of older populations around the world. They will need other kinds of savings and investment products.
But companies in any industry will have to watch this trend towards population aging very carefully. And, once again, there are some threats. Some companies will see business lines shrink, [and] their markets disappear. But at the same time, these more graphic trends also create new opportunities that can be measured in the hundreds of billions of dollars.
Knowledge@Wharton: What’s an example of a new opportunity that has been created either for a bank or some other company because of this aging population?
Guillen: Well, for banks, new types of financial products such as reverse mortgages or investment products with downside protection are now so much more popular because we have more customers of banks that happen to be in their 60s, 70s or 80s. And for companies, [it would be] any type of product or service that has to do with the so-called leisure industries. People in their 60s or 70s or 80s, many of them retired, have more time. They would like to use that time productively. So, as a result, there are huge opportunities for launching new products and services that essentially keep people busy in retirement.
Knowledge@Wharton: For example, would you say that industries like travel and tourism may see an increase [in business] because of what you just said?
Guillen: Absolutely. And in particular, certain segments within the tourism industry are going to grow — for example, cultural tourism. Given that today, grandparents in the world are actually much better educated than say, 20 or 40 or 60 years ago, the tourism industry and the leisure industry need to move away from just beach and sun and toward cultural tourism, for example.
Knowledge@Wharton: What about industries like health care or real estate? How can they come up with products and services aimed at an older demographic client base?
Guillen: Health care obviously will go through very rapid growth in many parts of the world, especially in the American economies. Let’s not forget that population aging is not only taking place in Europe, Japan and the United States but it’s also a very important trend in China. It’s also a very important trend in Russia. In other words, one should expect major investments in health care, in medical equipment, in health care personnel and so on and so forth in some of the American economies.
Knowledge@Wharton: One of the things that sometimes concerns me is if everybody in the world sees this trend, that the population is aging, and they all rush to create reverse mortgages and products and services for the elderly, isn’t there likely to be a considerable oversupply and actually, people will be worse off because of that?
“People in their 60s or 70s or 80s, many of them retired, have more time…. As a result, there are huge opportunities for launching new products and services that essentially keep people busy in retirement.”
Guillen: Eventually there will be a lot of companies and a lot of banks interested in providing goods and services for that segment of the population. But right now, way more than half of the current needs are still going unsatisfied in the marketplace. This is true in the United States. This is true, I think, in many countries around the world. At the same time, just the sheer number of people in their 60s or their 70s or their 80s is going to grow very, very quickly. My sense right now is that supply, meaning the number of companies that are offering these goods and services, is lagging seriously behind the demand. That will continue to be the case for the next five or 10 years.
Knowledge@Wharton: Let us switch to global financial trends. Until now we have had the U.S. dollar almost solely as the reserve currency for the world because it’s accepted everywhere. But slowly, the Chinese renminbi seems to be becoming stronger. What do you think is likely to happen? How should companies factor that into their growth plans?
Guillen: We are going through a transition phase in terms of the global financial architecture. As you pointed out, the dollar has played a dominant role in the global system for the last 60 years or so. But then that … post World War II period was a time when the U.S. economy was the biggest by a wide margin and when the U.S. was the biggest trading nation in the world. Right now, China is already the biggest trading nation. And the Chinese economy may, within five years or at most 10 years, become the largest economy in the world.
So, the global economy needs the Chinese currency to play a role. And we’re starting to see the beginnings of that, especially in East Asia. Countries such as Thailand or Indonesia or the Philippines are starting to think about how to increasingly link their economies to China, not only in terms of trade flows but also in terms of financial flows and currencies. This is going to change the landscape for all companies, even if they don’t operate in China because companies will need to do hedging, for example, in a different way. They will need to revisit their cash flows around the world. So, the treasury functions at major multinational firms are going to have to do a lot of homework in order to adapt to the new realities in the global financial architecture.
Knowledge@Wharton: What are the implications for the world economy were the renminbi to become a dominant currency?
Guillen: First of all, I don’t think it’s going to become a dominant currency in the sense that [it will] displace the dollar. We are moving into a kind of world in which the renminbi at some point will play a role alongside with the dollar and the euro and perhaps a couple of other currencies. The Indian rupee, at some point in the next 20 or 30 years, will also play a role if growth in India continues. But the important thing to keep in mind is that multinational firms, because of the complexity of their operations, move money around the world because they generate revenue in one part of the world [and] get funds from another part of the world. They keep their money in certain parts of the world because maybe taxes are lower and so on.
What I’m suggesting is that in the next five to 10 years, most of these companies will need to revisit the assumptions that they have been working with when it comes to making decisions [on] money flows inside of the firm. If they don’t, that’s going to have a big impact on their profitability and on the amount of money at the end of the year they’ll be able to offer their shareholders in return for the funds they have given the company to operate.
Knowledge@Wharton: That’s clearly both an opportunity and a risk. What are some of the other major risks, especially on the geo-political front? How companies should hedge their risks — or are there opportunities in those risks?
Guillen: The biggest risk now and looking down the road for the next five years or so has to do with a combination of factors. There are certain parts of the world where we see very young populations. The population is growing rapidly. At the same time, we see that corruption is a problem, [especially] government corruption. We also see political instability. On top of all of that, these are countries that happen to have a lot of natural resources — energy, minerals and so on.
I’m referring to some parts of Latin America, but mostly to sub-Saharan Africa, the Middle East and some parts of South Asia. This so-called “long arc of instability in the world” that stretches from Latin America all the way to Southeast Asia and then reaches a climax in sub-Saharan Africa — [is] a major source of volatility and risk to the entire global economy. One cannot understand, for example, nowadays, the fluctuations in commodity prices or in energy prices [and] the extreme volatility, without taking into account this combination of factors.
“This so-called ‘long arc of instability in the world’ that stretches from Latin America all the way to Southeast Asia and then reaches a climax in sub-Saharan Africa — [is] a major source of volatility and risk to the entire global economy.”
Knowledge@Wharton: How do we hedge those risks? What do we do?
Guillen: Well, companies on an individual basis certainly need to be very careful as to where they invest, but more importantly, how they invest. The issue is not, “Oh, are there a number of countries out there that I need to avoid?” No, I don’t think that’s the right way of thinking about the problem. The right way of thinking about the problem is, “If I want to be a multinational firm, a truly global company, I need to operate in a variety of markets. Based on that assumption, what is the best way of operating?”
I would, in particular, recommend that companies think about staging their investments, [and] keep their options open. If unpredictable events happen, then they can quickly rearrange their operations in such a way that a crisis in a particular part of the world doesn’t affect their operations and their profitability on a worldwide basis.
Knowledge@Wharton: One more risk that we hear about a lot these days is cyber terrorism. Part of the challenge seems to be that very often the threat may come either from some governments or from amorphous groups of hackers that don’t have a state. What is likely to happen as far as that is concerned?
Guillen: Yes, cyber risks or risks related to our increasing reliance on information systems and telecommunications and the transfer of information all over the world are clearly going to be on the increase. We have obtained many advantages from the information and telecommunications revolutions. We have cut costs. We have enabled companies to essentially pursue opportunities in many different kinds of markets, to relate to their customers in different markets, to look for the lowest-cost platforms on which to manufacture their products and so on.
There are many benefits to information and telecommunications technologies, both [for] the firm and [for] society as a whole. But there are also risks. Increasingly, over the last three to five years, we’ve seen an increase in precisely those kinds of risks that come in some cases from governments, but most likely from individuals who essentially want to make a dent. [They would] maybe spend a few years in jail and then leave and become consultants to major multinational firms or governments, which is what some of them do — which is a replay of “Catch Me If You Can,” the movie.
The issue here is essentially, what should individual companies do? [They should] ensure that nothing that they view as a strategic asset or resource can be affected by a cyber-attack. Not all resources [or] assets inside of a corporation are equally vital. The company needs to make sure that it understands where the five or six or seven things are that they don’t want anybody to lay their hands on. And they have to protect those things very carefully.
Knowledge@Wharton: Fifteen years ago if you were to look at the Internet, it would have been very difficult for anyone to predict that social media would become a powerful force. Or that a company like Twitter may come into existence and its platform will have the power even to topple governments. Looking at the next 15 years, what do you see?
Guillen: There are at least two very exciting and promising areas [where we will] see a lot of action. One is the intersection of information technologies and robotics. This is going to transform manufacturing. It is going to transform the way in which we consume goods and services. It is going to transform education. I wouldn’t be surprised if in five years from now I am redundant as a professor and we can have a robot in the classroom actually doing probably a much better job. This is going to transform the automobile industry, as we know. It’s already transforming surgical procedures at hospitals.
This combination of informatics and robotics … [is where] we see a lot of activity, both in terms of startups and also established corporations that are making big investments.
The other area is more broadly in the use of artificial intelligence. A third area [is] 3-D printing. Right now, most of the visionary applications one reads about strike one as being crazy or outlandish. But we are only at the beginnings of a major trend in terms of decentralizing manufacturing, especially of very specific parts and components. So, 3-D printing has the potential of revolutionizing quite a few things. [It can also enable] poor and disadvantaged people and countries and communities to perhaps play a more important role in the global economy.
Israel’s start-up community has gained wide recognition mainly because of entrepreneurs in the areas of communications, software, Internet and social media. Waze, a GPS application, made news because Google paid more than $1 billion for it. Trusteer — cyber security software — made similar headlines when IBM bought it for a similar sum.
Further out of the public eye, a similar flurry of activity is taking place in the field of medical devices. “Internet startups are sexy,” says D. Todd Dollinger, chairman and CEO of the Trendlines Group, a venture capital firm that focuses on medical and agricultural technologies in Israel. “It’s consumer products vs. medical products. When one uses medical products, you often don’t know their origin. Your doctor knows, but you don’t know.”
“Start-ups related to the Internet are fairly straightforward,” adds Guy David, professor of health care management at Wharton and a fellow at theLeonard Davis Institute of Health Economics. “To develop a successful [Internet] application you need an idea and programmers. But with medical technology, the matter is more complex because it involves potential structures in production.”David notes that there are several things that make medical technology different from cellular or computer technology. “You don’t see the large global companies purchasing medical start-ups,” he says. “Besides, if you look at PillCam [a start-up in the area of capsule endoscopy] or ReWalk [a commercial bionic walking assistance system], they are brick and mortar in terms of development, not just software. They are real products.”
According to a 2012 study by Israel’s ministry of industry, trade and labor, the country was home to 656 medical device companies. Of these, 35 were publicly traded and 18 were owned by foreign companies. The global medical devices market was estimated at $322 billion in 2011. The Israeli market was $1.8 billion, but despite its relatively small piece of the pie, Israel is the leading country in terms of patents granted per capita in the medical devices field. In absolute numbers, it is fourth. “Few medical device industry executives would argue with the notion that Israel has been one of the leading sources of new device technology,” says Dollinger.
“It’s consumer products vs. medical products. When one uses medical products, you often don’t know their origin. Your doctor knows, but you don’t know.” –D. Todd Dollinger
“The industry is young” adds Eran Perry, managing director of Israel HealthCare Ventures (IHCV), a life sciences venture fund. Fifteen years ago, there was very little activity in the medical device field, he notes. At the first Biomed Conference — an annual meeting showcasing such technologies — there were a few people in a small room. Today, the conference fills an entire exhibition hall with thousands of people from all over the world.
The sector has an advantage in that it can operate on a comparatively shoestring budget. Companies in Israel are very lean compared to those in the U.S., helped in part by the country’s start-up ecosystem: Clusters of similarly focused firms can share resources, meaning overall infrastructure costs are lower. Also, a singular feature of the industry is the small size of the companies in terms of manpower. About 56% have only between one and five employees. Only 3% have more than 100 employees.
“One of our recent investments is in Argo Medical Technologies, an excellent example of how a small budget can go a long way,” says Perry. Argo is a leader in the exoskeleton field; it has developed ReWalk, an exoskeleton suit that enables people with lower limb disabilities to walk. It was the first to reach the market with a U.S. Food and Drug Administration-approved device for rehabilitation centers, though the company’s investment was one-third that of the competition, Perry notes.
He also points to the success story of NanoPass Technologies, which develops micro needle-based systems for intradermal delivery of drugs and cosmetics. “When they approached us they had FDA approval, rich clinical data and impressive production capabilities. At that time, NanoPass had only one employee — the CEO,” says Perry. The company has since raised three rounds of VC funding. NanoPass has also announced several partnerships with multinationals, particularly in the area of prophylactic and cancer vaccines. But it has been hard work without support staff: “When becoming a CEO of a start-up company, or any company, one needs to be very persistent,” notes CEO Yotam Levin.
Fellow entrepreneur Uri Arnin started his company, Spine21, more than a decade back after learning that 40,000 surgeries were performed annually to repair spinal deformities on teens in the U.S. Spine21 makes bionic spinal implants. Arnin’s vision was to develop a device to correct spinal curvature over a long period, as opposed to one-time aggressive surgery. The result: theApiFix system, a minimally invasive device. The seed capital of $500,000 came from the Trendline Group’s Misgav Venture Accelerator. Later rounds came from private investors. The potential market for ApiFix is $600 million in the U.S. and $300 million elsewhere. “We are running clinical trials in Israel, and in Hungary and Romania, where the approval process is comparatively fast. Based on these trials, some devices have already been sold,” says Arnin.
A Low-key Approach
But why haven’t these firms garnered headlines the way some of Israel’s Internet-focused start-ups have? “People who go into the medical technology field are not as hungry,” David notes. “They aren’t interested in making a quick buck. They know that it will take longer” for their efforts to pay off.
Medical products are not as global as IT, adds David. “If you think about the Intel chip, or if you develop software for Google, it will be picked up everywhere. With medical technology the ability to scale it up depends on the country.” Every product is not suitable for every market.
Recent developments in the U.S. are likely to make it an even bigger market. In 2011, the U.S. accounted for $600 million of Israeli medical device exports. Exports to Europe were around $400 million, with China and Japan at about $100 million apiece. David explains that most emerging technologies are patient-centered, and many Israeli companies have made considerable advances in these areas.
“People who go into the medical technology field are not as hungry. They aren’t interested in making a quick buck.” –Guy David
“If you look at the statistics, five years ago, less than a quarter of the companies were generating revenues,” says Perry. “Today, about 40% are selling a product. Israeli start-ups have not been strong in commercialization; they are better at development. But, in recent years, some of them have been forced to go to the next stage because finding a buyer for the company was taking too long.”
Companies’ having to prove themselves commercially is good for the industry because it is now learning how to penetrate different markets. Medical device companies also have an edge because they can break even quickly; in certain areas, the devices can reach the market in only two or three years.
What makes Israel a leader in medical innovation? “It’s the mix of people and the culture,” says Perry. “In elite technology units of the army, young soldiers learn how to work as a team and solve problems. The medical device industry is about defining problems which have to be solved.” Some immigrants to Israel from the former Soviet Union have come from key scientific sectors and have added their experience to the mix. Top-tier academia and a defense industry that continuously provides cutting-edge technologies are also important factors, Perry notes. In addition, the government has been very supportive in R&D.
What kinds of lessons can providers of microfinance services in the U.S. learn from microfinance practices overseas? Three experts from the microfinance industry addressed that question during a panel discussion at the eighth annual Penn Microfinance Conference, whose theme was “Microfinance: Beyond Its Roots.” In addition, keynote speaker Elizabeth Rhyne, managing director of the Center for Financial Inclusion, discussed how the microfinance industry is moving beyond its reliance on lending into multiple new directions, including innovations in the health care sector.
The three panel experts were Julie Siwicki, a research associate at the Financial Access Initiative and a research associate at U.S. Financial Diaries; Vanessa Carter, executive director of Lend for America, and Alexandra Fiorillo, principal at GRID Impact.
Siwicki began the discussion with an overview of U.S. Financial Diaries, a research project tracking more than 200 low- and moderate-income households across the U.S. and collecting highly detailed data about their financial activity. The project is a joint effort of New York University’s Financial Access Initiative, the Center for Financial Services Innovation and Bankable Frontier Associates. According to Siwicki, her organization interviews the households every two weeks to see what their expenses are and what kinds of loans and credit they are using. Her research team has begun to analyze the data and has published some preliminary findings. (Additional results will be posted as they become available on the web sitewww.usfinancialdiaries.org.)
One of the project’s key findings is that there is a lot of overlap between the microfinance needs of businesses and individual households. For example, Siwicki discussed the case of the Garzas, a young California family whose lifestyle exemplifies a set of common challenges. Their income is difficult to predict. The husband has a job, but the family also depends on food stamps, she noted. “What contributes to [their income] volatility is that the wife is self-employed — she takes orders from customers and orders products [on their behalf]. [Her work] is very sporadic, and she never knows how much she will make in a month,” Siwicki said.
How do families like the Garzas deal with these challenges? “By borrowing, using credit, savings, insurance — all of these things are highly connected,” Siwicki noted. The Garzas also use informal networks. “Both the husband and wife are part of rotating savings groups — a system where people come together every two weeks, and everyone brings in ‘X’ [amount of] dollars. They contribute to the pot — and they rotate around until every member has received the pot. This is an informal way of borrowing and saving at the same time.” When it comes to microfinance, Siwicki said, “it is very important to think outside of the borrowing box.” In addition, for low-income people in such communities, “a ton of money is coming in from family and friends, and we tried to quantify all that in our research.”
Beyond this array of informal tools, the Garzas also use formal financial tools, she added. They have four credit cards, which they juggle to make ends meet. Even among many low-income people in the U.S., “credit cards are very accessible…. Credit in the U.S. is prevalent, and it is culturally accepted…. It is necessary in a lot of ways. To buy a house, own a car or to get a job, you need a good [credit] score.” Unlike the case in many developing economies, “credit is widely available in the U.S., even if it is [only] available from a payday lender or a pawn shop.”
However, credit can be both an opportunity and a risk for low-income families, Siwicki noted. “It is necessary to open doors, but it can also be a barrier. You can dig yourself into a lot of debt, and that keeps you from moving up financially…. [In the U.S.], we need to [create] tools” that address these very specific needs and risks, Siwicki said.
Vanessa Carter, executive director of San Francisco, Calif.-based Lend for America, addressed the issue of bankability, linking it to the opportunities and challenges of providing credit to low-income communities. “As microfinance providers in the U.S., one of our key goals is to help people become bankable — to help them access mainstream financial services,” said Carter, whose organization empowers student leaders to build their communities through the creation of campus microfinance institutions (MFIs).
“Credit is widely available, but it is not always good — or affordable — credit. That’s a problem that prevents people from getting out of the cycle of poverty and prevents them from achieving economic opportunity. We microfinance providers in the U.S. think of our clients [as being] on this long-term asset-building path, and we are hopefully a stop on that path. We are helping them to move forward and build stronger businesses so they can achieve a better life for themselves.” The fundamental way to achieve that goal is to build credit, she noted.
When it comes to microfinance, “it is very important to think outside of the borrowing box.” – Julie Siwicki
A key difference between microfinance abroad and microfinance in the U.S. is the role of FICO scores, Carter continued. “People will say that the best way to help people is to pay down debt, but [in the U.S.] it is important for people to have some kind of active line of credit in order to have a FICO score. It gives you access to less expensive loans. Research shows that a person will save more than $250,000 during their lifetime if they have a better credit score. As much as credit is available in the U.S., there are an estimated 40 million people [in the U.S.] who have bad or low credit. So it is a hugely prevalent problem.”
What role can microfinance play in addressing this challenge? “The most important thing with FICO is to have on-time, positive lines of credit — something active on your credit report,” Carter noted. It wasn’t until 2006 that microfinance institutions were able to send their loan service data to the credit bureaus in the U.S. “And now, [microfinance clients] are able to get credit for their payments. That is an improvement.” A few microfinance institutions have innovated around this process, added Carter, by providing “credit-builder” loans that serve not just business owners but consumers as well.
Adapting Foreign Innovations
According to Alexandra Fiorillo, principal of GRID Impact, a New York-based global research, innovation and design firm, the microfinance sector in the U.S. is generally viewed as “lackluster” compared to its counterparts overseas when it comes to innovation. “This is largely due to the fact that we have some strong and robust regulations in the U.S…. But in a lot of developing countries, those regulations are not as robust. Supervision techniques are not as strong as they are in the U.S. or U.K. and other developed markets.”
Fiorillo views this lack of regulation as a double-edged sword. “On the one hand, we are so lucky that we have strong policies that protect people and institutions in the U.S. On the other hand, there is a lot of chatter that says that [these regulations tend] to stymie and stifle the innovation.”
Recently, a large U.S. microfinance institution asked Fiorillo’s research group “to help them innovate a new loan product targeted at individuals who never had a financial product in their lives — individuals who had [FICO] scores lower than 450 or who didn’t have any credit score at all…. They asked: ‘What do we need to know, when designing this product, to insure the best possible financial outcomes for our institution and for our borrowers? How should we be talking to our clients? What things should we do to minimize our risk and the potential volatility of our portfolio, even though we really want to reach these low-income individuals?’
“Our client was really interested … [in learning about] what innovations [overseas] institutions were building into their loan portfolios, and seeing which of those … designs … can be imported into the U.S.,” Fiorillo continued. “[Microfinance] is one of the few areas where a lot of innovations are happening overseas — and institutions [here] are looking overseas…. There is a lot of work that we can do in the U.S. to improve formal financial services for the poor. A lot more research needs to be done in the U.S. to even understand how low-income people here manage their household incomes.”
From ‘Flawed Premises’ to New Products
Traditionally, the primary tool of the microfinance industry has been the microcredit loan, given to low-income entrepreneurs who use it to start family-run businesses. Recently, however, the industry has struck out in multiple new directions, according to Elizabeth Rhyne, a keynote speaker at the conference.
Rhyne, managing director of the Center for Financial Inclusion, which she described as an “action-oriented think tank,” was formerly senior vice-president of Accion, a non-profit organization that supports microfinance institutions in their efforts to provide financial services to low-income groups. At Accion, she helped develop new financial products in Africa, India and elsewhere.
“We microfinance providers in the U.S. think of our clients [as being] on this long-term asset-building path, and we are hopefully a stop on that path.”–Vanessa Carter
Microcredit loans for the smallest of businesses, Rhyne told the audience, “have established a very strong, sturdy basis for the future [based on] the idea that low-income people are contributors to their own development, that [they] can pay back their loans, [and that they] can be good credit risks.” It is also possible, Rhyne added, “to build a successful business giving loans to low-income people.” Once that is realized, then “you need to learn a lot about how to build a financial institution that must be very efficient and oriented toward [low-income people's] needs.”
The microfinance sector has established the concept of the microfinance institution as one that delivers credit to low-income borrowers, yet can acquire a license as a formal financial institution, Rhyne noted. Indeed, some 200 million people around the world borrow from microfinance institutions — “200 million people who were, in all likelihood, not eligible for any sort of formal credit before microfinance started.”
For all that, Rhyne added, “things have gotten more complicated because we have discovered that some of the basic premises of microfinance that we took for granted were flawed or incomplete. I was a big proponent of microfinance for many years, and I accepted all these premises — and now when I look back, I think it should have been obvious that there were some problems.”
What premises turned out to be flawed? Number one is that “credit is not the only important financial need that people have. This seems clear and obvious” now, Rhyne said, but it was not so in the early days, when the industry focused on the benefits of microcredits to low-income populations. “People also need savings as a way to build assets; savings is the flip side of credit. If you have more savings, you need less credit. And if you have more savings, you can qualify for more credit.”
Beyond this growing awareness of savings, the industry realized the importance of enabling the poor to make financial payments, said Rhyne. “Making payments — moving money around from place to place — seems trivial to us” in the U.S., a society that has developed an infrastructure for making such payments. But it is important to recall that “if you operate completely in cash, there are many problems associated with that — not to mention that you are a walking crime magnet if you carrying wads of cash” around on your person. Even in the U.S., this is still a problem for those who have no bank accounts of their own.
Insurance products are another area where microfinance institutions have moved beyond their initial roots. “Vulnerability is one of the characteristics of poverty,” Rhyne said. “So mitigating the downside by providing low-income people with insurance is a major financial tool.”
In recent years, there has also been a growing awareness among microfinance institutions that “credit is not as transformative as everyone assumed,” noted Rhyne. “Although there are certain people who will be able to use microfinance to transform and build their businesses, that is not [the case with] the majority of the people who receive a loan. Most are going to use it to smooth out their consumption…. It will not be taking their business to a new level, in part because a lot of them don’t want to do that [and also because] a lot of them face other barriers.”
The so-called debt trap is one more component of microfinance that has often been overlooked in the earlier enthusiasm about the movement’s transformative benefits. “This is the kind of problem that microfinance [practitioners] wanted to solve because they recognized that in formal credit, a lot of [difficulties] arise when people get stuck in debt,” Rhyne stated. “Microfinance is a kinder, gentler form of that, but still a certain percentage of people will get into trouble.”
The ‘Incentive Mismatch’
In addition, the microfinance sector must admit to “an incentive mismatch,” she noted. “The incentive of every microfinance institution is to lend more. If the way you make money is by lending, then you want to lend more. There is a mismatch between, ‘We want to help people,’ and, ‘We want to lend more.’ It is hard for a lender to know that ‘These are the people who need money and who should get it; and those are the people who should not [get it]. This is an ongoing issue. As a result, there has been a series of crises about over-indebtedness. We need to be more careful about giving debt. We need to protect our clients better. And we need to supply a range of products and services that go beyond the original microfinance credit. This has been a challenge for the microfinance industry.”
The sector is addressing this challenge through the Microfinance CEO Working Group, a collaborative effort of several leading international organizations that promote microfinance around the world. The Microfinance CEO Working Group brings together the heads of eight international microfinance organizations: Accion, FINCA International, Freedom from Hunger, Grameen Foundation USA, Opportunity International, Pro Mujer, VisionFund International and Women’s World Banking.
Health care is perhaps the most developed sector for such microfinance innovations because “health care emergencies are a huge reason” that people get into trouble repaying their loans.–Elizabeth Rhyne
These institutions are leading the development of new kinds of products and services that, while based on the fundamental roots of the microfinance tree, branch out into many new directions to serve low-income individuals and communities. Beyond more conventional products in savings, credit, payments and insurance, their offerings also address needs in such areas as housing, energy, agriculture and small enterprise.
With so many experiments and new programs to consider, Rhyne concluded her keynote by highlighting the innovations in just one sector — the health care industry. Health care is perhaps the most developed sector for such microfinance innovations because “health care emergencies are a huge reason” that people get into trouble repaying their loans, so microfinance institutions are acutely aware of health care risks for low-income families.
Some leading microfinance institutions and their innovative health care-related programs:
– Women’s World Banking, a global non-profit focused on giving more low-income women access to essential financial tools and resources, launched a product in Jordan in 2010 that covers hospital fees for stays, and even covers some of the lost income people have when they need to go to a hospital.
– Pro Mujer, which provides women in Latin America with small business loans, education and housing loans, savings accounts and life insurance, is also hiring some nurses and doctors who operate clinics out of Pro Mujer’s offices. In some cases, when Pro Mujer clients come to its microfinance locations, they also have access to health care services, largely focused on maternal and reproductive health. Because chronic diseases — such as diabetes and heart disease — are becoming more common in the region — services for treating them have been bolstered at these clinics.
– Grameen Foundation, a U.S.-based foundation, has begun to exploit mobile phones as means to connect directly with low-income people. In health care, they have a mobile application called MOTECH, which enables communications between low-income patients and their caregivers. In one notable example, HIV-positive patients in India are supposed to take their medicine every day, Rhyne said. “One of the big issues with this kind of medication is that if people take their medicine every day, its effectiveness is great; but people don’t always take it every day. So MOTECH sends an automated message every morning at the same time to the patient: ‘Hello, did you take your medicine today? Press one for yes, press two for no.’ If they press one, that’s great. But if they press two, MOTECH sends them another message a half hour later, ‘Now, did you take your medicine?’ Press one for yes, two for no.’”
– Accion International Venture Lab, an investment fund, provides “seed capital and support to innovative financial-inclusion start-ups, fostering experimentation and promoting business models that improve financial access for people living in poverty worldwide,” according to the organization. Rhyne highlighted Venture Lab’s investment in MeraDoctor, an India-based mobile phone service that enables low-income subscribers to communicate with doctors — 24 hours a day, seven days a week — simply by using their mobile phone. Among other benefits, the doctors can then write prescriptions, provide medical counseling, correct misdiagnoses and answer other personalized questions. MeraDoctor also provides its users with health insurance, making it “a wholly new delivery system for health care,” said Rhyne.
– Opportunity International, which created a micro-insurance company called MicroEnsure, several years ago, has moved into the health insurance business in Africa and Asia. MicroEnsure now provides low-income people with insurance against flooding, drought, hospitalization and death. In Ghana, MicroEnsure provides both health and life insurance to customers of AirTel, a major provider of mobile telephony. AirTel customers can get a small health and life coverage free as part of their subscriptions, offered in conjunction with a local insurance company.