by: Professor Shlomo Maital and Brendan Cahill

Far too many companies are taking the low road to Profitland. This is true of the US, Britain and continental Europe. And the long-run consequences for the citizens, workers and, ultimately, owners of capital in these countries are dire. There is a high road-and it must be taken, before it is too late. Directors can and must play a key role in this. 

The low road is one where jobs are exported to Asia, especially China, to take advantage of high labour productivity there relative to wages. Take, for instance,  the US-there are powerful lessons British directors can learn from it.

Before-tax corporate profits in the US have doubled in the past three years and now approach $2trn. As a result, the Dow Jones Industrial Average has gone up 50%since January 2003 and is now at an all-time high. Between 2000 and 2006, the workforce of the US's largest 500 companies rose by a mere 3.6%, while profits rose by fully 80% and revenues rose 39%. 

How can a debt-riddled, deficit-bound, non-saving economy continue to grow and thrive? Why is the US "micro" economy-its businesses-so good, while the macro' economy seems so bad? The answer is productivity gains driven by global deployment. American firms have deployed their production and suppliers abroad. They have taken the low road. And why not, when, for instance, output per worker in China (in 1990 prices) tripled, from about $3,000 in 1990 to over $10,000 in 2006, while wages rose far more slowly. The International Labour Office notes that China's productivity boom coincided with "surging enrolments in its secondary schools and universities."

This low road brings large profits to owners of capital, but ruins the livelihood of millions of workers at home. Incidentally, MIT Professor Paul Samuelson, Nobel laureate, recently proved that the Econ-101 statement that everyone wins from comparative advantage and free trade is false. In many cases, there are losers.

Should directors, who represent the owners of capital, care? Indeed they should. Because in the long run, impoverishing workers will erode the vital win-win collaboration between labour and capital. If British and Chinese workers' productivity is equal, then British workers will in the long run earn Chinese wages. This cannot be desirable-no economy prevails over time, or even endures, without social cohesion.  

Where, then, is the high road? The high road is one where dynamic companies constantly measure their productivity at home and act to raise it, through innovation, incentives, and human capital improvement. If British workers are 10 times more productive and five times more expensive than Chinese workers, they will have a two-to-one cost advantage. They will retain their high wages, and even improve them, while their employers will remain profitable and competitive. This should be the Holy Grail of far-sighted management and the directors who guide them. This is the high road. 

Productivity measures
We've developed a measure called "bottom-line productivity" that determines the degree to which companies boost their output and sales without raising either headcount or capital. This notion, better known to economists as total factor productivity (TFP), was developed 50 years ago by MIT Professor Robert Solow in order to measure national productivity. It is a powerful tool for measuring, and improving, individual business productivity. After all, finding "free lunches" leads directly to bottom-line gains and thus higher share prices. It means higher wages do not come at the expense of lower profits, because they are offset by greater productivity. 

This year's first annual Trinity Horne study of bottom-line productivity growth for FTSE-100 companies is highly revealing. It shows that, on average, in 2006 these companies raised their TFP by 5.7%. Yet, overall, Britain's workers are still 13 to 20 % less productive than their counterparts in the US, Germany and France. And 20 companies had no productivity growth at all.

The TFP measure aims to stimulate insightful questions, one of which is, what drives productivity growth? Take the US: for the period 2000-2005 free-lunch productivity gains averaged 2.3% annually, worth over $1trn. But many of those gains were due to supply-chain savings driven by Asian outsourcing and deployment.  

Does it matter? Indeed it does. Former US labour secretary Robert Reich once wrote a powerful article on corporate nationality, "Who is Us?" Is Intel an American company? Is Wal-Mart? Intel is headquartered in California, its shareholders are 80 per cent American-but its manufacturing plants are sited in Ireland, Israel, Malaysia and elsewhere. And Wal-Mart has more than 5,000 Chinese suppliers and its imports account for a major fraction of all American imports from China.   

Is Honda an American company? It is owned and run by the Japanese but it has US-based plants that provide employment and high wages for thousands of Americans, and its exports are listed as US exports. "Us" is a business that makes the families, consumers, workers and owners of capital of its home country more prosperous, in the long run, no matter who owns its shares.

Collective thinking
UK directors could define "us" to include British labour, as well as capital, and should actively seek to build total factor productivity growth at home, in addition to leveraging such productivity growth abroad.    

Successful companies are those that increase revenues without incremental increases in labour or capital. Examples do exist: BT Retail's back-office operations recently achieved 37 per cent productivity improvement through the application of a robust management framework and a zealous focus on individual and team productivity. Fujitsu's defence division has achieved similarly remarkable bottom-line gains in parallel to delivering double digit improvements in service performance.

For too long, productivity has had bad press. To be competitive, innovation and efficiency need constant attention-and not just in the minds of directors. From the top to the bottom of an organisation, a different, more inclusive focus on productivity is required.

With it will come not just increased competitiveness and profits but also greater job security and the satisfaction associated with doing a good job even better. It is this vital win-win collaboration between labour and capital that good companies harness to the benefit of themselves and the economy as a whole.

Let far-sighted directors make productivity growth a top priority. Let them measure it constantly, and insist that every business unit measure and report its TFP productivity growth quarterly. Let them demand that senior managers drive higher productivity the hard way-by boosting local workers' productivity as well as leveraging that of foreign workers. Let them press government ministries to embrace human-capital policies that help achieve this goal.   

If they do, the owners of capital will reach Profitland-and so will the providers of labour. The high road, in the end, is also the just one, and the most enduring.

Brendan Cahill is the CEO of consulting company Trinity Horne. Professor Shlomo Maital is a former Visiting Professor of Economics at MIT. Together they worked to develop and launch the Trinity Horne TFP Index(c) of FTSE 100 companies. www.tfpindex.com