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Age of Invention: The First Intangibles Revolution
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One of the most striking economics books of the past few years is Jonathan Haskel and Stian Westlake’s Capitalism without Capital. In it, they noted a remarkable trend in many modern economies. Rather than firms investing in traditional, material assets like machines, vehicles, and factories — assets you can actually touch — more and more firms have been investing in things like software, data, design, branding, training, networks, and business processes. Modern economies have become increasingly based on intangibles. Assets you can’t touch, but which still make all the difference between failure and success.
Although intangible investment has been getting more common, it is no new thing. In fact, one of the most famous business partnerships of the British Industrial Revolution — that between Matthew Boulton and James Watt from 1775 — was originally almost entirely based on intangibles.
That probably sounds surprising. James Watt — a Scottish scientific instrument-maker, chemist and civil engineer — became most famous for his improvements to the steam engine, an almost archetypal example of physical capital. In the late 1760s he radically improved the fuel efficiency of the older Newcomen engine, and then developed ways to regulate the motions of its piston — traditionally applied only to pumping water — so that it could be suitable for directly driving machinery (I’ll write more on the invention itself soon). His partnership with Matthew Boulton, a Birmingham manufacturer of buttons, candlesticks, metal buckles and the like — then called “toys” — was also based from a large, physical site full of specialised machinery: the Soho Manufactory. On the face of it, these machines and factories all sound very traditionally tangible.
But the Soho Manufactory was largely devoted to Boulton’s other, older, and ongoing businesses, and it was only much later — over twenty years after Boulton and Watt formally became partners — that they established the Soho Foundry to manufacture the improved engines themselves. The establishment of the Soho Foundry heralded James Watt’s effective retirement, with the management of this more tangible concern largely passing to his and Boulton’s sons. And when Watt retired formally, in 1800, this coincided with the full depreciation of the intangible asset upon which he an Boulton had built their business: his patent.
Watt had first patented his improvements to the steam engine in 1769, giving him a 14-year window in which to exploit them without any legal competition. But his financial backer, John Roebuck, who had a two-thirds share in the patent, was bankrupted by his other business interests and struggled to support the engine’s development. Watt thus spent the first few years of his patent monopoly as a consultant on various civil engineering projects — canals, docks, harbours, and town water supplies — in order to make ends meet. The situation gave him little time, capital, or opportunity to exploit his steam engine patent until Roebuck was eventually persuaded to sell his two-thirds share to Matthew Boulton. With just eight years left on the patent, and having already wasted six, Boulton and Watt lobbied Parliament to grant them an extension that would allow them to bring their improvements into full use. In 1775 Watt’s patent was extended by Parliament for a further twenty-five years, to last until 1800. It was upon this unusually extended patent that they then built their unusually and explicitly intangible business.
How was it intangible? As Boulton and Watt put it themselves, “we only sell the licence for erecting our engines, and the purchaser of such licence erects his engine at his own expence.” This was their standard response to potential customers asking how much they would charge for an engine with a piston cylinder of particular dimensions. The answer was, essentially, that they didn’t actually sell physical steam engines at all, so there was no way of estimating a comparable figure. Instead, they sold licences to the improvements on a case-by-case basis — “we make an agreement for each engine distinctly” — by first working out how much fuel a standard, old-style Newcomen engine would require when put to use in that place and context, and then charging only a third of the saving in fuel that Watt’s improvements would provide. “The sum therefore to be paid during the working of any engine is not to be determined by the diameter of the cylinder, but by the quantity of coals saved and by the price of coals at the place where the engine is erected.”1 They fitted the licensed engines with meters to see how many times they had been used, sending agents to read the meters and collect their royalties every month or year, depending on the location.
This method of charging worked well for refitting existing Newcomen engines with Watt’s improvements — in those cases the savings would be obvious. It also meant that Boulton and Watt incentivised themselves to expand the total market for steam engines. The older Newcomen engines were mainly used for pumping water out of coal mines, where the coal to run them was at its cheapest. It was one of the few places where Newcomen engines were cost-effective. But for Watt and Boulton it was at the places where coals were most expensive, and where their improvements could thus make the largest fuel savings, that they could charge the highest royalties. As Boulton wrote to Watt in 1776, the licensing of an engine for the coal mine of one Sir Archibald Hope “will not be worth your attention as his coals are so very cheap.”2 It was instead at the copper and tin mines of Cornwall, where coal was often expensive, having to be transported from Wales, that the royalties would be the most profitable. As Watt put it to an old mentor of his in 1778, “our affairs in other parts of England go on very well but no part can or will pay us so well as Cornwall”.3
When Watt later developed his engines for rotary motion, for use in factories and mills, the licensing arrangements had to be slightly amended. There was no obvious way to calculate the saving compared to the old Newcomen engine, which was only ever very rarely and indirectly used for turning machinery, by pumping up water to then turn a waterwheel. Industrial machinery instead tended to use horses, either alone or in combination with other sources. Horses were by far the most reliable source of power, as the flow of a stream for water-wheels could be diminished by drought or frost, and the conditions to drive windmills could change hour by hour with the weather. Yet horses were expensive. Having a mill driven non-stop by just two horses would in practice require stabling and feeding as many as eight to ten — they needed to worked in shifts.4 Thus, for rotative engines Boulton and Watt came up with the idea of charging an annual licence fee per horse’s power (now measured in the unit we call watts, in his honour). By 1785 they were charging £5 per year per horsepower in most of England, and £6.3 in London, where the space and feed for horses was especially expensive and so the saving by not having them all the greater.5
Boulton and Watt’s savings-based subscription fees built trust in their improvements by explicitly aligning the partnership’s incentives with those of their customers. If the customer made no savings by investing in the new engines, then Boulton and Watt made no money. This was an important consideration given the general resistance to investing in expensive and newfangled machinery. As Watt complained to a friend in 1779, “none … will be drove out of the least iota of their present practice though an Apostle came to teach them — I have been one of these foolish people who have undertaken to teach people how to do better and have found it a most difficult enterprise”.6
The fee structure helped to reduce scepticism, but the partners still had to invest a lot in building up — and then maintaining — the improved engine’s brand. They were careful in choosing their early clients, finding projects that would stand out for an entire affected industry or region, and stressing wider benefits. Watt calculated and publicised, for example, that thanks to his engine Albion Mill in London had reduced the price of flour by on average three quarters of a penny per, thereby saving the entire city’s population about £200,000 per year.7
Although the savings-based licence fees were the main plank of their business, most customers lacked the knowledge of connections to erect the engines themselves. So in addition to their basic licence fees, Boulton and Watt also offered paid consultancy and management services, advising on the dimensions of the intended engines themselves, hiring out their own experts to help assemble the engines on-site, and coordinating all the necessary suppliers of parts — especially John “Iron Mad” Wilkinson, who had the best technique for accurately boring cylinders. The prospective customer could of course try to go it alone, using their own engineers and finding their own suppliers, but for such highly specialised and novel machinery it would be extremely daunting. Boulton and Watt may not technically have sold steam engines, but it was almost impossible to install their improved type without them — all the better, too, for the partners to uphold the brand by controlling the quality of the workmanship and materials.
Like so many modern intangibles-based businesses, Boulton and Watt’s partnership thus largely rested on research, design, training, networks, branding, and above all intellectual property. The overriding threat to their business came from pirated versions of their engines, with some trained assembly engineers going rogue and potentially bringing their improvements into disrepute, as well as from people refusing to recognise the legality of their patent. Boulton and Watt were understandably quick to enforce their patent because their entire business depended on it. Piracy and litigation seem to have been a major and literal headache for Watt, who seems to have been constantly beset by migraines and other illnesses.
For all the troubles within Britain, however, they were nothing compared to those abroad. In France in 1778, Boulton and Watt were induced by a kind of temporary protection called an arrêt de conseil to put some working engines into practice, as a condition before being granted a full patent.8 But the French authorities then suddenly decided to pull the rug on them: “as soon as they got us to erect some for them they told us the arrêt was of no validity and even insisted on our giving up the names of the ministers who granted it and the friends who solicited it, that the granting it might be brought as a crime against them”.9 Thereafter, the partners were a lot more cautious about sending their improvement anywhere else abroad — a full patent absolutely had to come first.
Had Boulton and Watt’s intangibles-based business model been better-supported abroad, perhaps steam engines would have spread much faster outside of Britain — especially considering other countries’ often higher fuel costs, which had been a barrier to the adoption of the fuel-guzzling Newcomen engine, but which would have made them all the more lucrative to the partners. Boulton and Watt would have been thoroughly incentivised to install their engines abroad, and it’s striking just how quickly they had pounced on the French market before being blocked. As Haskel and Westlake argued in their follow-up book, Restarting the Future, many of our recent economic problems — particularly lacklustre growth — may ultimately stem from the failures of laws, regulations, financial systems, and intellectual property regimes to sustain the growth of an increasingly intangibles-heavy economy. Boulton and Watt, as pioneers of intangibles at the dawn of modern economic growth, would very probably agree. France’s failure to support them may well have cost it a quicker catch-up to Britain’s steam-powered Industrial Revolution too.
This post, as part of my occasional series on the history of energy and the shift towards fossil fuels, was supported by Carbon Upcycling Technologies. The series will soon be entering a new phase focusing topics like glass and waste.
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Jan Adrianus Verbruggen, ‘The correspondence of Jan Daniël Huichelbos van Liender with James Watt: supplemented by a few related documents’ (PhD thesis, Universiteit Twente, 2005), p.22 — this is a fantastic thesis, as well as being a very thorough collection of transcribed primary documents relating to how the steam engine came to the Netherlands.
Eric Robinson, Partners in Science: Letters of James Watt and Joseph Black (Harvard University Press, 1970), p.42