By John J. Sviokla
Samurai Miyamoto Musashi was a great innovator. His two-sword (nitojutsu) style of fighting made him victorious in many battles, including 60 duels. He was also an accomplished calligrapher, sculptor, and part-time architect. Historians wonder whether this samurai’s ability to balance hard fighting skills and artistic intellect enabled him to be a dominant force in the clan wars that characterized the tumultuous world of his time.
Fast forward to today. Successful leaders in the post-crisis economy also will need to strike a balance by simultaneously innovating for long-term differentiation and short-term efficiency. Like Miyamoto Musashi, to succeed in a changing world, today’s leaders must excel at their core capabilities while cultivating broad skills and understanding in others, most important, in their senior executive teams.
What characterizes the post-crisis economy? Our research suggests that a number of fundamental shifts are altering the nature of global commerce. In consumer markets, the shift is from Western to Eastern dominance, where the majority of growth is occurring. Resources that once were plentiful are becoming scarce. More countries are continuing to move away from planned economies to quasi-marketor market-based systems of competition. In short, we are seeing a set of major shifts that are changing the underlying structure of competition on the world stage and establishing a new playing field.
As a strategy designed to help companies succeed in this new environment, innovation is rising to the fore. According to PwC’s 14th Annual Global CEO Survey, innovation has gained prominence among global chief executives’ strategic priorities as a means of boosting revenues and reducing costs. In fact, for the first time, CEOs say they are just as likely to focus on innovation to achieve growth as on exploiting existing markets. (See Figure 1.) But approaches to innovation need to keep pace with the dramatic changes occurring in the global business landscape. No longer focused on generic products and services suited to all markets, CEOs are basing their innovation efforts on their customers’ needs, wherever in the world those customers happen to be. According to our survey, they are using innovation to win battles on two fronts by simultaneously increasing new revenues and driving efficiencies.
When people and companies face tumultuous environments, a normal reaction is to retreat to the known, nervously hoping that change will mercifully pass by without effect. But this is a dangerous assumption. We now inhabit a world where threats may arise quickly and unpredictably.
Take the case of a conglomerate based in a developing nation that created a refrigerator specifically for the rural residents of its home country. The unit employs innovative technology to maximize affordability and functionality, relative to other goods in its class. Low-cost products such as this will benefit the more than two billion developing-world consumers who have a limited amount of money to spend. While competitors in the cooler or fridge business need to take heed, companies in any industry that are not paying attention to similar developments may be blindsided by a disruptive innovator who resets the competitive rules, sometimes almost by accident. This is why CEOs believe innovation is critical to their near-term success.
These six tensions present core tests for leadership; admittedly, within each it is difficult to accomplish both objectives. But if you understand the tensions it can be done. The leading firms navigate these complexities by combining action, culture, and performance to deliver ongoing innovation and value creation. That is, they understand the essential paradox of innovation: Because it injects tension into the organization, innovation is always at odds with the key executive’s job, which, paradoxically, is to foster that very tension. So, innovation can succeed only when there is a will to do it, an environment that fosters it, and the talent necessary to get it done. With increasing global competition and accelerated commercial improvement, more firms than ever have realized the urgent need to master these tensions, and to do so sooner rather than later.
Why is embracing both radical and incremental innovation hard? There are many reasons; first among them is that when radical innovation is on the table, the tendency is to treat it like incremental innovation, because that is the comfort zone where measurement is easy and return on investment is predictable. After all, most business school curriculums and management training programs foster such an approach. The result is that companies reward those who make the current organization run smoothly. Many of today’s leaders rose to the top by playing the existing game better than anybody else. Distribution partners, and even customers, prefer the traditional path because they want tried-and-true solutions, products, and services. Unfortunately, those attitudes, while necessary under certain circumstances, are anti-innovation. I suspect that if a major music label that serves artists had gone to its customers back in the 1990s with a value proposition of selling one song at a time instead of selling complete albums, their talent would have rejected the idea. Apple succeeded in doing this very thing because it had no vested customers in the music market.
When it comes to innovation, companies need to decide how to strike a balance between managing the process and leading the context. If you read scores of books on innovation, the image of a funnel will be embedded in your mind. This funnel begins with idea creation, progresses through selection and testing, and terminates with scaling. Most of the books will also speak to the importance of managing a portfolio of innovations—because, as with any investment, investors in innovation should diversify their risks.
All organizations need a funnel for innovation. The easiest way to understand this is to ask a simple question: If someone in an organization has a great idea, does that person know where to take it? If the answer is no, then the organization’s innovation process needs improvement. My colleagues and I recently conducted a survey of more than 5,000 employees of a global insurance carrier, and we found that they wanted to innovate. They also believed that their organization could innovate, but they did not know where to take their innovative ideas, and they did not have faith that the organization could manage the process of listening to new ideas, sorting them, funding them, and building them. These attitudes indicate that this company, like many firms, does not have the fundamental funnel process in place. Leadership, whose job it is to fix this problem, can do so by applying the focus, analysis, money, and commitment required.
But that’s the easy part. The trickier part is leading the context of a company’s top executives, their management teams, and their organizations. This involves several fundamental questions leadership needs to ask and answer: Am I hearing the best ideas? Are my people plugged in to the fact that a breakthrough idea may be coming from anywhere? Can I see what might strike our industry from an entirely different angle?
Other critical questions are: What ideas do we consider? Whom do we interact with? Whom do we do business with? Put another way, the innovation space that a firm occupies is bounded by what the organization “thinks,” by the people with whom the organization regularly interacts, and by the customers with whom it does business. If a company’s innovators compare their organization with others in its industry, that company’s innovation will be constrained by what those innovators know. If they are in dialogue with those outside their firm, industry, and social sphere, the chances of innovating are better. A look at the history of entrepreneurs shows that they have deep hobbies and passions outside of work that find their way into new inventions or ideas. As with samurai Miyamoto Musashi mentioned earlier, a broad context can lead to competitive advantage.
Despite what pundits say, organizations need not tolerate failure in order to innovate. The problem is not tolerating failure. Rather, it is a matter of understanding that no revolutionary approach that I know of has ever been right the first time. Senior executive teams that understand innovation also understand how to make an innovative difference in the marketplace. They know that even as the teams in the firm create new and improved ways of doing things— everything from checking out at the local supermarket to improving the interface to a car’s navigation system—there will be from time to time a revolutionary approach to the market that might not immediately go as planned. It is this type of noble failure—well executed and seeking great value—that should be tolerated.
Let me offer an example involving Dave Pottruck and Charles Schwab, at the time, co-CEOs of Schwab, a major investmentservices company. The organization was trying to create a no-load mutual fund marketplace. Schwab had invested millions of dollars in the platform, which allowed them to enable a customer to have multiple accounts across many mutual fund providers. Despite the fact that Schwab had collected almost $2 billion in assets on this new platform over an eight-year period, it was not the game changer that management expected. Yet, the firm continued to invest and to try to figure out how to make this good idea into a great idea.
Pottruck and Schwab decided to do an experiment in which the firm did not charge its customers anything to purchase a new mutual fund within its portal. This was radical because, at the time, investors who wanted to purchase new funds were required to pay a Schwab transaction fee to purchase a third-party no-load fund. Without yet having any other sources of revenue associated with these transactions, Schwab waived its fees at these test branches to see what customers would do. They found that customers flocked to Schwab because they had enormous choice without any extra costs. Schwab then used this experience of enhanced volumes to negotiate with a pilot group of no-load funds to absorb Schwab’s fees. Thus, the No-Fee, No-Load Mutual Fund Marketplace was born. The idea was a huge success, resulting in the firm’s garnering hundreds of billions in assets. Pottruck and Schwab had in effect changed the entire nature of the pricing and power structure in its industry—and almost all companies have followed suit. However, as Pottruck is quick to note, they had it wrong for years before they got it right. In other words, they were willing to tolerate what Pottruck calls “noble failure” on their way to success. That is the challenge for senior management.
There is much energy around the notion of open innovation, and the stories are compelling. One need only look at iTunes, or talk with an executive at Procter & Gamble (P&G) to see the power of involving customers, suppliers, traditional partners, and even some non-traditional ones in the process of innovating. As the saying goes, “No one is as smart as everyone.” At the same time, great fortunes are made in types of businesses that are extremely closed, from investment banking, to drug creation, to computer software. Many institutions aggressively protect their intellectual property and stop others from using it—often to great advantage.
So, even in this world of increasing openness there is a very valuable role for a closed approach when it comes to innovation. In determining how to achieve the right balance of open and closed innovation, there are three key questions to consider: 1) What parts of the project are open to whom? 2) For what purpose? 3) Who gets to extract the value?
For a detailed discussion of each of these questions, see Two views.
Most large organizations acquire that which they cannot build. Whether it is Google buying YouTube for $1.65 billion in stock back in 2006, or P&G purchasing Gillette, a robust and continuing appetite exists for organizations to acquire their innovation in addition to building it. It is vital for senior executives to keep in mind the ability to bring in, through investment, that which cannot be homegrown. Some organizations buy others to acquire strategic capacity. Others do it to grab a position in a growing market before it is too late. Still others acquire to expand their product lines.
The vital insight in this increasingly competitive environment is to keep in mind that all innovation decisions are also build-versus-buy decisions. It is almost always possible to acquire the innovation you might want, or at least the germ of an innovation that your organization needs. For most companies, it takes an enormous amount of managerial courage to acquire an organization within their “sweet spots” because of the underlying fear that they have been bested on their core turf. It is vital for all organizations, as they look at their own innovative capacity, to decide if they are better off living with the known risks of acquisition and integration. And they are manifest. For example, “US sources place merger failure rates as high as 80% and evidence indicates that around half of mergers fail to meet financial expectations.”² Nevertheless, acquisition is always on the table—especially in a fast-moving world of competitive options.
The final, and perhaps most difficult challenge for senior executives is determining whether an organization needs one innovation process or two. In my experience, it is not possible for the same people, same investment committee, or same set of partners to create both incremental and radical innovation. Or at least, it is very unlikely. Companies that are still run by their founders often are willing to fund new, breakthrough initiatives. Some, like George Hatsopoulos, the founder of Thermo Electron, would spin out a new business every time someone had a good idea, and between spin-outs and acquisitions, the group grew to a few hundred companies. He managed to create an organization that delivered enormous value over the years. In addition, a robust mechanism existed to fund the new companies with capital from the core company—allowing everyone to prosper. This innovative structure allowed Thermo Electron for a time to grow into a massively profitable, multi-billion dollar company.
More simply, it is possible for an executive team to have a healthy and vigorous internal process for incremental and sustaining improvements, and, at the same time, have a different process for radical improvement or change. As a general rule, the existing capital budgeting and assessment systems of an organization are very good at incremental innovations but terrible at radical ones. The implementation approach for incremental innovations is one that is compatible with an existing company’s systems, but more radical innovations often need a separate structure so that the “mother ship” does not overwhelm the effort. Many seasoned executives are accustomed to separating out new and different business ideas so that they have an ability to germinate outside the “normal” process.
In general, those executives who want both incremental and radical innovation must be willing to have two innovation processes, or at least an ability to craft a unique solution when a product is created that has the potential to disrupt an entire industry. Also, management needs to be willing to tolerate noble failure from these more radically minded groups—as long as they have not had a failure of concept or execution. These might be on their way to figuring out how to reconfigure an industry.
Based on my experience helping companies to innovate, the challenge for the senior executive team is threefold. First they must decide how much they need to innovate and where growth will come from. Second, they need to create an innovation process, if one does not already exist. Third, and most important as well as difficult, management needs to assess where they are in terms of the six aspects of innovation I’ve discussed in this article.
The real leadership challenge is to understand how to achieve the right balance for any organization in its particular setting. The important thing to remember is this: Innovation is coming to every industry; faster, and with more vengeance than ever before. With regard to innovation, the good news is capitalism is winning. Ironically, that’s also the bad news.
Technology and globalization have combined in a crucible from which have sprung vast new networks of supply and demand. People and ideas are more connected and are moving faster than ever before. Growth is a given, and everyone wants a piece of the action. This makes for a vibrant but also hyper-competitive business landscape. And there’s no going back.
But the trajectory is clear. On one hand, as competition heats up, customers will be rewarded by continuing to get more for less. On the other hand, companies that innovate successfully will reward their shareholders as well. But there’s another group of companies, an elite group, if you will, that brings something more to the table in the form of a legacy of curiosity and experimentation.
Leaders who leave behind a legacy of didactic thinking and normative advice are doing their organizations a huge disservice by dooming them to a future of mediocrity. Leaders who prepare their organizations for the future by leaving behind a legacy of inquisitiveness and bold thinking assure their companies a lifetime of success.
As Miyamoto Musashi noted, leaders must take a close view of distant things and a distanced view of close things. The speed of innovation and improvement is increasing— a phenomenon called the law of accelerating returns. In response, the best leaders are looking again at the innovation balance of their organizations and making sure that they are prepared to encounter both the promise and the peril of a world that is changing faster than ever before. Are you among them?
At Health Care Service Corporation (HCSC), the country’s largest customerowned health insurer, innovation is not a luxury—it’s a necessity. Healthcare reform and changing customer expectations are just two of the challenges facing large organizations like HCSC and their customers. Another is rapidly rising costs. As Paul Nutting, HCSC’s senior director, electronic commerce notes, “If we don’t innovate, rising costs become a problem for everybody. Large employers cannot afford continuous cost increases and still compete in their markets. So for us as an organization, we have to innovate just to stay in business.”
In response to these challenges, HCSC has launched an innovation program that it hopes will fundamentally change the way healthcare is delivered. A key aspect of the program is technology innovation with a particular focus on mobile and social media. Addison McGuffin, HCSC’s vice president, business technology innovation explains why: “Children today can’t remember a time when there wasn’t a Facebook or an Internet. We have to be able to connect with that new consumer and understand their priorities.”
After considering a number of alternatives, the mobile platform seemed the best means of achieving that goal. As Nutting sees it, the mobile platform offers a unique opportunity for HCSC to engage with its customers and take costs out of the system. “Almost everyone has a mobile device that is dramatically accelerating communication and connectivity,” he says. “When we looked at our capabilities and at what we wanted to achieve, the mobile platform seemed the logical choice.”
Today, HCSC is focusing on using mobile devices to help physicians get the information and tools they need to provide personalized and cost-efficient care. They are also developing mobile applications that help people better manage and track their illnesses, which is information they can share with their physicians. According to Nutting, these capabilities working together can start to dramatically change how healthcare is delivered, can help to keep people healthier by encouraging and enabling prevention, and can significantly reduce costs. “These things are a small subset of the innovation going on in healthcare,” he says, “but they are enabling other things that will fundamentally change the system. Everybody will benefit.”
While using technology in a new way means big changes for HCSC’s customers, it also means a radical shift for the company itself and for the healthcare industry. Nutting explains: “We’ve always focused on providing innovative solutions and services to our customers, and now technology is helping us to do that quicker and better. These tools are intended to empower our members with better information and to become better consumers of healthcare.”
HCSC’s mobile innovations include public sites that allow customers to shop for insurance and to find physicians and hospitals. Features include the ability to check on claims and other coverage matters and to access information on specific conditions such as maternity care and on managing specific diseases such as diabetes. “We’re using Facebook, YouTube, and Twitter to take customer engagement to another level,” says McGuffin. “We want to stay connected to our customers. Our objective is to be a partner for life.”