Clarifying Innovation for Success

Bloomberg BusinessWeek

You can't manage innovation if you don't clearly understand what it is. Start by distinguishing new-business innovation from core-businesss innovation, says Innosight's Mark W. Johnson.

By Mark W. Johnson

Far from being an occasional creative eruption, innovation is the engine of long-term business growth. To generate consistent returns and sustain performance, companies must continually refresh their portfolio of offerings and the business models that drive them.

With so much at stake, innovation can't be a hit-or-miss proposition based on vague prescriptions about fostering creativity. It must be managed like any other key process of the company. Before you can manage it, you must understand what it is—and isn't.

What I mean by innovation can be summed up in three words: newness, commercialization, and impact. Newness isn't limited to a product. What's new could be a product, service, process, business model, or some combination of them all. Think of making medical counseling services and products for managing diabetes more available and affordable at pharmacies (many of which operate 24 hours a day) rather than at inconvenient and expensive doctors' offices. Or think of the way Apple's (AAPL) groundbreaking iPod hardware and the iTunes business model work together to reconfigure the way music is consumed.

If a new offering isn't commercialized in some way, it remains an invention, not an innovation. The light bulb was an invention. The network of generators, meters, transmission lines, substations, and the light bulb—all of which Edison combined into a profitable new business—was an innovation. Too often what companies think of as innovation efforts are really isolated invention initiatives that, in lieu of institutional support from the parent company to find a path to market, are doomed practically from the start.

INNOVATING CORE BUSINESS VS. NEW ONE

Inventions that have no impact on people have little chance of becoming innovations. Neither do inventions that make no impact on a company's bottom line. To have impact for consumers, the innovation should offer a way to do a key task that has previously frustrated them. Smartphones went beyond cell phones by enabling users to organize their lives on the go, use downtime productively, and access all sorts of media. To have impact for the pioneering company, the innovation needs to deliver real revenue growth and real returns. Think about the revenue potential of bringing a billion people in India an affordable and effective way to store food at home, as the consumer durables company Godrej & Boyce is now trying to do with a $70 ChotuKool, a device whose sophisticated, solid-state cooling technology can keep drinks cold and preserve leftovers safely for the next day's meal, independent of the unpredictable and costly Indian electric grid.

It's also critical to understand that innovation occurs in two distinctly different circumstances. In either of them, it can be groundbreakingly inventive. The distinction rests on the strategic role the innovation plays. Simply put, some innovations will be about strengthening and sustaining the core business, while others represent a move toward creating a new business.

For decades, Boeing (BA) has been innovating in its core business. The company has produced a string of airliners, each representing significant advances over the previous generation. The progression of the model numbers themselves—727, 737, and so on, up to today's 787—suggests the clear line of continuous innovation in a core business. At the same time, the company has been feeding such innovations back into previous models, updating and improving them. For most companies, 90 percent of innovation will be of this continuous kind.

New-business innovations take the company into novel territory, such as creating a new value proposition for a new market, transforming the core business to address commoditization, or addressing an industry disruption.

Computermaker Apple set itself on a fundamentally new course when it burst onto the music scene with the iPod/iTunes innovation.

HOW TO MANAGE INNOVATION EFFECTIVELY

Some innovations not only disrupt the external market but also disrupt the existing core business, requiring changes to the business model and presenting organizational challenges to execute. Kodak (EK) invented digital photography, which was so at odds with its film-based profit model that it took decades for the company to successfully commercialize the invention.

Core innovation thrives under the management systems already in place in the core business, but new-business innovation needs to be managed with an entirely different approach.

• Process. In core-business innovation, the ratio of knowledge to assumptions is high. You already know much about the market, the customer's needs, the competition, and your capabilities. Extending that knowledge to bring something new to the market requires relatively few assumptions about the viability of the idea. Therefore the process for pursuing the innovation should focus on execution and the deliberate extension from the core.

In new-business innovation, the ratio of knowledge to assumptions is reversed. There is much you don't know and much that must be assumed. The innovation process will involve uncovering and testing assumptions, controlled experimentation, and flexibility in learning from that experience. Typically, new-business innovation fails because assumptions are viewed as fact. The company doesn't work hard enough to validate them before committing enormous resources—or walking away from something that could have been highly successful if properly modified.

• Governance and team structure. The traditional functionally organized structure and governance should be applied to core business innovation, while a small, self-contained team made up of entrepreneurial generalists is more appropriate for new-business innovation.

• Customer. Extensions of the core business are generally aimed at a mass market and seek to drive the new offering to scale as soon as possible. Armed with a high degree of knowledge and existing capabilities, the company can move with confidence to achieve scale. The new-business approach seeks targeted foothold markets where assumptions can be tested quickly at low cost on a small group of representative customers.

• Business rhythm. Driving a core business innovation to scale requires volume forecasting and financial metrics that keep things moving with deliberate speed toward market share and revenue growth, with profits to follow.

New-business innovations often go down in flames because they mistakenly ape the core-business approach. They push for scale too soon, overinvest in imperfect assumptions, and lack the patience to let the business grow at a manageable pace. Instead of pushing for early revenues, they should focus on delivering value to the customer and on early profits in a foothold market. Above all, new business innovation should be managed with patience, scaling up in a measured way only when the soundness of the value proposition has been clearly demonstrated.

• Value chain. Existing channels and partners usually suffice for an extension of the core business, while new-business innovation often calls for custom-designed partnerships.

F. Scott Fitzgerald observed: "The test of a first-rate intelligence is the ability to hold two opposed ideas in the mind at the same time and still retain the ability to function." The test of a first-rate company is the ability to manage and institutionalize both kinds of innovation at the same time—and not only function, but thrive.