Disruptive Innovation as Part of a Competitive Revectoring Strategy: Nokia

The heightened competitiveness of smartphones in the developed markets is motivating vendors to expand into emerging markets (EMs). At the 2014 Mobile World Congress, the largest annual mobile conference in the world, at least a half-dozen of the world's most recognizable technology brands highlighted their low-end smartphones targeted at EMs.

Growth in smartphone sales is expected to slow as the devices start to reach the saturation point in developed countries in North America and Europe, so the mobile industry is looking toward China, Latin America, and other underdeveloped parts of the world for greater market expansion and growth.⁷

Let's take a look at Nokia as an example of one such mobile phone company. Nokia was a premium brand in the cellphone industry and rebranded its products for EMs (before its acquisition by Microsoft).

After Nokia was bought by Microsoft, it continued to sell its EM phones as an independent unit. In fact, Microsoft's intention in acquiring Nokia was to gain access to the more than 1 billion people in this new market.⁸

Nokia had targeted EMs with three low-cost smartphones. “More and more people are buying smartphones for less than 100 euros,” said Stephen Elop, Nokia executive vice president. “That sub-100 range is a massive opportunity for us. According to analysts, it will grow four times as fast as rest of the smartphone market.”⁹

This move by Nokia to create disruptive innovation for EMs is not only a market-expansion strategy, but also a competitive revectoring strategy. How do you compete in a highly competitive industry? You select a new customer base and move laterally and downward.

Disruptive Innovation as Part of a Survival Strategy: BlackBerry and HTC

Another example of a company whose sales have been declining in developed countries and which is going after developing markets for survival is the Canadian company RIM (Research in Motion), makers of the once popular BlackBerry. (The company is now known as BlackBerry Limited.)

Emerging markets are one of the few bright spots BlackBerry has left. In 2014, Blackberry launched the cost-conscious Z3 phone in Indonesia, priced at less than $200. The initial release was a success, as demand exceeded supply. The Z3 was also distributed in India, Malaysia, the United Arab Emirates, the Philippines, Singapore, and Saudi Arabia. The production deal with (China-based) Foxconn Technology Group was also signed to help cut costs and reduce BlackBerry's inventory risk.

Meanwhile, even though HTC executives have said that building a premium brand will be key to getting back into the black, the struggling Taiwanese smartphone maker has gone after the low-end market as well.

“There's a huge opportunity in the middle of the market,” said Peter Chou, CEO of HTC. “Many people want to have an affordable smartphone that does not compromise.”¹¹

Certainly the profit margins aren't as attractive, but companies often look at EMs as an investment in the future. The thinking goes: If your brand becomes big in say, Indonesia, customers there will be willing to pay more for your phones when they have the money.

Disruptive Innovation as Part of a Long-Term Strategy and Vision: Facebook, Safaricom, and Tata Motors

As mentioned in previous chapters, a key success factor in the pursuit of emerging markets is a long-term vision and enduring commitment, regardless of low returns in the short term. The following are some examples of companies that practice this.

How Do You Discover a Disruptive Innovation?

Clayton Christensen, the aforementioned originator of the disruptive innovation theory, states that the same behaviors that sustain a company—listening to customers and investing in innovations to meet those customers' needs—can also lead to failure. Focusing too heavily on current customers' needs can blind the company to a disruptive innovation, one that starts in new markets and changes the way customers perceive the current product.

“You need to be very observant about what people are trying to do—not what they say they wish they were doing,” says Christensen. “If you can facilitate what they're already doing, your disruption has a better chance of success.”¹⁴

He postulates that you have to do more than listen to your customer and take it one step further. You have to observe your customer. The next disruptive discovery may be what customers don't yet know they need (or want). Did the world know that they needed an iPod?

How to Maximize Your Disruption Success

Intel's process for successfully exploring disruptive innovations involves making sure the employees speak the same language. As former CEO Andy Grove explained, the company used disruptive innovation models as the basis for a common language and a common way to frame a problem so that that employees could reach a counterintuitive course of action. “You just need to teach them how to think differently about the problem,” he said. “Otherwise, they kept looking at things in the same way that they always had, and therefore, not achieving any new or different results.”¹⁵ In other words, if the employees don't know how to frame the problem, teach them how to think differently about the problem.

Here are some other tactics and examples to facilitate success with disruptive innovation:

Change the Usual Approach and Push beyond Core Competencies

1. Amazon.com has created new businesses in retailing, e-readers, and cloud computing over the last decade. How did it do this? It came from the top down with the edict of the founder and CEO Jeff Bezos, who said, “If you want to really continually revitalize the service you provide to the customer, you can't stop at ‘What are we good at?’ You have to ask ‘What do our customers need and want?’ And no matter how hard it is, you better get good at those things.” Pushing boundaries helps companies spot disruptive signals early.¹⁶

Consider Ways to Create, Capture, and Deliver Value

1. Apple's market cap went from $3 billion to $340 billion in a decade. Why? It introduced new computing and other devices, as well as iTunes, the App Store, new pricing models, and innovative retail stores, which have all been central to its success.

Adopt a Customer Focus

1. What does your customer need and want? Know what your customers want before they do. Figure out the new innovation for a new market before your competition. For example, consider developed versus developing markets—what do they need that is different?

Observe and Ask (Observational Aha's)

1. Determine whether there may be a population out there who can't do something because the current solution is too expensive or requires too much education. Or consider whether there are people who can do something but can't do it in a context that is convenient.

An example of an innovation that addressed the latter is fast food, which made eating out more affordable and convenient for a larger population of people, including those in a rush.

The following is an example of how Intuit stumbled upon a disruptive innovation simply by observing users.

The Threat

Reverse innovation has the potential to redistribute power and wealth to countries and companies that understand how to do it and to diminish those that do not. Conceivably, it could accelerate the rise of developing countries and the decline of developed nations.¹⁸

Problems with the Current Approach

Western companies are poorly positioned to capture the market potential of billions of EM consumers. U.S. companies are trying to find opportunities in EMs, using American logic (in other words applying their usual way of doing business) and failing miserably.

To date, multinational companies have taken their approach toward global expansion through a strategy called glocalization; as mentioned before, you might think of it as recycling. Having developed great offerings for their home markets, Western companies modify them, often by stripping off many of their features, and then distribute the products around the world at lower price points.

While glocalization has been somewhat successful in reaching the top segments of the market in developing nations, most of the growth opportunities in EM countries are not at the top but in the middle market and below. If you want to succeed in EMs, you must innovate for them. And, ultimately, innovations developed for emerging economies can be extended to other markets, including those in the developed world.

Market Segmentation

For most multinationals, glocalization will continue to deliver the bulk of their profits for a long time to come. However, it needs to be intertwined with, and supportive of, reverse innovation, which will lead companies into new ways of doing business and new areas of growth.

Essentially this comes back to our market-segmentation model. Segmentation slices are represented by developed markets, the high end of developing markets, and the middle and lower ends of developing markets. You must recognize that there are different tiers of customer classes and modify your strategy accordingly.

Cannibalization

I hear the alarm bells going off…why would I want to cannibalize my own high-end market by bringing these lower priced, lower-end reverse innovations or products back to my already profitable domestic market?

Cannibalization is a valid concern.¹⁹ One argument holds that if you don't cannibalize yourself someone else will do it for you. On the other hand, if you are first to get a product to market, you can control the rate of cannibalization—at least until a rival arrives with a similar offering.

The truth of the matter is, complete cannibalization is highly unlikely because reverse innovations usually can't fully duplicate the performance and functionality of existing products. There is generally room for both old and new to coexist, particularly as refined market segmentation and targeted marketing campaigns are created.

Nevertheless, company leaders still worry about failure and are concerned that the risk is too high. They believe it is too difficult to make money and that reverse innovation is too different from what they are good at.

Govindarajan and Trimble outline three specific fears about implementing this strategy:

1. Margins will inevitably be too low for us to make money.²⁰

   This concern doesn't equate with actual experience. Executives in global corporations anticipate lower margins in emerging economies only because these business leaders are accustomed to glocalization. Reverse innovation is different. It implies redesign, of both the offering and its cost structure. It is entirely possible to earn the same or even better margins on a radically redesigned, ultra-low-cost product.

   Furthermore, margins are just one component of financial performance. Even if the gross margin percentage is lower, fixed costs in poor countries are relatively low and volumes are potentially much higher. Thus, operating margins and return on investment may actually be comparable or better.

2. We'd put our premium brand at risk or cannibalize sales of our premium offerings if we compete in a low-cost market.

   Yes, these are genuine concerns, but they can be managed, as evidenced by many successful companies with strong brands, such as Honda, GE, P&G, PepsiCo, Tata, Toyota, and others. These companies manage the potential for cannibalization by creating distinct subbrands, which are offered at different price points. In fact, competing at multiple price points in an industry shaped by reverse innovation is a prerequisite to being competitive in global markets. And when you weigh the risk of cannibalization against the risk of inaction, the risk of the latter can be much larger—as is the danger of simply watching as an emerging giant does the cannibalizing for you.

3. Our company excels at technological leadership. That's just incompatible with ultra-low-cost products.

   Wrong. Many companies such as Microsoft, Apple, and Canon ushered in new ultra-low-cost offerings in their industries and still remained technologically preeminent.

Now that you are convinced of the importance of EMs as a key target segment, it is essential to understand how to execute.

As we have discussed, it is important to acknowledge that succeeding in EMs requires more than just expanding into new geographies and ramping up sales and distribution arms. It requires a deep analysis of the needs of the markets in the developing world and an understanding of how they are different from the needs of your developed-world customer base. And in turn, EMs require innovation that is unique and specific to that customer segment. (The deeper-dive needs assessment was covered in Chapter 17.)

Strategy

To summarize: In order to capture growth in EMs, you must innovate, not simply export. You must also leverage opportunities to move EM innovations to other parts of the world, to other poor countries, to marginalized markets in rich countries, and, eventually, to mainstream markets in rich countries. And finally, keep emerging giants on your radar screen. These small but rapidly growing companies headquartered in the developing world have global aspirations that could one day threaten your own.

Examples

In Reverse Innovation, Vijay Govindarajan and Chris Trimble provide a couple of examples of reverse innovation in the developing world that offered universal access to world-class quality at an ultra-low cost. One was a $30 artificial leg made of recycled plastic yogurt containers created by a doctor in Thailand and the other was a $500 electrocardiogram machine made by GE and sold in some 225 countries.

The only way to get to an entirely new price-performance curve is by starting from scratch. For example, Nokia managed to capture an enormous, 60 percent share of the mobile phone market in India by creating an ultra-low-cost handset that some users have been able to buy for as little as $5 (discounted from a published price of $20 to $30, which is still a mere fraction of the retail price of high-end, rich-world phones).

Consequences of Taking a Pass

So, what happens if you decide to pass on reverse innovation? Or what if you don't execute seriously and only take a half-hearted approach to going global?

To fail at reverse innovation is not just to lose out on an opportunity abroad. A loss abroad can lead to an even bigger loss at home, because reverse innovations can have the potential to migrate from poor countries to rich ones.

In one of his State of the Union addresses, President Obama said that the United States must “out-innovate, out-educate, and out-build the rest of the world.”²¹ Perhaps this also entails U.S. innovators expanding their focus beyond solving just U.S. problems?

Examples

One example of a business model innovation is the change Adobe made in how it charges for its Creative Cloud; now designers can pay monthly for access to the software rather than making a large one-off capital payment. Tesla provided another good example when it departed from the usual business model in the automotive industry; it allows customers to select their desired hardware and software features online and customize their own high-end luxury car.

Essentially, China's approach to innovation is doing what it does best—replicating and commercializing—and then sometimes adding a twist. The twist is in the way that the Chinese take an existing technology, offer, or approach and make it better by monetizing it—that is, by creating a new business model.

Many Chinese companies have replicated a business idea from the United States, Europe, Japan, or Korea, customized it based on user behaviors or trends in their market, and made their Chinese versions of the original idea even more successful.

A couple of examples that illustrate the value of this technique are Chinese companies YY and Vipshop, both of which went public in 2012. YY is a social platform that engages users in real-time online group activities through voice, text, and video. It was the first to go public and to be valued in the multibillion-dollar range based on its business model. Vipshop is China's leading online discount retailer for brand-name items and its business concept is very similar to that of the U.S. company Gilt. While Gilt has been successful and has grown significantly, Vipshop beat Gilt to IPO with a $3 billion market cap. (This could also be due to different regulatory processes that makes going for an IPO in China easier than in the United States.)

The last demonstrates the principle of localized innovation and how some models that work in China may not work outside of China. It also provides a good example of how customization of your offer is not only applicable to product innovation but also to business model innovation when targeting your local/geographic market segment. The Chinese company Xiaomi is featured in a case study in Chapter 21 and provides a good illustration of how innovation cross-pollination takes place.

Monetization Model

An example of business model innovation in the United States is mobile advertising, which has become a source of revenue generation. However, many believe people in China will not pay for content on the phone (although some people in China are slowly starting to pay for music downloads), and that it will be a long time before mobile advertising and paid downloads will start to be a significant revenue stream in China.

Nevertheless, the Chinese have an entrepreneurial drive and can identify situations in which customers are not paying for a product or service and in turn can innovate by creating a business model or technology that allows them to monetize these opportunities.

So while China's forte may not be creating a unique innovation from a product perspective, it does have a strong talent for business model innovation and monetization.²²

What makes the Chinese so good at creating monetization models is that they look at a business at the grass-roots level. The business innovators themselves are one of the people, one of the masses who use these innovations. They deeply understand user behavior and what the usage drivers are for a product—and this comes back to knowing your customer. They know how people like them think and act; they don't depend on advertising for monetization.

In comparison, U.S. innovators are good at creating new innovations and disruptive tools, and they make money from advertising, but they have not necessarily become creative and strong in monetization models at the end-user level. They are often somewhat removed from their target segments and the masses that will take up the innovation. This approach is sometimes called microinnovation—that is, customer experience–oriented tweaks to existing products and business models that engage users in a different way from before; it is not about revolutionary inventions.²³

Models Based on Sharing Risk and Profits with Customers

Risk- and profit-sharing models were introduced in prior chapters. EEs looking to gain credibility with customers and to establish a foothold in a new market or industry have to overcome the reluctance of a customer to take a chance on an unknown or less-known company and its offer.

One way to help alleviate some of this concern, as we have discussed, is to demonstrate to prospective customers that you are in it with them, that you will share the risk by not getting paid unless they are successful, and that you are in it for the long haul during implementation/deployment—in other words, that their success is your success.

This model is similar to the pay-as-you-grow business model mentioned in earlier chapters, in which vendors demonstrate their commitment to relationships, as well as confidence in their offers, by taking a longer-term stance and suggesting to customers that they do not have to pay for the product or service until it generates revenue streams for them. Cisco and Huawei have both used this model.

Jobs in the United States

Does the United States need to improve upon its supply chain innovation or should it continue to leverage the expertise overseas?

Michael Marks of Riverwood Capital believes jobs should migrate to where people are. He is not a big fan of competing with China by bringing more manufacturing to the United States. Why? The United States doesn't have the labor availability that China and other Asian countries have. We have fewer people who are more dispersed. Also, factory jobs are not desirable or interesting to many people. And when politicians think of manufacturing jobs they are thinking of union jobs, which increase costs.

One of the keys to success in supply chain innovation is having all of your required inputs (components) and resources in close proximity. If all the components of your supply base are around you, this optimizes time and cost. An interesting example cited by Mr. Marks is Silicon Valley—all resources are located here in order to foster, amplify, and accelerate entrepreneurship. Essentially, investments happen around centers of excellence because of the resources surrounding them.

Marks continues to explain that the North American Free Trade Agreement (NAFTA) is a good example of how you can't fight the benefit of CoEs (centers of excellence). Even though labor costs in Mexico were comparable to China's and import taxes would not have been a factor, the country's supply chain was not as complete or efficient, so it outsourced its manufacturing to China. At the same time Mexico became a CoE for the manufacturing of large devices and servers, a sector in which freight costs would have been much higher if manufacturing was done in in China. Mexico's differentiation niche in the supply chain was geographic proximity, which reduced costs.

So What? How Does All of This Relate to Western Competitiveness?

In the first few chapters we debated the strengths and areas for growth and improvement for both the West (primarily the United States) and for China and EEs. In the final analysis, it turns out that innovation capability is the key to success for both the West and EEs in achieving or maintaining future competitiveness and global leadership.

The Chinese government has declared its intention to transform China into “an innovative society” by 2020 and a world leader in science and technology by 2050 in its Medium to Long-Term Plan (MLP) for the Development of Science and Technology.²⁶ It went as far as financing the development of high-tech zones to further innovation commercialization—the key word here being commercialization. In the long run, will the West be as shrewd at commercializing innovations, this final mile of the innovation process? Or will it continue to let more entrepreneurial cultures and partners focus on the commercialization aspect while it concentrates on creating and innovating?

And although China has been busy attaining technology innovations through acquisitions, is this a sustainable innovation strategy? The true source of innovation is the human talent, the minds that create it. Ultimately, China's success will be determined by its ability to nurture its own innovators of the future (which it has already begun to do).

In this chapter, we explored different models of innovation and how the West and China (and EEs) may be stronger in some areas than in others. Innovation as a domain (and in definition) has expanded and evolved—and so too must the West evolve its approach to innovation. This is necessary in order to maintain its current competitive advantage and to better compete in this new global paradigm, with new players who are doing business differently—and successfully.