CHAPTER
8

Where Innovation Meets Strategy

As we have seen, innovation and strategy once existed in isolation. Innovation was the preserve of a distant R&D department, whereas strategy was the responsibility of senior executives at headquarters.

No more. Now the two are regarded as bedfellows, sometimes awkwardly so, but often powerfully.

Bridging the gap between strategy and innovation are the ideas of Professor W. Chan Kim and his INSEAD colleague, Professor Renée Mauborgne. They have probably done more to change our perception of how strategy and innovation fit together than any other thinkers in recent decades. To date, their 2005 book Blue Ocean Strategy has sold more than two million copies and has been translated into 43 languages, making it, by some measures at least, the most successful business book of all time.

“We started off by looking at the companies that succeeded in circumventing the competition,” explains Professor Kim. “Then we moved on to how to create new market space—companies need a way to think and act out of the box if they are to circumvent the competition. Our notion of ‘fair process’ looks at management decision making and what is required to build and execute creative thinking. Most recently we have looked at how to identify a winning business idea and determine which one to bet on. Qualifying an innovative idea for commercial success is a critical strategy component of value innovation.”

How do you define value innovation?
Mauborgne: Value innovation is creating an unprecedented set of utilities at a lower cost. It is not about making trade-offs, but about simultaneously pursuing both exceptional value and lower costs. . . . The power of value innovation is in engaging people to build collective wisdom in a constructive manner. Value innovation means that the range of disagreement becomes smaller until creativity explodes. Value innovation is fundamentally concerned with redefining the established boundaries of a market. If you offer buyers hugely improved value or create an unprecedented set of utilities in order to give birth to new markets, then the competition becomes unimportant. Instead of playing on the same field, you have created a new one.

Value innovation enables companies to shift the productivity frontier to a new terrain. Value improvements get you only so far. Value innovation is concerned with challenging accepted assumptions about particular markets, changing the way managers frame the strategic possibilities.

Is the driving force behind value innovation the willingness of companies to create new markets?
Mauborgne: Fundamentally. Innovation occurs across industries, across countries, across companies. These are universal forces. It is, therefore, irrelevant to categorize organizations by their sector or geographical location. Yet, if you look at strategy literature, industry boundaries are usually regarded as central—think of SWOT analysis or Michael Porter’s Five Forces Framework.¹

Making the Right Moves

Another thinker who is standing at the intersection of strategy and innovation is Costas Markides. Markides is a professor of strategic and international management and holds the Robert P. Bauman Chair in Strategic Leadership at the London Business School.

“The one thing I have learned from two decades of study,” he says, “is that innovation and continued success depend on the leader of the organization being willing to take drastic action, even when the organization is doing very well.”

Won’t that draw howls of protest from shareholders, analysts, and other key constituencies? Yes, Markides admits, “And yet, that’s exactly the right time for organizations to rejuvenate themselves. The problem with companies is that, when they are on the upswing, they never introduce change. When do they introduce change? When they are down, and then it’s often too late.”

Markides, the author of All the Right Moves: A Guide to Crafting Breakthrough Strategy (2000); Fast Second: How Smart Companies Bypass Radical Innovation to Enter and Dominate New Markets (with Paul Geroski, 2005); and Game-Changing Strategies: How to Create New Market Space in Established Industries by Breaking the Rules (2008), explores the challenge of how established firms can innovate their business model, as well as how to respond to the threat from the introduction of a new business model.

Build a Wall

Markides asserts that the skills, mindsets, and attitudes required for breakthrough innovation not only are different from those required for continuing success in existing markets, but also conflict with them. Firms that are good at the former are unlikely to be good at the latter.

What’s more, big, established companies do not have the skills and mindsets needed for creating radically new markets, nor can they easily develop those skills and mindsets, because they conflict with the skills and mindsets that the companies have and need in their existing businesses. However, these corporations do have the skills and mindsets that are needed for taking new market niches developed by others and scaling them up into mass markets.

How can we reconcile these differences? Markides’s recommendation is to keep the established and the entrepreneurial apart. Draw a line. Build a wall. The exact character of the division is whichever of numerous alternatives might work for the company.

Markides employs much the same reasoning in warning established companies away from the so-called first-mover advantage—so much so, in fact, that he, along with Paul Geroski, rejected the notion of there being an advantage to being a first mover. He contends that the skill sets of most established companies are far better suited to scaling up newly created markets that were pioneered by others.

“Look at Microsoft,” Markides says. “What did it create? The answer is basically nothing. What Microsoft did was take the creations of others and scale them up into mass markets.” This is not a bad thing, according to Markides. Non–first movers such as Microsoft are what Markides calls fast seconds. The firms that create new markets are rarely the ones that scale them into mass markets. That is the realm of fast seconds.

The fast second, according to Markides, can adeptly slip into and own a new market. “The skills, mindsets, and competencies needed for discovery and invention not only are different from those needed for commercialization,” he contends, “but also conflict with the needed characteristics. This means that firms that are good at invention are unlikely to be good at commercialization and vice versa.”

Under this construct, Markides favors a more expansive view of what constitutes innovation. “I believe innovation is two things—the creation of something, and also, and more important, the commercialization, the scaling up, of that something.”

With this perspective on innovation, the continuous innovation imperative for established firms is not what it is usually presumed to be: creating radical new business models. In fact, it is not in the realm of creativity at all, but rather in that of taking the creations of others and scaling them up to mass market status.

That task, which Markides calls commercialization, is the specialty of fast seconds. Unfortunately, they often waste resources on efforts to match the creative achievements of innovating start-ups. Such attempts, Markides believes, are futile. They reveal not creativity but corporate arrogance—and all for nothing.

Fast seconds should instead understand that their core competency is in consolidation and be content to capitalize on that. In fact, Markides notes, “That’s where the money is.” That doesn’t mean that established companies can’t guarantee their access to radical innovations. They can “create, sustain, and nurture a network of feeder firms.” The parent consolidator, Markides asserts, “can serve as a venture capitalist to these feeder firms.” When it’s time to consolidate, the parent can build a new mass market business on the platform that the feeder firms provide.

Conflicting Business Models

Big, established companies are also frequently attacked by bold start-ups that succeed in grabbing market share by employing entirely new business models. Markides acknowledges that new business models can create entirely new markets, “so they are good innovations to have.”

Problems arise, however, because “established companies are generally poor at discovering new business models.” What’s more, “they also have a terrible time responding to the ones that newcomers use to attack established markets.”

Markides notes that this is to be expected. “New business models conflict with the established business models of established firms”—for example, there are cannibalization conflicts, distribution conflicts, cultural conflicts, incentive conflicts, and so forth. “This implies that no matter how much good advice you give established firms on discovering new business models,” Markides explains, “they are highly unlikely to do so. Why discover something that will destroy my existing business or alienate my existing distributors?”

So, if the established firm won’t succeed by responding to a disruptive competitor’s new business model with its own new business model, what response might succeed? Markides suggests two possible responses: “disrupt the disruptor or play two games at the same time.”

As to the first of these, “The established companies that respond successfully look at the disrupter and determine what they can do to disrupt it.” That’s what Nintendo accomplished with its successful Wii. Nintendo “was a traditional established competitor” in electronic games when “Sony and Microsoft attacked Nintendo’s lead with PlayStation and the Xbox.”

If Nintendo had followed the usual established firm’s response, it would have left the market entirely or played Sony’s and Microsoft’s game (literally) with PlayStation and Xbox imitations. Instead, “Nintendo came up with the Wii, a nontraditional product that emphasizes entirely different dimensions of electronic games.” The result was a market niche that was wholly owned by Nintendo, and two disruptors that were quite conclusively disrupted.

As for playing two games at once, the perils that threaten the success of this strategy are many. “In fact,” Markides writes, “there are many examples of companies that have pursued this strategy and failed (such as British Airways with its Go Fly subsidiary and KLM with its Buzz subsidiary), while other companies, such as Nintendo and Mercedes, have succeeded in playing two games without creating separate units. . . . Only a handful of companies that created separate units were successful in playing two games.” That handful, Markides says, explored five key questions that could improve the odds of success in competing with dual business models in the same industry:

• Should I enter the market space created by the new business model?

• If I do enter the new market space, can I do it with my existing business model, or will I need a new one?

• If I need a new business model to exploit the new market, should I simply adopt the invading business model that’s disrupting my market?

• If I develop a new business model, how separate should it be organizationally from the existing business model?

• Once I create a separate unit, what are the unique challenges of pursuing two business models at once?

Out of the Jungle

In conversation, Costas Markides is excitably persuasive. We talked first about the sometimes fraught relationship between strategy and innovation.

What is the relationship between strategy and innovation? And how important are both in order to compete in today’s marketplace?
If the economic environment is good and everybody is growing, you can grow without even having a strategy. But if you are in a jungle, if you are in a crisis, that’s exactly when you need a strategy. But looking beyond strategy, innovation is the first step a company should take.

Why innovation?
I’ve always believed that innovation is the answer to every organizational problem, because innovation is about growth. If you think about it, if the people operating a business are not growing, innovation will not happen. I’ve been studying innovation for 20 years, and most people would agree that it’s a very crowded field.

Are there ways in which your approach to innovation is different?
There are two areas where I think I bring a differentiating element to the core study of innovation. The first is that when you look at the work of other academics and consultants, they talk about innovation in general. I believe that there are different kinds of innovation, and that the mechanism you need if you are to achieve one kind of innovation is different from the mechanism you need if you are to pursue another kind of innovation.

Can you clarify that point?
For example, my last book was on business model innovation—how companies develop new business models—and I wrote about what companies need to do to achieve that. My previous book was about radical product innovation and how to come up with new radical products. My prescription for how to achieve radical product innovation is totally different from that for how to achieve business model innovation. So, I don’t think it’s right to talk about innovation in general and tell managers that any one approach is what they need to use in order to become more innovative. Those who study innovation and those who try to help companies to innovate need to be more specific about what kind of innovation is most needed and then give companies the appropriate advice. That’s one of the things that I do with my innovation work that separates me from others.

And the second way that you are different?
The other thing that I think differentiates my work is my view that innovation is much more than creativity. A lot of published work is about how companies can come up with new ideas about business models, about products—about anything; and brainstorming, visioning, and breakthrough thinking are helpful in generating new ideas. However, even though I think it’s important to come up with new ideas and it’s an important part of the innovation process, it’s not enough. Most of the problems arise after people in business come up with the radical new ideas; what really determines whether a company is innovative or not occurs in the implementation stage.

You’re saying that it’s not just coming up with a new idea: you have to put it into practice.
Absolutely. For example, let’s say you operate an established company, and you devise a new business model. The issue for you is not only how to come up with the new business model, but what to do with the old one. Do you abandon the old one (the way you operate your business today) so that you can move 100 percent into the new one? Or, do you continue with the existing business model while also phasing in the new one; and if you do this, how do you operate with two business models at the same time? That’s where I try to focus my work: on the implementation issues of innovation.

How many different kinds of innovation are there?
At the very least, I think companies need to start thinking about product innovation being different from technological innovation, from process innovation, and from business model innovation. For me, those are the four big ones. I’m sure there are more and finer divisions that others could cut innovation into.

Is implementation the point at which most innovations fail?
Absolutely. The problem for companies is not so much coming up with new ideas. When I go into companies and ask the senior managers what they need to do to achieve a certain kind of innovation, amazing as it sounds, they can tell me in five minutes. They don’t need to read any books; they don’t need to go to visit any other business. Minutes after I ask what needs to be done to innovate, managers can (and do) tell me, “We need to do X, Y, and Z.” Then I usually move on from there and ask them, “Well, in this X, Y, Z, have you taken this step or have you initiated that action?” In more cases than not, they have no answer. That’s why I say that new ideas are just one part of innovation. New ideas are exciting because they are usually accompanied by new knowledge. But the problem for managers is not knowledge. The problem is action. Innovation is difficult because people usually know what they have to do to achieve it, but they still do not do it.

That behavior seems to work against the best interests of the company and everyone who works there. Why does this happen?
Managers do things that are based on their past experience and habits, repetitive things, but innovation is something that requires the people inside a business to do something completely different. Innovation can require, quite possibly, changing the culture, changing the way managers or others work, and so on. Innovation means change. Managers are very good at doing better and working harder at what they’ve always done. Innovation is about doing things in a way that is slightly or radically different, and that’s where the problem is.

Then how does one begin to innovate?
First of all, at the very minimum, an organization has to put in place an environment that supports and nurtures innovation; and by an environment, I mean a certain culture with certain kinds of incentives along with certain processes that promote innovation. That’s the very minimum. But when I tell companies that they have to establish these things, some managers sometimes develop the attitude that the organizational environment must be completely right before innovation can occur.

And it doesn’t?
I can give lots of examples of organizations in which the culture and the structures were not optimal, and yet certain individuals took it upon themselves to drive innovation. So, ideally, companies need the right culture and incentives and structures, but over and above that, they need individuals who are willing to go beyond the constraints that any organization places upon them in order to take action—to start working on the X, Y, and Z that I cited earlier. Sadly, there are very few people out there who are willing to stick their necks out and really do things differently.

Do you consider yourself innovative?
I would certainly describe myself as a creative person in that I do come up with a lot of ideas, but, by definition, I’m an academic, and we are not very good at implementing things. So, I wouldn’t say I’m an innovator. Innovator, for me, means someone who comes up with new ideas and implements them to derive new value. The first half is creative thinking; the second is action; both of them together is innovation.

How do you generate your ideas about strategy and innovation?
I get ideas by working with people (such as senior managers), by writing cases on organizations, and by observing problems that organizations have in day-to-day life. For example, many companies want to get people to cooperate and not allow themselves to become locked in organizational silos, which is a big problem in many businesses. In such cases, I usually ask senior managers how many of them have two, three, or more children. Almost all of them do, so then I ask whether their children cooperate. “Yes,” they say. Then I ask whether their children operate in little silos. Their reply: “No, it’s amazing how they all cooperate.” At this point I try to get them to explore what it is they do as parents to encourage their children to cooperate. I mean, it’s common sense, isn’t it? At the end of the day, there are things that you do at home to get people to cooperate; these actions are exactly the same things that I think you need to do to get cooperation in an organization.

You think outside the organizational box, don’t you?
Yes, and I advise others to do the same. Look beyond companies. Look beyond the business environment. You will be amazed if you let your thinking venture into nontraditional business environments, such as the family; you’ll find that you get lots of ideas for what people need to do in the business environment to achieve some of the things they want to achieve. Consider a business school such as London Business School, where you have a class of 50 to 60 students from 50 or 60 countries with different backgrounds and so on; such diversity should be a fertile ground for idea generation, idea promotion, and things like that. That helps keep my thinking fresh.

Then you certainly value new ideas.
As I mentioned, new ideas are the starting point for innovation. At the end of the day, innovation boils down to an individual’s having an open mind and looking for ideas everywhere. Ideas are everywhere—in the business world, in the family, in the economic environment; everywhere you look, there are new ideas, new ways of thinking about or doing things. It’s just a matter of having an open mind to absorb new ideas and to utilize them for those management applications that can help business prosper. If you can engage new ideas and put them into action in order to serve customers and society in better ways, you’ll find that innovation truly is the answer to almost every problem facing your business.