2: Define what Innovation Means

Although IT may sound obvious, defining the term “innovation” in the specific context of an orga­nisation is one of the most important things new innovators can do.

You’d be surprised if you knew the number of innovation groups I’ve worked with who can’t articulate a brief answer to this. They’ll try various fluffy responses. These range from “attempting disruption of competitors” for teams with big ambitions, to “enhancing core operations with incremental improvements” for those less so.

Usually, there will be little consensus on the definition either amongst themselves, or with their sponsors.

Not infrequently, I’ve seen discussions go round the same ar­guments for so long that someone will suggest “we don’t need a definition, lets just get on with it”. This is a mistake.

Multiple divergent opinions on what you’re trying to achieve in an innova­tion programme almost always leads to a situation where nothing is achieved at all. On the other hand, knowing the shape of success up front makes it much easier to execute whichever innovation strategy has been selected.

One common misconception is innovators should only engage in very large, transformational projects. As long as this is the agreed definition for an appropriate innovation effort,  there is nothing wrong with this.

A problem arises, however, when innovators pursue a balanced portfolio without an appropriate definition of innovation available to them. Since many of the things attempted won’t be trans­formational at all, inevitably some people will suggest this means the “innovators aren’t innovating”.

A definition of innovation which concentrates on very large, very strategic projects makes it impossible for innovators to do little things which help spread their risk. When you have all your eggs in one basket, there is a very high probability that all your projects will fail.

Most innovators know they will have one (or, if they are especially lucky, two) successes from every ten or more things they try. Sophisticated innovation managers, therefore, do many things at once. In order to spread their risk, they balance the set of projects they are supporting, mixing large strategic opportunities and small, in­cremental ones.

To be successful doing this, a broad defini­tion of innovation applicable to any opportuni­ties the innovation team might investigate is needed. Because the team will generally not know in advance how the next useful idea will arise, defining innovation prescriptively is usually counter-productive.

A further important characteristic of a good definition is it is careful to avoid threatening the interests of established business operations too much.

This is especially important. Established businesses in companies are usually very powerful. They have control of most of the resources, and they use them producing whatever-it-is that defines the organisation. They are key to the strategic mission, and will tend to feel justified acting in their own interest. Their own interest will tend to be doing things that preserve the status quo.

Innovators will, eventually, have to challenge the status quo if they are to do their jobs properly. Therefore, getting a definition which gives them flexibility to do so whilst balancing the risk they’ll be shut down (for being distracting to core operations) is something that must be dealt with up front.

In innovation programmes I’ve been responsible for, we’ve successfully used the following:

Innovation is anything beyond business-as-usual.

Note this doesn’t prescribe either the scale or volume of inno­vation that is undertaken. Innovators are free to do anything at all that is not already being done. But it does make it clear to everyone that if they already have something working, the inno­vators won’t interfere.

It is a good balance between having flexibility and ensuring potentially affected stakeholders don’t sabotage the innovation programme before it starts.

After “innovation”, the next most word most likely to cause a definitional argument is “disruptive”. Without fail, this is a word so charged with alternate interpretations that its use clouds any dis­cussion almost immediately.

The most common misuse of the term “disruption” is its application to any product or service new enough it’s not yet been copied by competitors. Those who use the term in this way reason that if they’re doing something competitors are not, it must disadvantage them in some way. In other words, they are being “disrupted” by the activity.

Unfortunately, since it is usually possible for competitors to replicate most new things pretty quickly, any disruption that occurs is short lived.

True disruption occurs when advantages over a competitor are not easily replicable, circumstances which arise when one of the two following conditions exist:

• The new product or service targets a customer segment unattractive to an in­cumbent. Normally, this will be either because margins are too thin to make the customer profitable, or the function­ality provided by the incumbent is much greater than the customer can afford. In both cases, a disruptor with a small cost base can enter a market with something that is perfectly adequate for low-end customers and use this as a beach-head for ex­pansion upward. Incum­bents are generally unable to re­spond because their cost bases (and operational structures) are optimised to serve their customers at the high end of the market. This is the model pio­neered by South West Airlines and Ryan Air.
• The new product or service is a substitute for a high end offer a customer is already using, but provides only that set of capabilities the customer actually needs. In this case, a customer will switch to the disruptor’s offering in order to avoid paying a premium for capabilities they don’t use. Here, too, the incum­bent is unable to respond. In order to serve its high end customers, it has to retain most of the expensive functionality which drives its cost base. Removal would jeopardise the high end customer segment, the source of most of the revenue, whilst provision of a lesser product would cause over served customers to switch, reducing net revenue. This is what has occurred to Microsoft with Office, whose features are used by at most 20% of its customers. Increasingly, Office is being replaced by free, online alternatives from firms such as Google.

In both these cases, the incumbent is under threat in the long term because the new player is able to do something the incumbent one can’t. Disruption, in these instances,  means a big company with an en­trenched position can be overturned by a smaller one.

Sooner or later, disruption happens to all companies in all industries, which, of course, is one of the reasons firms need to be innovating from within. Their innovators are their protection against the future.

The seminal book describing disruption is Clayton Christensen’s Innovators Dilemma. I suggest your review this text for more details on the mechanics of disruption, as well as some great case studies.

Of course it makes sense to do disruptive things if you’re running an innovation programme and the opportunity to do so presents itself. However, innovators need to be cautious when attempting to do so, because there are two traps which must be avoided.

The first is disruptive innovations do not happen over­night. The processes involved in overturning an entrenched competitor (or an established business line internally) can take years. If an innovation programme wants to be disruptive, it must first ensure it has enough successes under its belt to prove its value until its disruptive investments pay off.

The second reason for caution is any situation where an innovation enters territory normally managed by an internal business group. Inevitably, innova­tors will spot opportunities they may wish to pursue inside their organisations. The problem is those responsible for current business will fight tooth and nail to pre­vent such innovation succeeding, because they know they will eventually lose control of their operations as the disruption begins to scale up.

This is rational behaviour. Most line of business managers spend their time working out how to prevent anyone disrupting their operations. The sensible behaviour for a manager facing a disruptor is to reinforce the successes of the past at the expense of the innovation. They are highly motivated to do so, since the alternative looks remarkably similar to failure.

In addition to the definitions I’ve already advanced for innovation, there are other subdivisions which can inform decisions on how an innovation team will spend their time. One of the most useful is categorisation of innovations based on how unprecedented they are compared to what has gone before.

The first category is innovation which is trans­formational, creating brand new revenue streams or defining new product types. Apple’s iPad is such an innovation. It creates a new product category: a slate for personal online media consumption. Previous alternatives – personal music players and laptops – are functionally less good at this particular task than iPad with its big screen, touch interface, and attractive price.

Transformational products and services such as these are often described as radical or breakthrough innovations by analysts. They’re extremely speculative, but have high returns if they’re successful.

Many executives, when asking innovators to produce, do so with the expectation that they’ll get radical innovation, but they want it without the risk of failure. This is pretty much impossible to achieve in any reliable way, and is one of the top reasons innovation teams get fired. Management always goes off the idea of systematic innovation when their hopes are dashed by big, visible failures at the start.

This is one of the reasons you’ll find this book advocating innova­tion teams restrain their ambitions at the beginning. Radical innovation is risky, and without a track record of success, very hard to explain when it goes wrong. A more reliable strategy is to start out with many incremental innovations, the sort we’ll come to next.

Incremental innovations take what is already being done and enhances it in some way. Incremental innovations are enhancements along the well understood trajectory of traditional business as usual.

Such innovations have characteristics such as enhancing market reach (by adding features that make the product or service attractive to more customers), or supporting higher prices (through the addition of capabilities which create new value).

Incremental innovations, done in large numbers, can add materially to the growth of enterprises. They are also much less risky than radical innovations, since firms will usually have deep understanding and capability in the areas they address.

Most sophisticated innovation programmes create a portfolio of projects in both catego­ries in order to balance their risk of failing to achieve decent overall returns. Many incremental, low risk innovations counter the expense of a few big failures and support the innovation programme until it is lucky enough to get a significant hit.

But this is not what all new innovation teams do.

Some innovation efforts start by riding high on the expectation they’ll deliver amazing benefits in a short time. Sooner or later, stakeholders realise the “amazing” benefits are still some time away, and, frankly, might not be so amazing after all. Wracked with disappoint­ment, they lose interest.

On the other hand, an innovation team which sets appropriate expectations up front does not have these difficulties. With stakeholder agreement to an innovation strategy (either Play-2-Win or Play-Not-2-Lose), and an agreed definition of what constitutes acceptable innovation, everyone is on the same page at the start.

Case Study

Microsoft Office is a great example of the power of incre­mental innovation to drive massive returns. Office, in 2009, ac­counted for about one third of all Microsoft’s revenue. And, with penetration of the software approaching market saturation, Microsoft doesn’t have very many new customers it can sell to.

What, then, is the secret of the financial success of Office?

Every few years, Microsoft releases a new version which con­tains many incremental improvements. There is usually nothing radical in each release (although Microsoft will argue this point, of course), but each adds functionality which is attractive to some segment of the existing customer base.

For a significant percentage, the new features are useful enough to justify an upgrade. An upgrade, in this case, means Microsoft is able to charge customers for the software again, albeit at a small discount to recognise the fact of previous ownership.

Unsurprisingly, adding all this capability has moved Microsoft firmly into a place where it is ripe for disruption.

There are now users for whom there are so many features it is impossible to get value from each one. With every upgrade, nonetheless, they are charged to use these un­wanted features.

This is fertile territory for a player who is less capable and therefore less expensive. A less capable alternative might not satisfy that small segment of Office customers who use all the features of the software, but it will likely be good enough for most.

Customers such as these, indeed, are the market that Google and other Software-As-Service players are attempting to attract. Starting from a price of nothing, they offer less functionality than Office, but the subset that is available is sufficiently power­ful that a good percentage of customers can switch without losing much.

With every release, the new online tools get better. As they do so, they come closer to matching the needs of more customers of Office.

There are few responses Microsoft can make which do not destroy its core revenue streams. If it creates a less capable version of Office, one which it can offer at a lower price, it risks cannibalising its own customer base.

If it does nothing, it will continue to lose customers to the web.

Economically, the most attractive option (to Microsoft man­agers) is to allow the low end customers to defect to the web, whilst creating new functions that allow the company to charge even more for features at the high end. This ensures the com­pany can still grow its Office revenue, at least in the short term. This, of course, is the strategy the company is presently follow­ing.

Long term, unfortunately, it is a losing strategy. Web based products will eventually match Office on a feature by feature basis, at least for the core functionality that customers care about. With their much lower cost, customers will defect en-masse.

To save itself, Microsoft needs an innovation programme with the internal power to disrupt a core operation of the business. In this particular case, that would mean an internal group with the influence to sacrifice one third of the company’s revenue in the interest of its long term future.

There are few signs that such a programme exists in the com­pany.