Staying Ahead Of Disruptive Innovation

Copyright WILLIAM J. BROWN All Rights Reserved.

ISM 6026ISM 6026Mgmt. of Information Systems Mgmt. of Information Systems

& Technology& Technology

Presentation #2- Staying Ahead of Disruptive

Innovation -

October 13, 2002

© William J. Brown


Don't hesitate to embrace Don't hesitate to embrace technology!technology!

� Established companies find it hard to cope with emerging technologies. It need not be so, say George Day and Paul Schoemaker (Wharton School of Business distinguished faculty)� �Wharton on Managing Emerging

Technologies�� Required course text (not yet arrived � I

have the first few chapters for you tonight)


Objectives of this DiscussionObjectives of this Discussion

� Understanding emerging & discontinuous technologies

� Discuss disruptive innovation� Typical strategies for incumbents� The 4 traps� How to avoid the pitfalls� Lots of �mini-cases� to emphasize

principles


What Are Emerging What Are Emerging TechnologiesTechnologies

� What was the definition given by Day?� Defined: Emerging technologies are

science-based innovations that have the potential to create a new industry or transform an existing one.


Discontinuous TechnologiesDiscontinuous Technologies

� Emerging technologies include �discontinuous technologies�

� Defined: These are derived from radical innovations� Examples include:

� Biotherapeutics� Digital photography� High-temperature superconductors� Microrobotics� Portable computers


Evolutionary TechnologiesEvolutionary Technologies

� Emerging technologies are also inclusive of �evolutionary technologies�

� Defined: These are formed by the convergence of previously separate research streams� Examples of these include:

� MRI imaging� Faxing� Electronic banking� HDTV� the Internet itself


Defining TechnologyDefining Technology

� Defined: Used broadly in business and science to refer to the process of transforming basic knowledge into useful application.

� Day challenges one to consider science as a know-what, and technology as know-how.� Similarly, he views markets and businesses

focusing on know-where and know-who


� Thus, as business people we define technology as a set of discipline-based skills that are applied to a particular product or market� Technology can focus on a component,

an entire product or an industry.


� Emerging technologies are those where:� the knowledge base is expanding,� the application to existing markets is undergoing

innovation, or� new markets are being tapped to existing markets

� It is also useful to distinguish technologies that are new to the firm or unit of the firm from those that are new to the world


� Many managers struggle with how to scan, experiment and integrate externally available technologies into their existing products as well as to create new products

� The focus of the first text is on how to transform technologies that are still emerging into value creation within existing or newly emerging markets


� Disruptive innovations, spawned by developments in emerging technologies such as the Internet, intelligent sensors, genomics, nanotechnology, digital ink, mutant materials and file sharing software, have the potential to consume industries and make existing strategies obsolete.


But how do you spot the winners?But how do you spot the winners?

� Which of the flashy new technologies in the labs or on drawing boards today will become the hot new products of tomorrow?

� Which ones will be embraced by the market and which ones ignored?


� New technologies often produce a major disruption on the established trajectory of technical advances� They draw upon new or different science bases� Thus require the arduous development of new

competencies

� But, in their earliest stages of development, it is not evident they will achieve a decisive relative advantage


How is this different from How is this different from ��business as usualbusiness as usual��??

� Uncertainty in a stable environment is manageable because there are usually only a few discrete outcomes that define the future� Robust strategies can be devised to adapt to

those possibilities

� Uncertainty created by an emerging technology is very different:� Risks are not just external but also internal� i.e., there is a risk of not knowing what we do not

know


Management Still CriticalManagement Still Critical

� Too many managers throw up their hands and fail to analyze situations

� A huge mistake is made if a coherent strategy for maneuvering through the uncertainty isn�t attempted

� Choices must be made about initiatives to support the emerging technology, alliances to pursue and human resources to develop� The strategy must also include a learning

component and acknowledge multiple futures


��Internet TimeInternet Time�� isnisn��t the only t the only thing passing by fastthing passing by fast

� Adoption rates of various communication technologies

Source: The Wall Street Journal, 19981920 1930 1940 1950 1960 1970 1980 1990 2000

0

10

2

0

30

4

0

50

6

0

70

8

0

90

100

1

2

3

4

5

67 8


� As a result of breakthroughs and relentless capitalistic pressures, an increasing compression of technology adoption curves is clearly happening

� The Internet is not the only example:� Similar forces are at work with other

technologies, reflecting the overall rate of technological progress and the desire to gain a first-mover advantage


Capitalistic Pressures?Capitalistic Pressures?

� The overall trends toward free markets, globalization, and deregulation are only adding fuel to the accelerating rate of technological change.

� Also, advances in one domain are feeding and reinforcing progress in other domains.


The The ��Fast FollowerFast Follower�� StrategyStrategy

� It used to be possible for companies to sit-by and watch for an occassionaldiscontinuity or wait for other firms to take the development risks.

� This has become a risky bet in �winner-take-all� markets�Where there is a widening gap between

leaders and followers


� Example: � By 1998 (ancient history now), one study

found that the top 5% of all Web sites garnered more than 74% of all traffic


Developing New Developing New CompetenciesCompetencies

� We�ll see that a discontinuous innovation can either enhance or destroy the existing competencies of incumbent leader.

� Too often, emerging technologies do not fit the competencies of incumbents and undermine the slowly acquired skills, knowledge and assets that were needed to master the original technology now being replaced.


The Case of Western UnionThe Case of Western Union


Western UnionWestern Union

� A �Fortune 100� company 50 years ago� It�s telegram transmission competencies

were by-passed in turn by:� Couriers� Fax� Overnight delivery services� Email

� Today, where is Western Union?


��Creative DestructionCreative Destruction�� Not NewNot New

Attackers dislodged incumbents when:� Diesel-electric locomotives prevailed over

steam locomotives� Ball points replaced fountain pens� Vacuum tubes gave way to transistors� Battle between Edison & Westinghouse over

DC versus AC electricity distribution

Can you think of any others?


Not a Not a ��New GameNew Game�� Just DifferentJust Different

� We�ll examine in-depth the cumulative different challenges

� The manager�s role is to control and manage the uncertainty� Characterized by disequilibrium, ambiguity, and a

rate of change that defies standard analysis

� Some of the most successful players in emerging technologies have not managed uncertainty as much as navigated and exploited it


Best Practices: Best Practices: The PDA IndustryThe PDA Industry

� 1992, Apple introduces the Newton �personal digital assistant�� Heralded as a new �$3.5 trillion digital

information industry�� That same year, Palm Computing, Inc.

was founded


Looking @ NewtonLooking @ Newton


The history of the Newton: The history of the Newton: Click on the linkClick on the link

� Apple Newton prototypes


� By 1998, the PalmPilot had become the fastest selling consumer electronics product in history, shipping more than 1 million units in the first 18 months.

� That same year, after spending $500 million on the Newton, Apple pulled the plug on its failing product.


Lots of Companies Join the PartyLots of Companies Join the Party

� Besides Apple, Compaq, Motorola, AT&T, Bell South, IBM, Hewlett-Packard, Novell, Casio, Sony, and Microsoft all announced plans to build or invest in these products.� Most were casualties� Go Corporation (back by Kleiner Perkins)

burned through $75 million before Chapter 11� Palm claimed to have spent just $3 million to

develop the first prototype of the Pilot


How did Palm do it?How did Palm do it?

� Palm Computing shaped and has lead this emerging technology since its inception

� How were they able to turn a technology that many others also recognized into a commercial blockbuster?

� Why did Apple Newton fail?


Lessons from PDAsLessons from PDAs

� Incumbents can be at a disadvantage� Knowledge assets outweigh physical

assets� Understand how customers use the

technology� Learn from experiments� Don�t go for the big market all at once


A Valuable DisclaimerA Valuable Disclaimer

� Stories of successes and failures are told with the benefit of hindsight � and they�re perhaps somewhat misleading.

� In reality, as managers we must make decisions about pursuing new technologies with highly imperfect information.

� The reality is also that we some technologies succeed, and some fail, and managers can never know for sure beforehand if a technology will be a dud or the next killer application.


� Conventional wisdom holds that large established companies are likely to lose out to smaller attackers when they try exploiting these breakthroughs.

� Yet why should incumbents encounter so much difficulty?

� Can they overcome their handicaps? � Companies such as GE, Intel, Schwab and

Microsoft have embraced disruptive innovations. � What can we learn from their examples?


� Established companies control substantial resources: � established infrastructure and processes� scale and scope� valuable brand names� entrenched relationships and deep pockets

� They can and do spend heavily on technology development and market research, although most of this money is devoted to evolutionary innovations that make their current offerings perform better in ways their customers already value.


� For all their advantages, incumbents are often impotent when it comes to disruptive innovations.

� Their size slows them down, and past commitments restrict their flexibility.

� Equity markets expect continued growth in earnings while start-ups are valued for their prospects and rewarded with large market capitalizations they can use to fund innovation.

� Incumbents are disadvantaged by their structures, capabilities and outlook. � Their finely honed instincts, established ways of thinking and

embedded skills make it tough to deal with a disruptive innovation that requires a different approach.


� Many of the problems that befuddle incumbents are rooted in the technological uncertainties, ambiguous customer signals and immature competitive structures of markets for disruptive innovations.


� As recently as 1995, interactive television dominated corporate radar screens as the hottest new electronic marketplace. � This technology soon faded as the internet revealed the

power of networks.

� Which of the technologies now reaching critical mass in the laboratories will become the hot innovations of the future?

� Few companies can avoid asking themselves how well they will capitalize on these future disruptions.


Pitfalls for IncumbentsPitfalls for Incumbents� Disruptive innovations, posing the threat to

their existing capabilities, make established companies prone to stick with what is familiar for too long.

� Even if this is avoided, incumbents are often unwilling to make a strong commitment and find it difficult to persist in the face of uncertainty and adversity.

� Although these dangers are related, they occur at different points in the decision process and require different remedies.


Trap 1: DelayTrap 1: Delay

� When faced with uncertainty, it is tempting to wait. � A watching brief may be assigned to an internal

team that monitors families of technologies.

� Whether there is any value in these moves depends on whether there is a credible champion who can see beyond the imperfections of the first costly version: � early electronic watches were bulky and personal

digital appliances were devalued by the limitations of the Apple Newton.


� It is natural to underestimate developing technologies or new approaches because they don't measure up to the familiar alternative, or appear suitable only for narrow applications.

� Other developments may be easy to dismiss on the grounds that their small markets will not meet the growth needs of large companies.

� Yet all large markets were once in an embryonic state with their origins in limited applications.


Trap 2: Sticking with the FamiliarTrap 2: Sticking with the Familiar� Choice of technology is often clouded by

uncertainty about whether technical hurdles can be overcome and which standard or architecture will prevail.

� When there are competing choices, companies are likely to base their decision on the technology path that feels most familiar.

� For example, various US newspapers merged their classified recruitment advertising into a common database (Careerpath.com), without much change in approach, (unlike Monster.com).


� Established companies typically search in areas close to their current expertise, and may not have the capability to appraise the options properly.

� Their instincts may be to seek a proprietary position to lock in customers, because that worked in their core market.

� Such a move makes customers suspicious, especially in today's open systems environment.


Trap 3: Reluctance to CommitTrap 3: Reluctance to Commit

� Established companies seldom commit wholeheartedly to a disruptive innovation.

� Instead, they are more likely to enter in stages.

� Many plausible reasons explain their hesitation.


� First, managers are concerned about cannibalizing profitable products or encountering resistance from channel partners. � Even if this is not an issue, prospects may appear

less attractive than current business, making it difficult to justify investments.

� Encyclopedia Britannica was slow to move to CD-Rom and lost 70 per cent of its revenue between 1990 and 1997.


� As one classic study showed, of 27 companies confronted with a threatening technology, only four entered aggressively and three never participated at all.

� One reason is that managers are focused on existing customers and new technologies may seem applicable only to small market segments they don't serve or understand.

� This makes them vulnerable to attacks by outsiders who use the disruptive innovation as their platform.


� Finally, successful organizations are not naturally ambidextrous, so they cannot balance the demands of familiar markets with the alien requirements of a disruptive innovation.


� These four explanations reinforce each other to impair decision-making, erode enthusiasm and cause managers to hesitate.

� Such afflictions do not inhibit new entrants.


Trap 4: Lack of PersistenceTrap 4: Lack of Persistence

� Established companies being held to earnings forecasts have little patience with adverse results.

� US newspaper giant Knight-Ridder, owner of more than 30 titles, is a case in point. � When its early forays into television in 1978 and

cable in 1983 met setbacks, the company sold the business.

� Success may require patience. It took Gannett a decade of losses to make USA Today a winner.


� Yet missed forecasts and dashed hopes are inevitable with disruptive innovation: � demand may not materialize as expected,� competitors may crowd into the market, � or the technology may veer in an unexpected

direction.

� Initial enthusiasm may be replaced with skepticism about the innovation becoming profitable.

� The result is that companies often withdraw from early probes and don't come back until the innovation is proven by others.

� At this point it is too late to achieve leadership.


Avoiding the PitfallsAvoiding the Pitfalls� While awareness of the pitfalls described can help

avoid them, the best defense is a good offence. � Here, there are four proven approaches:

� widening peripheral vision, � creating a learning culture, � staying flexible in strategic ways,

� providing organizational autonomy.

� These solutions do not correspond one-to-one with each trap, but rather address several of them at a time.

� Think of them as ingredients from which an approach can be fashioned that fits your needs.


Signals from the EdgeSignals from the Edge� Disruptive innovations signal their arrival long

before they bloom. � Some signs may be clear to those who look;

others can only be seen by the prepared mind.

� As the philosopher Kant noted, �we can only see what we are prepared to see.�

� Weak signals usually come from the periphery, where previously unknown competitors are making inroads, unfamiliar customers are early adopters and different standards are emerging.


� But the periphery is noisy, with numerous tangential technologies that may or may not be relevant.

� Background noise surrounds the converging entertainment, telecommunications, information, cable, and computer sectors.

� Here, a myriad of technologies such as interactive TV, web TV, DVD, desktop video, and satellite transmission combine to create new products.

� Background noise to one company may be a strong signal to another.


� The first step in deciding which signals and trends to scan is to define the significant technologies.

� This requires shifting the focus from the characteristics of products to features that provide benefits.

� For example, customers did not want X-rays as such, but they did need more accurate images of tissues and bones to help spot problems.


� Companies also can study users who are ahead of the curve to see the promise of a new technology, or work jointly with lead users (in say, industrial markets) on the next generation of products.


� Once features are defined, the next question is how well the innovation can deliver features that meet customer needs and budgets, relative to competing technologies.

� This entails more than a linear extrapolation into the future.

� First, remember the typical S-shaped curve plotting the relationship between performance and development expenditure: initially, there is little sign of progress, but then performance rises steeply for relatively little effort before leveling off.


� Once a technology trajectory has been projected, the challenge is to estimate the rate of adoption and potential market size.

� When it is not yet apparent who customers will be and even early users have yet to experience the product, such estimates are difficult.

� Traditional market research is seldom applicable to embryonic markets. Sample surveys, concept tests, and conjoint analysis were designed for well-defined problems in existing markets.


� A different approach is needed when the concept is ill-formed, the technology is barely ready and questions of cost, availability, and performance are unresolved.

� People may not know whether they want holographic TV, but they can assess how much more they value its benefits relative to present offerings.


� Xerox's strategy for estimating the potential market for fax machines in the 1970s illustrates how customer benefits and functionality can be used to estimate markets.

� Managers measured the extent and frequency of urgent written messages, their time sensitivity, and the form and size of the message.

� Then they contrasted the promise of fax with mail, telephone, express delivery and so on.

� With this approach, Xerox foresaw a business market of a million units. In hindsight, this number proved too low, but was then larger than people expected.


Assessing Disruptive InnovationAssessing Disruptive Innovation

� In summary, choosing how to assess the market for a disruptive innovation should be guided by three principles. � First, paint the big picture: this is not the time to

ask for carefully calibrated results. � The issue is simply whether the market is big enough to

support development.

� Next, use multiple methods. � While any one market research method will be limited or

flawed in some respect, a combination may yield conclusions that are directionally sound.

� Finally, focus on needs not products: prospective customers may not be able to visualize radical products, but they can be eloquent about their problems and changing needs.


Building a Learning CapacityBuilding a Learning Capacity

� A second way to avoid the pitfalls of disruptive innovations is to keep learning.

� The challenge here is collective, not just individual.

� Without learning, noisy information flowing from the periphery will create confusion, not insight. Information must be absorbed, communicated, and intensively discussed so its implications are understood.


The organization must possess or The organization must possess or acquire several attributes: acquire several attributes:

� openness to diverse views, within and across departments;

� willingness to challenge deep-seated assumptions;

� a climate that encourages experimentation and rewards "well-intentioned" failure.


� Entrenched attitudes may impede thinking needed to grasp discontinuities and surprises.

� Changing is not easy because attitudes are grounded in experience, reinforced by commitments and protected by inertia.

� Before prevailing thinking can be challenged, it should be described by making the views and assumptions of managers clear.

� Scenario planning can help challenge deep-rooted mentalities.


� Adapting to the vagaries of disruptive innovations requires experiment and an openness to learning from failures.

� Sometimes experiment requires a willingness to create diverse solutions, by endorsing parallel development activities.

� For example, Intel was researching Risc chips even as complex microprocessors were being emphasized; and Shell is developing renewable energy sources, from solar to wind to geothermal.


� It may also mean introducing prototypes into a market segment.

� Learning from this quickly is vital, followed by modifying the product, and trying again in a process of successive approximation.

� This is how Motorola entered the cellular phone market, and GE tackled the scanning business.


Maintain Strategic FlexibilityMaintain Strategic Flexibility� A paradox of disruptive innovation is that although it

is prudent to make limited investments, sometimes a strong commitment leads to success.

� One way to reduce this dilemma is to increase organizational flexibility, so lowering the cost of making a commitment and the cost of reversing direction.

� This is similar to using flexible rather than fixed manufacturing systems.

� Commitment might seem to be the opposite of flexibility and you may not be able to have it both ways. However, only if the commitment is irreversible does it destroy flexibility.


Microsoft is a prime example of a Microsoft is a prime example of a company maintaining flexibility company maintaining flexibility

� Its much-celebrated "turn on a dime" response when confronted with Netscape's web browser is just one instance.


� Microsoft was placing many bets as early as 1988. � At that time, Apple was at its peak with its superior

graphical interface for the Macintosh making Microsoft's DOS look like a distant second.

� However, Microsoft was operating on several fronts. On the one hand, it was developing Windows; on another, it was pushing OS/2, which it developed with IBM.

� At the same time, Microsoft was introducing application software, including Excel and Word, for both Windows and Macintosh. Lastly, Microsoft was in partnership with SCO, the largest provider of Unix for the PC.


Lessons from MicrosoftLessons from Microsoft� In essence, Microsoft had developed a strong

hand of cards to play in a variety of worlds that might emerge.

� In hindsight, its portfolio of options was commensurate with the uncertainties then surrounding hardware and software development.

� Questions of standards, features, channels and delivery modes (PCs versus servers) were still to be settled.

� In addition to developing a robust hand, Microsoft developed a culture that could quickly change strategy.


Organizational SeparationOrganizational Separation� The fourth strategy to avoid the pitfalls of

large incumbents is to hive off the disruptive business into a separate unit.

� The more the initiative can operate from a smaller, entrepreneurial mindset, the less it will be held back by the inertia, controls, risk-avoidance and big-company thinking that leads to the pitfalls discussed above.

� By creating an isolated nursery, the company protects the new venture from infection by microbes that, while not dangerous to the large company, can be deadly to the new.


� Many large companies set up separate unit dedicated to new ideas.

� Examples include GM's Saturn division, IBM's PC unit, or Roche's Genentech investment.

� The objective of putting the new business in a cocoon is to enable the new group to do things differently while still permitting the transfer of resources and ideas from the parent.

� This also permits separate objectives, recognition of long development cycles and continuing cash drains, as well as different criteria so the performance of managers in the rest of the organization is not jeopardized.

� Above all, it creates flexibility.


Many Degrees of SeparationMany Degrees of Separation� Some companies take the approach as far as to

create spin-offs. � These may be complete companies with their

own stock, board and management teams, in which the parent retains some ownership.

� Such equity carve-outs have been pursued by Thermo Electron, Safeguard Scientifics, Enron, Genzyme, and The Limited.

� This approach offers access to capital (via a public stock offering), strategic value from the corporate center, operating independence, development of executive talent in smaller units and greater motivation for key personnel through stock options and operating freedom.


Lessons from KodakLessons from Kodak� Kodak's experience with electronic imaging

highlights the strategic importance of separation (in whatever form).

� Originally, electronic imaging activities were dispersed among Kodak's chemical imaging facilities.

� This had a number of bad consequences. Managers of the film business continually interfered with electronic imaging projects, which were perceived as threatening the existing customer base.


� The company policy that all engineers be paid the same meant Kodak could not compete for highly paid electronic engineers.

� Because digital imaging projects were scattered throughout the company, there was no cohesive vision and limited accountability for performance.


� When George Fisher moved from Motorola to become chief executive, he put all digital imaging projects in one autonomous division and told managers to launch products.

� In a departure from a traditional "go it alone" strategy, he also initiated alliances to jointly develop projects.


Threaten the EstablishmentThreaten the Establishment

� Separation also implies willingness to cannibalize core business. � Indeed, a new venture may absorb

the parent. �This happened when Charles E.

Schwab entered online brokerage.


Lessons from Charles SchwabLessons from Charles Schwab

� The Schwab website let investors trade securities for $30. � By 1998, it was the dominant online broker. � Meanwhile, customers of Schwab's discount brokerage

were paying an average of $65 a trade, but getting personal service.

� As online trading boomed, the tensions from forcing customers to choose between service and price mounted.

� The decision was made that all trades would be made at $30, despite the damage to revenue.

� OUTCOMES: Not only did this help Schwab compete with online rivals, but its ability to deliver personalized information to customers at low cost made Schwab a bigger threat to full-service brokers.

ConclusionsConclusions

How can established companies compete, survive and succeed in

industries that are being created or transformed by disruptive innovations?


� Success requires support from senior management, separation of the new, flexibility and a willingness to take risks and learn from experiments.

� There should be a diversity of opinion to challenge dominant attitudes and misleading precedents, so avoiding myopic views of new ventures.

� The best innovators think broadly and will entertain a wide range of possibilities before they converge on a solution.


� These prescriptions need considerable tailoring to match each disruptive innovation and the organization involved.

� Indeed, the purpose of a template for a high-commitment organization is to enable it to cope with the tension of uncertainty while achieving commitment to the choices made.

� The main point is that managing disruptive innovations constitutes a different game for established companies, with its own traps and solutions.


� We have identified the major pitfalls and remedies from empirical experience and academic studies of the underlying causes.

� We are a long way from understanding the intricacies of these pitfalls and ways to avoid them, but the broad outlines of common mistakes and practical solutions are becoming apparent.

Staying Ahead Of Disruptive Innovation

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