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How to stay inventive in a time of retrenchment.

As the economic clouds darkened near the end of 2008, a colleague asked a troubling question: “Is this the end of the innovation movement?” After all, tough times typically lead to corporate belt tightening, and innovation efforts that promise payoffs in the distant future would seem to be easy targets for cost cutters. In an unexpected way, however, today’s tough times may very well be remembered as the moment when the nascent innovation movement took a great leap forward.

The 1980s and 1990s can broadly be called the era of optimization. Companies focused on exploiting winning business models. They expanded their businesses globally for top-line growth, and used tools like Six Sigma to bring greater predictability to the bottom line.

A sharp rise in venture capital coupled with dramatic technological enhancements in the mid-1990s heralded the beginning of the end of this era. Events of the past two years should make abundantly clear that today we’re in an era of constant creative destruction.

What are the hallmarks of this era? Competitive advantage disappears in an instant. The competitors that companies have to worry the most about are the ones that don’t yet exist. And leaders who wait until data are clear usually are looking for their next leadership opportunity.

Some leaders are wistfully waiting for things to return to normal. It will be a long wait. Every trend suggests that the business world is going to face more, not less, turbulence in coming years.

The shocks that rocked the world economy in 2008 are without recent precedent. No one knows for sure what long-term changes will result from the reverberations. Companies might feel an overwhelming desire to return to the corporate equivalent of comfort food—a focus on operating the core business as effectively as possible. Entrepreneurs might polish off their resumes and seek safe havens at big companies that appear better positioned to weather the storm.

Unfortunately, the “new normal” of constant change means there are no safe havens. Companies that turn inwards are sowing the seeds of their own destruction by creating opportunities for attackers to pull profits out of existing markets or create defensible competitive advantage in new markets.

Simple survival isn’t sufficient. Companies have to continue to invest in growth and innovation, or face the consequences.

Looming constraints might seem to make innovation impossible. However, the forced discipline of tough economic times can help innovation. Excess is a root cause of many innovation struggles, allowing companies to follow the wrong path for too long. Tough economic times force innovators to do what they should have been doing already—take a disciplined approach, where they focus resources on critical assumptions to accelerate learning and iteration. Companies and entrepreneurs that embrace the right mindsets and take the right actions can innovate better, faster and cheaper.

History suggests that innovation flourishes no matter how dark the times. For example, there is a general consensus that the current economic situation is the worst since the Great Depression. Innovation didn’t freeze in that period. New companies formed. Charles and Joseph Revson borrowed money from loan sharks and used creative distribution approaches to launch Revlon’s revolutionary opaque nail polish in the early 1930s. Stanford University classmates Bill Hewlett and Dave Packard famously formed the high-technology titan in a garage in 1938. Companies like Texas Instruments, Tyson Foods, Ethan Allen, Polaroid and Progressive also got their starts in the 1930s.

Big companies innovated as well. A scientist at chemical giant DuPont discovered neoprene, the world’s first synthetic rubber, in 1930. Even as existing product lines sagged, DuPont boosted its innovation investments. The company took advantage of the tough times to snag top scientists and key inputs at affordable rates. Neoprene went on to be one of the major innovations of the 20th century, with neoprene components in every automobile and aircraft manufactured in America by the end of the 1930s. In the face of economic distress, DuPont also invested to create one of the world’s first corporate research programs, which led to the creation of other materials, such as nylon.

Today’s Innovation Opportunities
There are reasons to expect there to be more success stories in today’s tough times. Over the past decade, the fog that has historically shrouded innovation has begun to dissipate. Companies are combining well-grounded academic research and their own field experience that tough times particularly favor “on-the-brink” disruptive attackers. These are companies that have started the process of creating new markets or transforming existing ones, but haven’t yet broken through to the mainstream. Think Intel and Nucor in the early 1980s, Cisco Systems and Best Buy in the early 1990s, and Research in Motion and University of Phoenix in the early 2000s.

EnerNOC could be just such a company in today’s market. The company’s demand management service allows it to remotely control a company’s energy use. When the electrical grid is nearing peak utilization, EnerNOC can dynamically lower a company’s use. For example, it might dial down an office park’s electricity usage on a hot summer day when home air conditioning use is surging. Reducing the office park’s off-hour electricity usage triggers significant economic and ecological savings. That office park goes from being a pure consumer of electricity to a virtual energy producer that gives capacity back to the grid.

Similarly, game-changing innovations like Amazon’s Kindle e-reader, Cisco’s crystal-clear TelePresence video conference solution, Facebook’s social networking service and Skype’s Internet-delivered telephony services should continue to surge. All of these innovations started the downturn on the verge of a tipping point—and all have continued to seize the opportunities that still exist in today’s market.

There remain substantial opportunities for corporate innovators and entrepreneurs looking to plant seeds of new growth. Look at the education industry. Last year my colleague, Clayton Christensen, boldly predicted that 50 percent of U.S. high school courses would be delivered online by 2019. Innovators are working to make this prediction a reality. Consider startups like DreamBox Learning. The company recognizes that making education more engaging is difficult, so it is trying to figure out how to make engaging games more educational.

Another industry ripe for transformation is healthcare. Growing impatience over spiraling healthcare costs and substantial government investment will shift focus from sophisticated solutions that target next-to-impossible-to-solve problems to simpler, more affordable and more convenient solutions.

For example, in early 2008 General Electric’s healthcare division launched a very simple echocardiogram machine that was uniquely attuned to the needs of the Chinese market. The product was about 90 percent cheaper than existing products. In 2009, the device “trickled up” to more demanding Western markets.

Emerging Opportunities
More companies need to figure out how to follow General Electric’s approach of driving innovation in emerging markets. Eighty percent of the world’s population and 40 percent of the world’s economy (adjusting for purchasing power parity) constitutes just 10 percent of revenues for S&P 500 companies. Growth-seeking companies need to learn how to find that elusive fortune at the bottom of the economic pyramid.

“Cleantech” technologies present another opportunity. Governments and venture capitalists continue to pour money into startups that promise to reduce dependency on fossil fuels and create more environmentally friendly solutions. Innosight colleagues Mark Johnson and Josh Suskewicz provide a cautionary note for investors banking on turning technological breakthroughs into billions: Research into past technological transformations shows that the real winners are almost always the business model innovators.

That means watching companies like Shai Agassi’s Better Place. The company is following a novel approach in the electric car market. While many companies in the space are targeting the Holy Grail—a low-cost battery that can go hundreds of miles between charges—Agassi’s Better Place is hoping to decouple the battery from the car. Better Place consumers will pay a monthly subscription fee to access a network of charging sites and service centers where they can swap spent batteries for fresh ones. Instead of pulling into a gas station to refill your tank, you’ll pull into a battery service station to exchange your used battery.

Implications for Innovation
The world of innovation could change substantially in the next few years. During the 1990s and early 2000s, a small group of companies—Cisco Systems, Procter & Gamble, General Mills, IBM and Nokia among them—quietly started to work to bring greater predictability to their innovation efforts. While these companies are from different industries, they share a common philosophy: Innovation is a discipline that can be managed and mastered. While the companies certainly seek individual wins, the real focus is on churning out wave after wave of blockbuster growth businesses.

The economic shock could have killed these efforts, but it didn’t. For example, P&G has more new product launches planned for 2010 than in any year in its history. These “systematizers” have an opportunity to double down, creating a substantial gap between themselves and their competitors.

The success of these companies could have unanticipated side effects. After all, why does the venture capital industry exist? At least one reason is a failure of large companies to innovate. Why do companies spend so much on advertising? At least one reason is a failure of large companies to come up with products and services that people actually want. Why do companies spend so much on mergers that they know will destroy value? At least one reason is a failure of large companies to create organic growth businesses with any kind of reliability.

Companies building processes to put well-grounded patterns of innovation to work are addressing these failures. Improvements in the innovation success rate—further fueled by the good discipline imposed by forced scarcity—will have unanticipated changes in the broader world of innovation.

Leaders of companies that have not yet made innovation a core capability should ask themselves three questions:

  • Have I committed to innovation?
    Remember, innovation is no longer a strategic nicety. It is a strategic necessity. Make sure you and your leadership team are serious about innovation, devoting resources and your own time to the topic.
  • Is my organization ready for innovation? If your core business is out of control, or if resources are being sucked up by an existing business that has passed the corporate equivalent of a sell-by date, take care of these areas before turning your attention to innovation.
  • Am I personally ready to lead innovation? Managers used to be able to thrive by being disciplined operators. Data ruled the realm. Increasingly, leaders will have to also master experimentation. Intuition will be an increasingly valued skill. Most leaders aren’t yet prepared to manage the paradoxes that lie in front of them. If you aren’t, consider time-tested ways to strengthen your innovation muscles, such as consciously complicating your life by brushing up against other disciplines.

Hope is not lost. Opportunity remains. Whether your company looks back and remembers the current economic circumstance as the beginning of the end or a kick-start to transformation depends on your actions. The choice is yours.

Scott D. Anthony is president of Innosight LLC, an innovation consulting and investing company with offices in Boston, Baltimore, Singapore and India, and author of The Silver Lining: An Innovation Playbook for Uncertain Times.

About Scott D. Anthony