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Clayton M. Christensen, Michael E. Raynor: The Innovator’s Solution; Creating and sustaining successful growth

Innovator's solution

Why is it so hard to sustain success?

Growth imperative

Growth is important because companies create shareholder value through profitable growth. Too often the very attempt to grow causes the entire corporation to crash. Pursuing growth the wrong way causes entire corporation to crash. Pursuing growth the wrong way can be worse than no growth at all.

Investors have a pesky tendency to discount into the present value of a company’s stock price whatever rate of growth they foresee the company achieving. The canny horde of investors not only discounts the expected rate of growth of a company’s existing business into the present value of its stock price, but also discounts the growth from new, yet-to-established lines of business that they expect the management team to be able to create in the future.

Why is achieving and sustaining growth so hard?

  • One is to blame managers for failing.
  • Second explanation is because managers became risk-averse.
  • Third is that creating new-growth business is unpredictable.

Understanding innovation is not about understanding how individuals act, but it is more about what forces influence individuals involved in innovations. Ideas are always bubbling in every company. It is not so much a problem of number of those ideas as it is the problem in shaping process. In order to improve predictability, we need to understand theory. Good theory is about what causes what and why. Setting a good theory is about:

  • Describing the phenomenon that we wish to understand.
  • Classifying the phenomenon into categories.
  • Articulating a theory that asserts what causes phenomenon to occur and why.

We can trust a theory only when its statement of what actions will lead to success describe how this will vary as a company’s circumstances change. It is the ability to begin thinking and acting in a circumstances-contingent way that brings predictability to our lives.

Competition

It is important that we understand what kind of innovations we are talking about in order to know how to handle them. Sustaining or disruptive. Disruptive strategies greatly increase the odds of competitive success.

Three critical elements of disruption are:

  • Rate of improvement that customer can utilize or absorb.
  • Different trajectory of improvement that innovating companies provide as they introduce new and improved products.
  • Distinction between sustaining and disruptive innovation.

Asymmetric motivation is about different potential to respond to disruptive circumstances from established and entrant companies.

Shaping a business idea into a disruption is an effective strategy for beating an established competitor. Disruption works because it is much easier to beat competitors when they are motivated to flee rather than fight. A disruptive business model that can generate attractive profits at the discount prices required to win business at the low end is an extraordinary valuable asset. There are two main dimensions of disruption:

  • Low-end disruption that addresses overserved customers with a lower-cost business model.
  • New-market disruption that competes against nonconsumption.

Many disruptions are hybrids, combining new-market and low-end approach.

Disruption is an ongoing force that is always at work – meaning that disruptors in one generation become disruptees later. Disruption is a theory: a conceptual model of cause and effect that makes it possible to better predict the outcomes of competitive battles in different circumstances.

What customers buy

The functional, emotional and social dimension of the jobs that customer need to get done constitute the circumstances in which they buy. Customer “hire” products to do specific “jobs”. Companies that target their products at the circumstances in which customers find them-selves, rather than at the customers themselves, are those that can launch predictably successful products.

Competing against nonconsumption often offers the biggest source of growth in a world of one-size-fit-all products that do no jobs satisfactorily.

There are at least four reasons why managers in established companies focus more on attribute-based market segments than what customers want: the fear of focus, the demand for crisp quantification, structure of many retail channels and advertising economics that target products at customers rather than circumstances.

Sharp focus on jobs that customers are trying to get done holds the promise of greatly improving the odds of success in new-product development. Quantification is integrated in corporate structure, all reports are about products, customers and organizational units. Many retail and distribution channels are organized by product categories rather than according to the jobs that customers need to get done. Brands are, at the beginning, hollow words into which marketers stuff meaning. If a brand’s meaning is positioned on a job to be done, then when the job arises in a customer’s life, he or she will remember the brand and hire the product.

Products should not ask customers to change jobs, they should offer better way (efficient or convenient) what they’re already trying to do.

The mismatch between the true needs of consumers and the data that shape most product development efforts leads most companies to aim their innovations at nonexistent targets.

Ideal customers

For low-end disruption ideal customers are mainstream products users that seem disinterested in offers to sell them improved-performance products. It is much trickier to find the new-market customers.

New-market disruption has a consistent pattern. Original customers migrate into the new value network when its functionality becomes good enough. Examples are: the disruption of vacuum tubes by transistors (functionality such as low consumption, ruggedness and compactness); angioplasty – a disruption of heart-stopping proportions (enabling less-seriously ill patients to receive therapy that was better than the alternative (nothing)) and solar versus conventional electrical energy (if developers would target nonconsumers in South Asia and Africa (2 billion) with no access to electricity.

Four elements of a pattern of new-market disruption:

  • Target customers with job to be done, but they don’t have money or skill to do it.
  • Comparison that those customers do is one of disruptive product and to have nothing at all.
  • Even if technology of disruption is complex, disruptors deploy it in simple, convenient and foolproof way.
  • The disruptive innovation creates a whole new value network.

Clark Gilbert from HBS explained why establish firms have problem to create new-market disruption. They see disruption as a threat and not as possibility of growth and so they focus on defending their existing customers and business. Solution is twofold. First to get top-level commitment of resources, you frame innovation as a threat. But later you shift responsibility for the project to an autonomous organization that can frame it as an opportunity. So, it is basically about high commitment and flexible plan.

New market disruption is also about disruptive channel. Usually established channels are not the right way to launch disruptive products on the market. Companies in your channel are customers with a job to get done, which is to grow profitability. Innovating managers should find channels that will see the new product as fuel to propel the channel up-market. Disruptive products require disruptive channels.

Outsourcing and insourcing, the scope of business

Because evidence from the past can be such a misleading guide to the future, the only way to see accurately what the future will bring is to use theory. We need circumstance-based theory to describe the mechanism by which activities become core or peripheral.

When we look at circumstances-based theory in light of how to handle activities, we should first understand job-to-be-done approach. Customers will not buy products, if it will not solve problem for them. But a solution differs across the two circumstances: whether products are not good enough or are more than good enough. If they are not good enough, you should look for integration inside your own organization. If they are good enough, you look for outsourcing and specialization. We are talking about interdependent architecture or modular one. Interdependent optimize performance (functionality and reliability), modular optimize flexibility.

Interdependence is about integrated companies. When functionality demand from customers are meet (they are not willing to pay more for improvements), then they become willing to pay more for innovation in speed, convenience and customization. Moving into modular design phase is time of performance surplus. Modularity has a profound impact on industry structure because it enables independent, nonintegrated organizations to sell, buy and assemble components and subsystems.

Pattern is:

  • The pace of technological improvements outstrips the ability of customers to utilize it.
  • This forces companies to compete differently.
  • As competitive pressures force companies to be as fast and responsive as possible, they solve this problem by evolving the architecture of their products from being proprietary and interdependent toward being modular.
  • Modularity enables the dis-integration of the industry.

For partners to work in modular environment and expand their supplier network, three conditions must be met: specificability, verifiability and predictability.

Commoditization

Whenever commoditization is at work somewhere in a value chain, a reciprocal process of de-commoditization is at work somewhere else in the value chain.

Integrated usually have healthy margin model. Because of proprietary technology and because they utilize quite high ratio of fixed to variable cost, when economy of scale kick in. In modular world, you need to look elsewhere to make any serious money.

Process of commoditization occurs in six steps:

  • As a new market coalesces, a company develops a proprietary product that, while not good enough, comes closer to satisfying customers’ needs that any of its competitors.
  • As the company strives to keep ahead of its direct competitors, it eventually overshoots the functionality and reliability that customers in lower tiers of the market can utilize.
  • This precipitate a change in the basis of competition in those tiers, which…
  • …precipitates an evolution toward modular architectures, which…
  • …facilitates the dis-integration of the industry, which in turn…
  • …makes it very difficult to differentiate the performance or costs of the product versus those of competitors.

Disruption and commoditization can be seen as two sides of the same coin. Core competence, as it is used by many managers, is a dangerously inward-looking notion. Competitiveness is far more about doing what customers value than doing what you think, you’re good at.

Executives who seek to avoid commoditization often rely on the strength of their brands to sustain their profitability – but brands become commoditized and de-commoditized, too.

Companies should think about where the money will be and not focus to much on where the money is, when they think about disruptive innovation.

Organizational structure for disruptive growth

A surprising number of innovations fail not because of some fatal technological flaw or because the market isn’t ready. They fail because responsibility to build these businesses is given to managers or organizations whose capabilities aren’t up to the task.

Capabilities is about RPV framework – resources, processes and values.

Circumstances-based theory articulated by Morgan McCall talks about the management skills and intuitions that enable people to succeed in new assignments were shaped through their experience in previous assignments in their careers. A business unit is a school and the problems are the curriculum.

Failure and bouncing back from failure can be critical courses in the school of experience. We know for sure that we aren’t sure if our strategy is right. We don’t know how this market ought to be segmented. We need to find or create a distribution channel. Our corporate parents will bequeath gifts upon us such as overhead, planning requirements and budgeting cycles. We need to become profitable and we must manage perceptions and expectations.

Organizations create value as employees transform inputs of resources – the work of people, equipment, technology, product designs, brands, information, energy and cash – into products and services of greater worth. The patterns of interaction, coordination, communication and decision making through which they accomplish these transformations are processes.

An organization’s values are the standards by which employees make prioritization decisions.

Resources and processes are often enablers (what companies can do), values often represent constraints (what they can’t do). In the start-up stages of a business, much of what gets done is attributable of its resources – particularly its people. Over time organization’s capabilities shift toward its processes and values. When decisions become assumptions more than conscious decisions, values and processes becomes culture.

When managers think about either to use existing capabilities or create, acquire or develop new ones, it is important for them to understand if business is good value fit, than it can stay inside existing commercial structure and if it is good process fit, than functional organization will do, if not than they need to bring heavyweight teams.

When we think about acquiring rather than developing a set of needed capabilities it is important to understand if drivers of acquired companies are really their processes and values. If so, then integration doesn’t make sense. If it were resources, then integration makes sense,

Managing strategy development process

There are two main strategy development processes:

  • Deliberate
  • Emergent

The deliberate is conscious and analytical. If three conditions are meet: the strategy must encompass and address correctly all of the important details required to succeed, strategy needs to makes sense to all employees and intentions must be realized with little influence from outside. The deliberate strategy process should be dominant once a winning strategy has become clear.

Emergent strategy bubbles up from within the organization. It is the cumulative effect of day-to-day prioritization and investment decisions made by middle managers, engineers, salespeople and financial staff. emergent processes should dominate in circumstances in which the future is hard to read and in which it is not clear what the right strategy should be.

A company’s strategy is what comes out of the resource allocation process, not what goes into it. One of the most important roles of senior management during a venture’s early years is to learn from emergent sources what is working and what is not.

Three points of executive leverage on the strategy process. Managers must:

  • Carefully control the initial cost structure of a new-growth business.
  • Actively accelerate the process by which a viable strategy emerges.
  • Constantly watching and defining if circumstances demand emergent or deliberate approach.

Discovery-driven planning to help a viable strategy emerge much more quickly and purposefully than is likely to happen through less-structured trial and error. Discovery-driven planning is a way to actively manage the emergent strategy process. It is ok to make financial projections. But to compile assumptions checklists is also crucial. You should rank assumptions from most to least crucial. Then you need to develop a plan to test the validity of the most important assumptions. When those steps are done, then you can make the decision to implement through significant investment.

When a viable strategy has emerged and it is time for execution, the CEO needs aggressively to switch to a deliberate strategy mode and stop funding emergent opportunities that might divert the company from its focus on the winning plan.

Good and bad money

The best money during nascent years of a business is patient for growth but impatient for profits. Money can be impatient for growth when company goes into deliberate strategy mode.

 A business model that can make money at low costs per unit is a crucial strategic asset in both new-market and low-end disruptive strategies. The lower it can start, the greater its upside.

Good money turns bad. There are five steps in this spiral:

  • Companies succeed
  • Companies face a growth gap
  • Good money becomes impatient for growth
  • Executives temporarily tolerate losses
  • Mounting losses precipitate retrenchment

In order to avoid this, it is important to develop new-growth businesses while core businesses are still growing. Since they provide cover for this development. It is when growth slows, that investing to grow becomes hard. Once growth had stalled, the corporation’s money turned impatient for growth. Financial results measure how healthy the business was, not how healthy the business is.

Policies for keeping the growth engine running can be summarized as: start early, start small and demand early success.

  • Launch new-growth business regularly when the core is still healthy.
  • Keep dividing business units. Launch growth ventures withing organizational units that can be patient for growth.
  • Minimize the use of profit from established businesses to subsidize losses in new-growth businesses. Be impatient for profits.

Acquisition can be a very successful strategy if it is guided by good theory. Acquiring disruptive early-stage companies can change the slope of the revenue trajectory.

Ventures that are allowed to defer profitability typically never get there.

Role of executives in growth activities

Disruptive innovation is the category or circumstances in which powerful senior managers must personally be involved. Sustaining innovation is the circumstances in which delegation works effectively.

The disruptive growth engine is about:

  • Start before you need to
  • A senior manager in charge
  • An expert team of movers and shapers
  • Train the troops

Innovator’s solution for innovator’s dilemma

Forces that influence managers are:

  • Need to move up-market to maintain profit margins.
  • The need to satisfy existing customers.
  • The forces of commoditization and decommoditization.
  • The mandate to grow from an ever-larger revenue base.
  • The fact that the processes and values that define the capabilities of one business model simultaneously define disabilities for other business models.

Structure and conditions that are required for successful growth:

  • Starting with cost structure in which attractive profits can be earned at low price points and then carried up-market.
  • Being in disruptive position towards competitors so that they will rather flee than fight.
  • Starting with non-consumers.
  • Targeting a job that customers are trying to get done.
  • Assigning managers with right experience.
  • Creating environment with processes and values attuned to what needs to be done.
  • Having flexibility to respond as a viable strategy emerges.
  • Starting with capital that can be patient with growth.

Good theories are circumstances-based. They describe how managers need to employ different strategies as circumstances change in order to achieve the needed results.

Advices to executives:

  • Never say yes to a strategy that targets customers and markets that look attractive to an established competitor.
  • If your team targets customers who already are using pretty good products, send them back to see if they can find a way to compete against nonconsumption.
  • If nonconsumption is not available, look for low-end disruption.
  • If the project leader ever uses the phrase: “If we can just get the customer to….”, terminate the conversation.
  • If the team’s product or marketing plan focuses on market segmentation whose boundaries mirror your organization’s boundaries or if the targeted market is segmented along the lines for which data are readily available, send the team back.
  • If your team’s product improvement road map assumes that the basis of competition won’t change, look at the low end.
  • If your disruptive products or service is not yet good enough and your team is pushing for outsourcing and partnering deals, raise a red flag.
  • Ask questions about resources, processes and values.
  • Ask also the same questions about each of the entities that constitute the venture’s channels as well.
  • Maybe you will need to distrust the managers whom you have learned to trust.
  • In the beginning years make sure that the development team remains convinced that they aren’t sure what the best strategy is.
  • Be impatient for profit.
  • Keep your company growing so that you can be patient for growth.
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