Tuesday, April 18, 2006

Innovation and Risk Taking

I read recently on the Business InnovationInsider blog that there was a new research article about innovation and risk taking. I thought that would be worth checking out, since it is important to put innovation into context. Some innovation initiatives will fail, and the risk associated with each innovation initiative is that each one has some chance of failure. Hopefully, however, each initiative has a significant potential upside as well.

The article, by Vijayalakshmi and Pahlson-Moller looks at the risks and rewards of innovation. The authors look at the types of risks imposed on new ideas, from government regulations to sources and uses of capital. One of the risks they identify as a problem for a country and for a company is the inclination to change. The UK is held up as a model of a country that is less adaptable or willing to change than the US, therefore the UK lags the US in innovation.

The authors also describe the risks associated with the four "phases" of innovation - introducing a new product or service, growing a new product or service beyond its original intent, tweaking the product or service with incremental innovation and finally reviving an older product. These phases or stages represent different time frames and risks levels in the life of an innovation. We generally think most specifically about the risk associated with a new product introduction, but managing an existing portfolio of products has its own risks. Remember New Coke? That was really just a tweak of an existing product, but it failed spectacularly.

What surprised me about the article is that there is one risk the authors did not address at all - the risk associated with a strategy of no innovation. Isn't it considerably risky in this day and age to decide to rest on your laurels? What are the tradeoffs of risk/reward for innovative firms and non-innovative firms in the same industries? Arthur Little published a study two years ago which indicated that firms within the same industry differ widely in profitability and growth depending on their stance on innovation. Within the same industry, there were swings as wide as 4 percentage points of profit attributable to how innovative a firm was. The more innovative, the more profitable. So, clearly, there's a risk of not innovating, just as there are risks when a firm undertakes an innovative product or service.

If growth is important to a firm, and if growth is dependent on offering existing products and services to new customers, or offering new products and services to existing or new customers, then growth is driven by new products and new service offerings. These, in turn, are driven by product and service innovation. So, it would appear that growth and profitability can be tied in many ways to innovation, which makes a stance of "status quo" or a lack of innovation almost tantamount to surrender in a market.
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posted by Jeffrey Phillips at 10:37 AM


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