Innovation : Demystifying Innovation
Eric Chen was a consultant at the Cap Gemini Ernst & Young Center for Business Innovation. Eric’s work focuses on innovation metrics and intangible valuation, and he recently completed research for a book on intangibles. Eric received his S.B. in economics from MIT.
Kathryn Kai-ling Ho was a consultant at the Cap Gemini Ernst & Young Center for Business Innovation. Her work focuses on innovation assessment and media relations. Kathryn graduated from Bryn Mawr College in May 2000 with a dual degree in neuropsychology and East Asian Studies.
Over the last two decades, many companies felt the most surefire way to maintain a competitive advantage in their industry was through increased revenues and cost cutting. Our research at the Cap Gemini Ernst & Young Center for Business Innovation ( CBI ) has revealed, however, that innovation has become just as important as one of the most valuable competitive differentiators. Innovation may be the only sustainable competitive advantage in today’s economy. Not only is innovation now regarded by the greater business audience as vital to any organization’s current success, but research shows the financial markets value innovative companies higher.
At the CBI, our research has shown a direct correlation between companies that are innovative and their standing in the financial markets. Statistical analyses of industries, ranging from durable manufacturing to 2B e-commerce, place innovation at the top of the list of nonfinancial drivers of corporate market value. If we know that the market is incorporating innovation into its valuation of companies, then companies must also carefully examine how innovative they are. To understand this, companies should be asking two major questions. How do I recognize innovation in my organization ? And, can I assess my organization’s innovativeness ?
The CBI’s research shows significant quantitative results that innovation is one of the key factors of corporate value creation. Specifically, innovation has consistently ranked among the most powerful drivers across different industries in the CBI’s Value Creation Index ( VCI ). The CBI created the VCI in order to define and weigh the importance of nonfinancial value drivers ( such as innovation, brand, management, social responsibility, etc. ) as measured by their impact on a company’s market value ( see Innovation: A top value driver ).
These value drivers are composed of quantitative data indicators; in the case of innovation, both internal processes such as R&D spending and external output, such as patents awarded and power of patents ( measured by the number of references to a specific patent by other patents ), factored into how we measured how innovative a company was. Statistical modeling has shown that the composite of these value drivers significantly explains market value, and the analysis of our industry-specific VCI models have directly linked innovation to corporate success across industries. In addition, its high ranking among the other value drivers in the VCI means that innovation is one of the best ways to differentiate oneself as superior to competitors in the eyes of the financial markets.1
Identifying an Innovation
What is an innovation ? Very often, managers view any product, service, technology, or process that is new or different as an innovation. But this definition is limited. In order for something to qualify as a true innovation, it must meet three basic criteria in tandem: It must engage a creative process, it must be distinctive, and it must yield a measurable impact.2 By understanding how the three components combine to define an innovation, a company will be positioned to identify them and assess their effectiveness.
A vital qualification for assessing innovation is the creative process. This component refers to how a product, service, technology, or process is created. The creative process involves finding a new solution to a problem with the aspiration that a novel solution will lead to an efficient and valuable gain.
We reasoned that a reliable way of quantitatively measuring organizational investment in the creative process was through analysis of a company’s research and development budget. Granted, putting more money into R&D may not have a direct causal relationship with the presence of a creative process, but we believe a strong correlation does exist. Benchmarking studies for the R&D Scoreboard, published by the U.K. Department of Trade and Industry ( DTI ), have shown that “in previous downturns companies that have cut R&D investment have often found that their range of products and services compare less well with competitors when the upturn comes and it is then more difficult to protect market share and value added.”3 DTI research has also shown a positive correlation between R&D intensity ( R&D as a percentage of sales ) and sales growth. Specifically, the revenue growth of companies with above-average R&D intensity is six times as fast as companies with below-average intensity.
While companies can act upon new ideas that originate externally and are initially unrelated to investment dollars, those ideas need to be nurtured in an organization that devotes the necessary time and money to develop them. Thus, R&D investment, both as a raw number and as a percentage of sales, proves to be a meaningful quantitative measure of the creative process involved in innovation.
The creative process can also be measured, however, with qualitative findings. Companies might ask themselves if the development of a new solution to a problem is better characterized as:
- a ) A rigid, previously applied process used only because it is the organizational standard.
- b ) A parallel process used in a new environment.
- c ) A flexible process incorporating the best combination of old and new ideas.
On a linear scale of the creative process, ( c ) is better than ( b ), which is better than ( a ). Some organizations view the mantra “not invented here” as taboo; these firms are stuck on creative process ( a ). But cultivating innovations by constantly repeating the same creative process is likely to yield diminishing returns. Other companies may pride themselves on searching outside the organization for better ways of doing things and see “not invented here” as a good thing; these firms typically espouse creative process ( b ). One of the most popular methods of developing new ideas and opportunities of many of today’s well-connected organizations is borrowing from others in their network. Ultimately, however, we believe that those organizations that are open-minded enough to understand the best way of doing something can come from inside the firm, outside the firm, or a combination— organizations employing creative process ( c ) will be the most successful.
In a positive example of employing the creative process, the National Institute of Education ( NIE ), a division of the Nanyang Technological University in Singapore, was tasked with devising a method to grow temperate plants in the warm lowland tropics. As academics, they initially combed literature to analyze the landscape of research related to the topic. Recent research, however, was largely conducted only by temperate countries in extremely cold climates, the opposite of the NIE’s dilemma. Nonetheless, the NIE scientists focused on a case from Holland, in which the Dutch had warmed the soil within the greenhouse to promote warm air to rise and create a warm aerial zone for the lettuce to grow. The scientists from the NIE then inferred that the warmth of the soil had growth implications on the root physiology and in turn the plants’ development.
In Singapore’s warm climate the opposite conditions exist, therefore scientists needed to develop a system that cooled the critical rootzone. Until recently, they had attempted to simulate an ideal overall temperate condition by building a greenhouse where the environment is cooled to levels similar to those found in moderately cooler countries. This approach was extremely costly due to the amounts of energy consumed to cool the entire greenhouse environment.
NIE eventually realized they could leverage existing aeroponics technology, a method of growing plants with roots suspended in the air within an enclosed trough while feeding the roots with chilled nutrient solution in the form of a mist. By cooling only the rootzone, scientists were able to grow temperate leafy vegetables by simulating their indigenous, more temperate environment even though the actual environment was in the mid-30s degrees Celsius ( low 90s degrees Fahrenheit ).
The NIE’s innovative success was largely due to the creative process undertaken. The scientists involved combined the findings of the Dutch case with their own technology to arrive at a creative new solution to a long-time problem. Without employing such a creative process, the NIE might still be searching for cost-effective ways to cool greenhouse temperatures.
Distinctiveness is the second major component in evaluating an innovation. A distinctive innovation rewrites the rules of the game. Something that is distinctive is so different that it changes what both competitors and collaborators are doing, and it oftentimes brings new players into the fold who were not initially considered to be part of the game. The key differentiation between distinctiveness and the creative process criteria is that the creative process relates to how something comes into being, while distinctiveness refers to the nature of the discrete output. Simply put, how does a company determine if what it has created is new ?
The granting of a patent is an excellent measure of the distinctiveness of an innovation. In order for the United States Patent & Trademark Office to grant a patent, the product or process must be “new,” “useful,” and “non obvious.” These criteria serve as a good screen for distinctiveness, making the number of patents associated with a particular output a useful quantitative measure.
Just like the creative process of a company, an innovation can have different levels of distinctiveness. To assess distinctiveness, a company should ask questions such as:
- How is this innovation distinct from other ideas that have historically emerged ?
- Is it the first of its kind in any form ?
- Is it the first successful implementation ?
Companies should also ask questions that help us understand if the “rules of the game” really have been rewritten:
- Does your innovation make others react to what you have created and now offer ?
- Are others forced to make changes based on your actions ?
- Does this innovation change the basis of competition ?
If we return to the NIE example of incorporating aeroponics into tropical farming, several facets of its offering are distinctive. For example, this innovation has not helped produce non-indigenous vegetables, but it also considerably revamped perceptions on plant physiology with respect to both content and methodology. Since traditional plant physiology mainly deals with shoot physiology, this innovation’s focus on roots has opened up new paths and directions for the field.
So if a company has a robust creative process that turns out a very distinct output, it is two-thirds of the way to having an innovation.
The third piece of the innovation puzzle is impact or the realization of value from a new product, service, technology, or process. Impact is the element that truly differentiates the innovations from the mere inventions.
Of the three criteria, impact is probably the easiest to measure in terms of available quantitative measures. One way we measure the realization of value from an innovation is measuring the power of patents—the number of times a patent is referenced by other patents. The more a particular patent is referenced, in all likelihood, the more of an impact its existence has generated. There are also a number of financial results that can be used to measure impact as long as the figures can confidently be attributed to a particular innovation, a challenging but necessary step. These include fees earned from licensing agreements, increased revenue, increased market share, and substantial cost savings, among others.
As with the previous criteria, qualitative data is also invaluable in measuring an innovation, particularly since its impact is often social as well as economic. Important questions in assessing impact include:
- Is a company only dealing with primary impact ? Or is it also valuing the effects of the innovation beyond the scope of its primary customers and achieving secondary impact ? ( e.g., the primary impact of war is that it takes many lives, but we can see that war also leads to significant secondary impacts, such as inciting ideological and cultural shifts. Some feel strongly that secondary impacts should be given equal consideration when assessing impact. )
- Is a company evaluating measurable impact today as well as the future potential impact ? ( e.g., Boston’s Big Dig construction project: Today the Big Dig has yielded little impact to Bostonians other than the dreadful congestion and confusion around construction sites. Some believe, however, that the completion of this project will undoubtedly have a huge impact on traffic flow, create a needed green space, and in turn, impact life in Boston. Therefore, a company must be cognizant of what type of impact it is measuring. )
- Can a company assess social, economic, and technological impacts ? ( When dealing with such different variables, it becomes increasingly difficult to benchmark one against another. Does 300 lives saved carry more or less impact than a $5 billion return on investment ? Therefore, each type of impact must be taken into consideration. )
- Do we assess impact with respect to or irrelevant of intentionality ? ( Should the gap between what a company intended to achieve and what its actual results were affect its assessment ? )
Consider the way the Singapore National Institute of Education integrated its newfound understanding of root physiology with aeroponics to develop a technology for growing temperate vegetables on a commercial scale. This process has not only saved energy costs, but in turn eliminated the necessity of importing certain vegetables. This innovation even created new markets around these vegetables. Two commercial farms have now been developed based on this technology. As a result, consumers in Singapore can now enjoy fresh lettuce supplied locally everyday, as well as more creative products such as Lettucinno™ ( a lettuce drink ), Lettu-jello™ ( lettuce jelly ), and lettuce cake. Irrespective of whether these products are as delicious as advertised, the innovation clearly has had impact both directly—growing temperate vegetables in a tropical climate—and indirectly—creating new markets for lettuce-based products.
Importance of the Trio
While projects that do not meet all three criteria can still be of some value, they must incorporate the creative process, be distinctive, and yield a significant impact to be considered a true innovation.
We have provided an innovation spectrum for managers ( see Figure 2 ) to assess their own innovations both quantitatively and qualitatively in tandem. Using the spectrum, companies can gain a better insight on their innovations. An innovation’s success in each of the three criteria places it at a point along each of the three axes. So, in addition to helping a company understand how to identify an innovation, this graphic helps companies realize where the limitations of an innovation or a potential innovation reside, providing guidance in how to better manage burgeoning ideas, technologies, processes, products, or services.
It is important to articulate that assessment is not the same as measurement. Rather, measurement is one aspect of assessment that refers to the use of concrete quantitative data. In order to gauge innovation, purely measuring statistical data is not useful for capturing the entire picture. Instead, innovations should be evaluated according to these three criteria based on both quantitative and qualitative information.
Innovations do not grow in a vacuum, and companies that want to gain a competitive advantage now and ensure long-term earnings potential need to create a climate supportive of innovation. Rather than viewing the evaluations of innovations as separate from a company’s main objectives, the same criteria that define an innovation should also represent guiding tenets for a company as a whole. An organization should be focused on creative processes that build new solutions to old problems, should try to be distinctive with their offering in their market, and should hope for and measure the impact of each new business development.
1. On Demystifying Innovation, see the cgey journal . On the Value Creation Index, see the cgey value-creation-index.
2. This statement is derived from the CBI’s definition of innovation: Innovation is the realization of value from a new solution to a problem, rewriting the rules of the game.
3. Cookson, Clive, “Survey - R&D Scoreboard,” Financial Times, Sep. 27, 2001.
© Eric Chen and Kathryn Kai-Ling