Pushing the boundaries – part 3: Making open innovation relevant to more economic players

By: Innovation Management

This is the last article in a series of three, illustrating how we can push the boundaries within open innovation research. After reading a recently published strategy book by Rita McGrath, “The end of competitive advantage”, the writer is convinced that it offers several handles to understand open innovation in a broader, strategic context.

What are the similarities between the book The End of Competitive Advantage and the major assumptions behind the Open Innovation paradigm as advocated by Henry Chesbrough (2003, 2006)? In my view, there are several ones and they are worth exploring.

In the first article in this series I discussed “the different faces of open innovation”: managing open innovation to strengthen competitiveness in current businesses is quite different from managing relationships with partners to develop new businesses in the long term.

This distinction has received insufficient attention in prior work on open innovation management and it has important implications for the organization and management of open innovation activities.

In the 2nd particle, I illustrated how open innovation can be applied in many different strategic settings, which we can hardly compare with the showcases described in different publications during the last decade.

In this last contribution, I explore something completely different: Rita McGrath has recently published a book entitled “The end of competitive advantage”. It is an interesting strategy book and has apparently no links with open innovation. However, after reading the book I’m convinced that it offers several handles to understand open innovation in a broader, strategic context.

Rita McGrath argues in her book The End of Competitive Advantage that the worlds of strategy and innovation have gotten much closer to one another than a few decades ago. Historically, strategy and innovation were two separate disciplines: strategy was dealing with finding an interesting position in a well-established business. Innovation, in contrast, was about building new business and was about future opportunities. Therefore, it was not related to the core business of companies (McGrath, 2013, p. xii). As the two disciplines covered different fields of research it was not necessary to combine them. This gradually changed and in the late 1990s, the connection between strategy and innovation was becoming mainstream.

McGrath contends that competitive advantages today are eroding quickly; there are only temporary competitive advantages – she calls them ‘transient advantages’. Conventional thinking about long-lived advantages and industry oriented thinking has to be changed. Product features, new technologies and market power and other sources of competitive advantages are proving nowadays to be less durable than some decades ago.

Firms need to create a pipeline of advantages to replace those that have been competed away. Within-industry competition – the major focus of strategy research – is becoming less relevant as most important competitive threats nowadays come from the outside the industry.

The mobile phone industry of the last 10 years is an excellent illustration of this phenomenon, as Apple and Google had no foothold in this industry before 2005. Industries have been a central concept to explain competition in the past, but they are becoming less relevant as a competition-framing concept. Industries are increasingly competing with other industries, or business models are competing with other business models even in the same industry. Mc Grath prefers the concept ‘arena’ to define current strategic battles between companies.

If competitive advantages are not sustainable but temporary, we should think of the evolution of a particular competitive advantage in several phases of the product life cycle. Most strategic models are designed for the exploitation (phase) of a competitive advantage because the exploitation of an advantage can go on for decades according to the traditional, sustainable competitive strategies approach.

In contrast, when advantages are temporary, exploitation is just one of the five phases in the evolution of a competitive advantage. A firm starts a new business by identifying and developing an opportunity. That is where innovation comes in. Second, when the opportunity starts to be successful in the market a firm has to ramp up the business is crucial: experimentation and speed are crucial in this stage. After the ramp up a company can enjoy the exploitation of a business. This phase should last as long as possible but companies should also be mindful that the advantage will eventually erode.

When erosion starts, there is a need for continuous reconfiguration to remain relevant in rapidly changing economic environments. Reconfiguration is a process through which assets, people and internal capabilities make the transition from one advantage to another one (McGrath, 2013, p. 27). Finally, when an advantage is exhausted firms have to dispose of the assets and capabilities that are no longer relevant to their future in a process of disengagement.

As economic opportunities change continuously, firms have to have to be agile phasing out mature businesses while seizing new business opportunities. This, in turn, implies that innovation needs to be a systematic, ongoing process in which firms achieve innovative outcomes reliably or abandon them inexpensively.

As such, this novel way of thinking about strategy has no direct connection with open innovation. However, there are several interesting similarities between the new insights of Rita McGrath and the assumptions underlying the open innovation literature. Connecting open innovation to the ‘transient advantage’ strategy framework offers us the possibility to (re)consider open innovation within a broader strategic framework.

Similarities with open innovation

What are the similarities between the book The End of Competitive Advantage and the major assumptions behind the Open Innovation paradigm as advocated by Henry Chesbrough (2003, 2006)?

In my view, there are several ones and they are worth exploring, as it is no coincidence that both best-selling books have converging ideas although they look at the same phenomena from a different perspective.

1. Business models and strategy are central

Both books – The End of Competitive Advantage and Open Innovation / Open Business Models – emphasize the need to bring together the disparate fields of competitive strategy, innovation and organizational change. Rita McGrath is quite explicit in making this claim. If continuous change and building new businesses become important strategic imperatives, management has to add new frameworks on top of the traditional methods and tools used in traditional strategy analyses: examples are options reasoning applicable to the nurturing and selection of future business opportunities, changing procedures for resource allocation, a different way to discover market needs (current customers may be irrelevant), and business model innovation being as important as research and innovation efforts in the company.

McGrath is describing different strategies over the product life cycle. Firms have to develop simultaneously a variety of strategies: they need to launch and ramp up new businesses, they can use exploitation strategies for established businesses, and have to get involved into reconfiguration and a healthy disengagement for mature and declining businesses. This dynamic view on strategy pays attention to the creation and ramp up of a business, as well as to the exploitation and the exit phases of a business. The attention for both entry strategies as well as exit strategies is something we retrieve in the open innovation literature. Through this dynamic view on strategy, McGrath brings the fields of strategy and innovation together. These worlds cannot be examined separately.

Strategy and business models are also central concepts in open innovation: “The value of an idea or a technology depends on its business model. There is no inherent value in the technology per se. The value is determined instead by the business model used to bring it to the market” (Chesbrough, 2003, p. xxx). Chesbrough (2003, 2006) also uses the (open) innovation funnel as a central concept to develop several key insights about open innovation. The funnel is an interesting visualization to connect strategy. The labels “new market” and “current market” at the right side of the innovation funnel refer to the business model of a company.

Therefore, business model thinking is at the heart of open innovation: the business model of a company determines which ideas and technologies have to be sourced from external partners and which new business projects will be out-licensed or spun out. Open innovation can thus only be correctly understood when it is integrated into firms’ strategy. Yet, few publications have examined the how strategy and open innovation interconnect with each other (a notable exception is Chesbrough and Appleyard, 2007).

Summarizing, both approaches bring strategic objectives and innovation management together as inextricable parts of firms’ long-term growth ambitions. There is no way to think about strategy without innovation, and innovation management should be in integral part of a firm’s strategy. The specific and novel approach of McGrath – transient advantages – offers an interesting strategy framework to reconsider the intertwinement between strategy and innovation management.

2. A dynamic view on competitive advantages

Rita McGrath argues that sustainable competitive advantage is no longer achievable and firms have to attempt to achieve transient advantage. In her view, rather than focusing on a distinct set of capabilities, companies must continuously be moving on to greener pastures. This uninterrupted search for new business opportunities is a logical consequence of the shift from sustainable to ‘transient’ advantages.

As mentioned above, the emphasis is no longer on the exploitation of a competitive advantage for an extended period of time, but on the continuous search for new business opportunities. This shift also entails a change in how to approach strategy. When companies have to look for new businesses, strategy becomes intimately blended with innovation management and entrepreneurship.

This dynamic view is also prevailing in the open innovation literature. Firms have to continuously evaluate new ideas and technologies on their value for the company. The open innovation funnel concept reflects this dynamic approach: “Internal IP that is not supporting the BM becomes a candidate for external licensing or outright sale. External IP that complements the BM becomes an attractive candidate for acquisition from the outside.” (Chesbrough, 2006, p. 131)

McGrath emphasizes that business strategy requires a much higher pace of business development activities to continuously feed a company with new growth business (assuming that many other business development projects will never make it to the market). Similarly, Chesbrough argues that firms have to speed up their innovation activities keeping in mind that most innovative ideas do not survive one of the subsequent stages in the innovation funnel. In open innovation, firms have to accelerate NPD activities by tapping more effectively into external sources of technology, optimizing internal development and commercialization processes, discontinuing investments early enough when they are no longer commercial viable, and monetizing on ideas that do not fit the firm’s business model.

The transient advantage and open innovation have a dynamic view on competitive advantage in common. Although they focus on different topics, they share the underlying view that the world is in flux and that companies can only survive if businesses and innovation projects are built, scaled and abandoned in a swift way. Increasing speed is only possible when firms open these processes. This is the topic of the following two sections.

3. Access to assets, not ownership of assets

One of the most striking similarities between The End of Competitive Advantage and open innovation is the switch from ownership to access of assets. McGrath shows that our world is increasingly one where companies can and should opt for access to assets they need rather than developing these assets internally. The abundance of technology and the rapid growth of venture capital backed start-ups has led to growing opportunities for companies to license, buy or co-develop external knowledge. Start-ups have turned industries upside-down in case incumbents continue to stick to traditional business models and when they are slow in adopting to new technologies. Examples from the music industry, printing, technology services, manufacturing and others show that firms can start asset light organizations. The reason why access to assets rather than ownership “is increasingly attractive is that it allows firms to adjust their structures about assets quickly as competitive dynamics unfolds.” (McGrath, 2013, p. 95). When product cycles become shorter companies have to rely more on access of assets. It makes them more agile and allows them to be less vulnerable to financial risks.

Open innovation strongly advocates the sourcing of external knowledge – the most important asset in contemporary economies. Companies cannot longer rely on internal R&D only as technologies become more complex and expensive while product life cycles shortened systematically during the last decades. Outside-in open innovation describes in detail how innovative firms can benefit from external technology sourcing. Recently, Vanhaverbeke and Chesbrough (2014) have developed a framework explaining how companies that are not involved in research and development activities still can benefit from external technological developments in other organizations. McGrath goes one step further and considers access to all types of external assets – and not only knowledge or technology – as a major driver for improving competitiveness. Therefore, it is interesting to explore how McGrath’s and Chesbrough’s view on access to external assets can be integrated into a broader strategic framework where access to knowledge is considered as a specific category of assets to generate a competitive advantage.

4. Exit decisions: healthy disengagement

Another similarity between the two approaches is the emphasis they put on exit decision. As businesses mature and decline management has to take exit decisions: Businesses have to stop at a particular point in time when they don’t demonstrate a growth potential anymore. In a world of transient advantages, stopping businesses is as important as starting new ones. What are the early warnings of decline? When to exit a business? How to end businesses in a systematic way? These are all crucial questions in an era where advantages are temporary. McGrath develops a set of strategies for disengagement based two dimensions: the time pressure and the value of the existing capabilities for the company’s other or future businesses.

The inside-out dimension of open innovation describes how companies monetize on knowledge they cannot commercialize internally. Although Chesbrough is focusing on ideas and technologies under development – and not businesses at the end of the product life cycle – the similarities between the two approaches are amazing: they both emphasize the need for a formal and systematic approach to license, sell or divest knowledge or assets to external parties. The need to do so stems from the need to stay competitive through an increase in the number of new business ideas. In the case of open innovation, firms have to develop and nurture many business ideas to end up with a few new businesses with the expected business potential. Most ideas do not make it to the market, but are still useful for other firms that use this knowledge / ideas in a different business setting. Similarly, transient advantages imply that firms have to exit businesses once they don’t have any longer a promising growth potential. When a firm exits a business, assets may be still valuable for other firms as they work with different business models or operate in different industries.

In sum, as firms have to process many business ideas / technologies to develop new businesses or when they have to develop continuously new businesses to stay competitive, there is need to take a systematic approach to monetize on technologies that are no longer valuable for the firm or on businesses that have no longer a growth potential.

5. Reconsidering openness in terms of a (real) option approach

When advantages are temporary there should be a shift in emphasis from ‘exploiting the core business’ to creating options for new business creation. This will allow management to generate continuous renewal and innovation. Option thinking is crucial in an era of transient advantages. Firms have to experiment with new ideas; they have get access to early stage technology or business ideas as (real) options. This gives them the advantage to explore these opportunities early on, without major financial commitments.

New business ideas are laden with technology and market uncertainty: getting access is important but a firm should not own the technology at this stage. Options give companies the possibility to delay the financial commitment till they have learned enough about the technology and they can estimate the market potential in a realistic way. The real options approach enables managers to learn from what is happening around them (e.g. new technologies whose market potential is uncertain) and to modify their subsequent investment decisions based upon that learning.

The real option approach is essential to understand the rationale behind ‘transient advantages’ and open innovation. This approach allows managers to consider the value of particular options even though of information is currently missing. By buying an option (e.g. a company takes a minority share in a venture capital backed start-up) allows management to delay commitment until they learned more about the potential investment (e.g. the company can acquire the start-up or license its technology). Options enable companies to learn early on about new technologies and business opportunities, which is crucial if competitive advantages are transient. The real option approach is not new in the innovation management literature, but has become essential in the open innovation literature. Its application to the field of strategy is fairly new and implies major shifts vis-à-vis mainstream strategy approaches.

6. The value of openness: a weak spot in McGrath’s approach?

Although open innovation and the ‘transient’ advantage approach have many commonalities, there are obviously also several differences. For instance, open innovation focuses on the development end commercialization of new technologies or ideas, but it remains silent about the life cycle of a business and how to manage that cycle effectively.

A more important difference is related to the role of the partners and networks of external knowledge sources. ‘Openness’ to external sources is at the core of open innovation. Companies build competitive advantage through networks of partners. One can consider these ties with partners as short-lived connections: switching regularly to new partners and type of partners may explain in this way how access to external knowledge / assets may lead to ‘transient’ advantages.

However, relation or network-based advantages (Dyer & Singh, 1998) are not necessarily related short-lived competitive advantages. On the contrary, networks of (innovation) partners can be a source of sustainable competitive advantage. Open business models – but also open innovation based advantages – may lead to long-lasting competitive advantages.

Take for example Amazon. This company was not only able to maintain, but also to deepen its competitive advantages over time. Through its open business model, it increased its scope and scale, but it also has improved its core businesses. Amazon is not an exception; many similar examples are provided by Chesbrough (2006; 2011). A strategy, based on the deepening and widening of networks of partners and platforms for collaboration has the potential to generate long-lasting competitive advantages. How networks of (innovation) partners lead to these long-term advantages goes beyond the scope of this article but interesting thoughts have been developed by Gomes-Casseres (1996) and Nambisan & Sawhney (2011).

By Prof. Wim Vanhaverbeke, Hasselt University, ESADE & National University of Singapore

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References

 

• Chesbrough, Henry. (2003a). Open Innovation: The New Imperative for Creating and Profiting from Technology. Boston, MA: Harvard Business School Press.
• Chesbrough, Henry. (2006a). Open Business Models: How to Thrive in the New Innovation Landscape. Boston: Harvard Business School Press.
• Chesbrough, Henry. (2011). Open Services Innovation: Rethinking Your Business to Grow and Compete in a New Era. San Francisco: Jossey-Bass.
• Chesbrough, Henry W. and Appleyard, Melissa M. (2007). “Open innovation and strategy,” California Management Review, 50(1): 57–76.
• Dyer, Jeffrey H. and Singh Harbir. (1998). “The relational view: Cooperative strategy and sources of interorganizational competitive advantage,” Academy of Management Review, 23(4), 660–679.
• Gomes-Casseres, Benjamin. (1996). The Alliance Revolution: The New Shape of Business Rivalry, Boston: Harvard Business School Publishing.
• McGrath, Rita (2013), The end of Competitive Advantage: How to Keep Your Strategy Moving as Fast as Your Business, Harvard Business School Publishing: Boston, MA.
• Nambisan, Satish, and Sawhney, Mohanbir. (2011). “Orchestration process in network-centric innovation: Evidence from the field,” Academy of Management Perspectives, 25(3): 40–57.
• Vanhaverbeke, Wim and Chesbrough, Henry W. and (2014). “A Classification of Open Innovation and Open Business Models”. In: Chesbrough, H., Vanhaverbeke, W. and West, J.. New frontiers in open innovation. Oxford University Press: Oxford, 50-68.