Another Perspective on Build vs. Buy

In another blog entry I compared and contrasted Henry Chesbrough’s writings on build vs. buy with Clayton Christensen’s. I would now like to mix in Eric von Hippel’s writings to see how it affects thinking on whether to build or buy, particularly at the Fuzzy Front End of innovation.

In my last entry I concluded that the best practice is to buy so you can build. Buying is not going to be enough, usually, to bring a product for your customer to market. If someone had already finished building what you want to build for your customer, you’re not going to need any R&D, it’s a financial or operational play. A more likely case is you’ve still got to do some development to solve your customer’s unique problem. Before re-inventing the wheel, go scout for available technology. If you find some then gain control of it by acquiring the technology’s owner or the assets. Don’t enter into a vendor relationship with the source because then your product developers won’t have the control they need.

But then I got to thinking about Eric von Hippel’s writings on the subject of who should do the innovating. In his paper on “Sticky Information and the Locus of problem solving”, von Hippel has this very logical argument:

“Suppose that to solve a particular problem, two units of equally sticky information are required, one from a user and one from a manufacturer. In that case, there will be an equal incentive operating to unstick either of these units of information in order to reduce the cost of transfer…But now suppose that there is reason to expect that one of the units of information, say the manufacturer’s, will be a candidate for transfer n times in the future, while the user’s unit of information will be of interest to problem solvers only once…In that case, the total incentive to unstick the manufacturer’s information across the entire series of user problems is n times higher than the incentive for the individual user to unstick its problem-related information. And, as an important consequence, it is reasonable that the locus of problem-solving activity will tend to shift to the locus of the less frequently called-upon information--in the case of our example, to the user.” (Eric
von Hippel)

This whole discussion could get confusing if I’m not clear about the roles of the different parties. I have been referring to a buying party in my own discussion above. The buying party in this case is the user who happens to be developing a product for its own customer. The buying party is considering a purchase of technology from a supplying party, the manufacturer in von Hippel’s terminology. The reason the discussion could get confusing is that there is an innovation supply chain underpinning all of this and at any point in that chain, the locus of innovation might need to shift depending on how sticky the information is. But let me stick to a simple discussion of a supplying organization and a buying organization (that happens to be building a product from another user, but that’s outside the scope).

Getting back to the passage from von Hippel…in some ways Clayton Christensen expressed a similar notion in talking about the need for an interdependent architecture. As I explained in my last posting, I think Christensen was talking about the need for the innovator to have the control and freedom to change the system to suit his needs. That’s the same as von Hippel’s notion of the locus of problem-solving needing to shift to the place where the freedom to adapt the system is greatest.

So far this additional observation is leading me to the same conclusion as in my last posting. If an innovator needs to build something, he is better off gaining control of a piece of technology to make it adapt to his needs. That reduces it from two parties to one, so no locus-shifting problem.

But some of von Hippel’s more recent work suggests another way for technology suppliers to deal with the shifting nature of the locus of innovation. If the technology provider can develop a Tool Kit that gives the innovator the freedom it needs to build what it wants, then perhaps the innovator’s company need not acquire the supplying firm. Acquisition is a way to handle it, as discussed above, but if the supplying party can convince the innovator that their needs will be met through the flexibility of the Tool Kit, perhaps it is possible to develop the interdependent architecture while still relying on an outside source of technology.

Well in conclusion, after looking at the work of Henry Chesbrough, Eric von Hippel, and Clayton Christensen, I am inclined to give the following advice to any innovator considering the build vs. buy question. First, if you encounter a problem in your effort to build a product for your customer that will need an innovative solution, your knee-jerk reaction should be “don’t reinvent the wheel”. That means following Chesbrough’s Open Innovation advice and looking externally. Second, if you don’t find what you want then look instead for components or look for earlier-stage assets such as research findings that you can turn into technology for your product. Third, make sure to gain the control you’ll need to adapt the supplied technology to do what you’ll need it to do. Christensen’s writing suggests making a company acquisition. But von Hippel teaches us to look for Tool Kits that may provide the adaptability innovators need without going to the extreme of making an acquisition.

A new perspective on Build vs. Buy

I came across what I thought were conflicting perspectives about the old build vs. buy debate while reviewing “Open Innovation” by Henry Chesbrough and “The Innovator's Solution” by Clayton Christensen. I think I came up with a resolution to the apparent conflict and thought I would share it.

The conflict concerns whether or not to leverage external innovations. At the Fuzzy Front End of innovation, “Open Innovation” says leverage the external innovation whereas “The Innovator’s Solution” says do-it-yourself.

In “The Innovator’s Solution” we learn how companies should consider whether or not to buy external technology. As the logic goes, it depends on the stage of development. In the early days of a new type of product (including the Fuzzy Front End), innovators need a lot of control over the underlying technology to make sure the product works very well for the customer’s main pain point. This control is called an interdependent architecture. As a product category improves though, most customers feel their main pain point alleviated by the category and their primary buying decisions shift toward convenience and integration to other products. Once this shift occurs, modular architecture becomes more important than interdependent architecture. With modular architecture, winning innovators focus on making their product a flexible platform that can plug and play components from external providers.

A contrasting view comes from reading “Open Innovation”. “Open Innovation” teaches that companies have begun selling their unused innovations. The new availability of venture capital means people with great ideas working in big companies have a new way to develop their idea than to wait for their employer to support it. As a way to stop the loss of ideas, big companies now try to sell those ideas before the talent can escape. The fear of a competitor harnessing this stock of inventions gives buying companies a strong motivation to gain first access. Therefore companies are setting up Technology Scouting and Technology Marketing groups to buy and sell innovations.

From my initial read, it seemed “The Innovator’s Solution” suggested innovators build everything themselves whereas “Open Innovation” taught the opposite. How could we mere practitioners get the best of both worlds? Here are my thoughts on that question.

“The Innovator’s Solution” argues for innovators to have control. “Open Innovation” does not really talk about control, it talks about sourcing from the outside. The best of both worlds is to have control of an external source. That gives the innovator the interdependent architecture from “The Innovator’s Solution” and the opportunity not to reinvent the wheel from “Open Innovation”. Cast another way, this is about openly innovating for an interdependent architecture.

To innovate openly an interdependent architecture at the Fuzzy Front End of innovation, you could start by looking externally for companies spinning off IP or startups developing what you need. If you find them, acquire the IP. Don’t enter into a supply relationship with the source though because then you won’t get the control you need for an interdependent architecture.

If you don’t find an acquisition target, you don’t have to give up because there are other sources to turn to. Another would be experts from other industries. Another source could be a raw research finding waiting to be harnessed for commercial use. Another strategy is to decompose your sourcing problem into components that you could search for, again as wholesale acquisitions, experts, or research findings. All of these are Open Innovation too.

From my analysis of “Open Innovation” and “The Innovator’s Solution” I’ve learned why it makes sense to source external technology at the Fuzzy Front End of Innovation and a rational way to do so. The main benefit is not re-inventing the wheel while also preventing your competitor from accessing available technology. The rational way to handle it is to acquire the technology so your development staff has maximum control to be able to meet early customers’ need.

How can I sell know-how?

Part of Open Innovation is marketing your know-how, sometimes across industry, which is what I think makes it innovative. Suzanne Harrison talks about this in her new book Einstein in the Boardroom, but only a few cutting-edge companies have managed to pull it off.

Here are some ideas for how to go about selling know-how for your Open Innovation program.

1. Package it – Given the nebulousness of selling intangibles, Harrison coined the term i-Stuff. To shed i-Stuff of this stigma, one idea is to package it with manuals and other tangible material that helps define what the know-how is. People understand exchange of funds for tangible goods, so to the extent to which you can make the intangible seem tangible helps bridge the gap. If you don’t have a unique name for you know-how, name it, make it a “thing” that people can talk about. A three-letter acronym can be good, but another thing to think about is a name that communicates the value-proposition of the know-how. What problem does it solve? What benefit does it impart if you have it? From what I’ve heard, it can be difficult to sell know-how because your buyer may have trouble admitting they don’t know what you know. By packaging it, you give them a way to pitch it to their boss without making it sound like the valuable part they’re buying from you is the knowledge. Help your buyer save face.
2. Cast it as a capability – Capabilities consists of People, Processes, and Tools. Know-how is typically the Process part of a Capability, but it could also be knowledge that you convey to another company’s People that help them implement a process. Think beyond the knowledge portion of the know-how and figure out how to cast it as a Capability. What kinds of People does it require? What Processes are needed to pull it off? Do you have any tools you’ve developed that your customer will need if they want the Capability?
3. Identify benefits – Anything you sell, whether tangible or tangible, won’t be bought unless it imparts a benefit to the buyer. List out 8 to 10 benefits of your know-how. Some benefits are causal, for example a benefit like “improves cycle time” leads to the benefit “reduced waste”. There are some good techniques for identifying benefits.
4. Find a distribution channel – If you’re a materials company, will a company in the travel industry give you the time of day if you think they could use know-how you’ve developed? To increase your credibility, partner with a consulting firm to re-sell the know-how. Consulting firms are the ones people go to when they need to know how to do something. But consulting firms aren’t in the trenches like you so they may not be able to develop know-how like yours. So it can be very synergistic to license your know-how to a consulting firm for resale.
5. Search for buyers in other industries – Don’t want to sell your know-how to a competitor? Most companies don’t, that’s normal. So find non-competitive industries that need the same know-how. That presents a challenge because you’re expert in your own industry, but not other industries. Sophisticated forms of Internet search can help you find people in different industries who want the benefits you know how to provide.

If you get good at marketing know-how as part of your Open Innovation initiative, another idea for you is to package your knowledge-selling capability and sell it to other companies that want to sell their know-how :-)

How much reuse can you get from relationships in a Creation Net?

A lot of people are talking about Creation Nets for Open Innovation. John Seely Brown wrote a good paper on it, and may have coined the term. Mike Docherty has a posting on it on his great blog series on “Five Key Strategies for Making Open Innovation Work for You”. It makes sense to a certain extent, but what I don't get is whether Open Innovators are actually able to leverage Creation Net relationships across open innovation initiatives. How much reuse can you really expect to get from relationships you’ve built in a Creation Net in the pursuit of breakthrough innovation?

A hypothetical scenario: Say a company openly innovates over a period of 2 years and goes to market with 4 innovations. Say two of them are breakthrough innovations (Mike Docherty’s definition) where a startup created the product, soup to nuts. We’re talking about outright acquisitions of the startups with complete innovations. Say the other two open innovations were inventions of the parent company that leveraged 1 key component each from external sources. All 4 are hailed as Open Innovation success stories, with 4 pieces of technology sourced externally.

So would you expect that, of the 4 pieces of technology, they would have come from 1, 2, 3, or 4 different sources (companies, universities, or other types of organization)?

Based on all the support for Creation Nets, you would think the 4 technologies would have come from 1 or 2 of the external partners. That’s a leverage ratio of 100% to 300%, from the perspective of the main character in our hypothetical scenario. Here’s my equation:

Creation Net Leverage Ratio = (# technologies - # suppliers) / # suppliers

My intuition tells me it would be more like 33% leverage, with one supplier supplying at most 2 of the 4 technologies. In a larger sample size I would expect the leverage ratio to drop considerably—again, just my intuition.

What goes through my mind in thinking about how much leverage to expect is thinking about how a Creation Net begins to look like Closed Innovation when they are operated for even a short period of time. Instead of one company with all of the creative minds sequestered from the rest of the world, you get a group of companies with creative minds sequestered from the rest of the world. Where’s the new thinking? Where’s the access to new information? How do you keep a Creation Net innovative?

So you might consider how to make Creation Nets and conclude they have to have some process of renewal, some access to new information, some way to bring new companies into the fold. But doesn’t that just become one big universal Creation Net? Isn’t that right back where we started, a world of independent companies trying all to do business with each other? What is the point of setting up relationships in that case, they’re not going to be reused.

Another conclusion might be that a company sets up a Creation Net to fuel an exchange of information and that once it’s set up, the Creation Net is no longer about breakthrough innovation (again Mike Docherty’s definition), it’s about incremental innovation. You can get a higher degree of supplier leverage from a formed Creation Net but the results go toward your incremental innovation activities. To get the breakthroughs, don’t you have to go back to the well? Don’t you have to search for new partners to bring into the Creation Net?

If so, there’s always going to be a search problem, a problem of how to find lead users, researchers, suppliers, inventors, and experts you want to meet at the Fuzzy Front End.

It’s interesting to note that if we’re beginning to be able to operationalize incremental innovation through best practices such as Creation Nets, then that part of innovation is no longer part of the Fuzzy Front End. The FFE can get smaller and smaller as we figure out how to operationalize more and more of it. Maybe future generations will scratch their heads in wonderment that we ever had trouble innovating.

Is licensing your brand a good way of practicing Open Innovation?

In Open Innovation, there are a lot of possibilities for leveraging innovations outside your company for your own profit. One extreme is to slap your brand on someone else's product. Another extreme is inventing a modular system with components that come from other companies. There are a lot of other possibilities too, but the one I want to talk about here is slapping your brand on someone else's innovation. What are the pros and cons?

Pros

• Risk sharing
  
  

  "brand licensing can be a tool for sharing risks and improving the odds that risk-adverse larger companies can leverage the innovations and technologies of risk-taking entrepreneurs" (Mike Docherty, INNOVATION.NET WEBLOG)

  
  
  

  If a rising corporate star brings forth a risky innovation that ends up failing, his career is apt to be damaged considerably more than that of the executive who squelches an innovation that could have been a winner. An open innovation model diminishes both the error of squelching a winner (a false negative) and of backing a loser (a false positive). (John Seely Brown)
  

  
  

Cons

• Diminishing margins - The new book cited below tells a story about IBM's PC that beat the PARC Star computer because IBM embraced Open Innovation. But eventually IBM took it to such an extreme that all it was providing was the brand. In fact, a couple of years ago they sold the entire business to some company in Taiwan called Lenovo along with rights to the brand name "IBM" for 5 years). Taking it to such an extreme resulted, according to the book below, in IBM losing to the Wintel platform that didn't exclusively rely on Open Innovation.
  
  

  By itself, open innovation results in razor-thin profits from products that compete as commodities. ("Breakthrough: Stories and Strategies of Radical Innovation" by Mark Stefik and Barbara Stefik)

  
  

I tend to agree that slapping your company's brand on someone else's innovation is an unsustainable model. Why do you think Intel came out with its famous "Intel Inside" marketing campaign; they thought they could claim a larger portion of the margin of PC sales if their brand became more important to the computer than the brand of the rest of the computer. IndustryWeek had something similar to say:

"External ideas can help create value, but it takes internal R&D to claim a portion of that value for you." (IndustryWeek)

However if your brand is something that you must invest in to maintain its value, then it's a different story. If you are a pharmaceutical company that spends a lot to advertise that your brand means safety, it will be hard for the external technology provider's brand to eclipse yours. Also, sometimes when we talk about leveraging your brand, I think what we're really talking about is leveraging your market distribution channel. P&G, for instance has a great brand and it practices Open Innovation. You might be tempted to say their main value-add is their brand that they can leverage to give a small-time inventor more credibility with consumers. That is true, but their market distribution channel is also significant value that P&G brings to the table when it embraces an external innovation.

New ways of thinking about IP rights in Open Innovation paradigm

I came across a very insightful comment by Henry Chesbrough on the subject of IP rights:

In addition to a new business structure for innovation, Chesbrough also argues for a new approach to innovation strategy. Most leaders approach getting ideas to market as they would a game of chess, in which everyone can see all the pieces and the game is to anticipate the competition’s moves while coming up with innovative moves of your own. Rather, says Chesbrough, we should think of strategic planning and budgeting as poker, because you really don’t know even your own hand, let alone everyone else’s, and you have to pay to get more information. (Henry Chesbrough)

The comment about chess on its own is very interesting for those R&D people in a company who have to deal with the legal department's push-back on information sharing. It's a helpful argument to be able to say that a competitor couldn't figure out what we're going to do knowing our current scenario any more than you could know what your chess opponent is going to do when their pieces are right before you. Knowing your situation will help them identify your options better, that's true, but it doesn't guarantee they'll win the game.

Someone to watch: Jay Paap

A name that keeps coming up in my research into open innovation best practices is Jay Paap. I recently heard him speak at was impressed at the clarity he has on the definitions of terms related to innovation. Here is a passage I recently came across of his work that illustrates what I mean. He differentiates invention, discovery, innovation and when and when not to do Technology Scouting:

Innovation means that we take a technology and are the first to apply it to a problem or a need that our customers have. It’s different than invention. It’s different than discovery. You do not have innovation unless someone actually buys or uses your product. People do not use something unless there is a need. So you may not know the need for sure when you develop it.

If you’re trying to figure out what’s going to disrupt you, you don’t look for technology. You look for changes in needs. If needs remain constant, and there’s a lot of maturity left in your technology, there’s probably not going to be substitution. You don’t need scouting. If the needs are constant, and your technology is running out of steam, you need scouting to find the next replacement technology.

Listen to your customers. Not what they ask for, but what they do. Look at how they use your product. Look at the problems they have. Look at the environment in which they are operating and try to anticipate what the next generation of drivers are going to be when the current generation of drivers are satisfied. Then go out and find analogues in other industries that have addressed these problems and borrow that technology, or adapt that technology in ways that will allow you to go forward.

Source: Management Roundtable

More Chief Innovation Officers

Just heard about a couple new conferences coming up and was glad to see a couple more Chief Innovation Officers that build on the momentum of the trend:

Cheryl Perkins, SVP & Chief Innovation Officer, Kimberly-Clark
Carol Pletcher, Chief Innovation Officer, Cargill

The conferences, by the way, are:

Innovation Immersion: The 360 Degree Innovation Experience October 16-18, 2006
Team NPD

Once upon a time companies didn’t even exist

Once upon a time companies didn't exist. What factors gave rise to companies? In other words, companies were created as a brilliant solution to a problem. What was that problem?

Today companies have a lot of problems. They also cause a lot of problems for other people in society. Which of those problems arose as unexpected side effects of solving the original problem that companies in general were designed to solve?

Does innovation function poorly because it was not the original purpose for companies? Was innovation added later as an afterthought? If we were to design a company from scratch to optimize for innovation, what would we do differently? What constraints would that violate?

Reponse to 'The open innovation frontier'

Good analysis in the post 'The open innovation frontier', I like the quadrants and the reasoning.

I have a couple of examples of Long-Long to offer you. I know of one company that laid off several hundred scientists because of lack of innovation. They turned to Open Innovation to solve the problem. That was after their drug came off patent. So that's an example of a Long-Long pharma company that turned to Open Innovation.

Here's another example from DuPont:

Open Innovation is a process in which DuPont research is actively engaging. To succeed DuPont must encourage Open Innovation. We must encourage open innovation to occur at any real or perceived boundaries internal or external.