Toward an Innovation Sourcing Strategy

Most executives would agree that continuous innovation is a competitive necessity for their organizations. At the same time, evidence is growing that innovation processes in many industries are not yielding the benefits they should.1 As a result, companies are increasingly looking beyond their boundaries for help with innovation, working with customers, research companies, business partners and universities.2

In a study we conducted, the amount of innovation coming from external sources was estimated to be, on average, 45% of the total for the companies concerned. For some retail companies that figure was as high as 90%, while for discovery-intensive pharmaceutical and chemical organizations it was 30% —still a significant number. Half the executives we interviewed asserted that the percentage of innovation from external sources would grow over the next three years; not one said it would decline. (See “About the Research.”)

About the Research »

The need to innovate with outsiders has led companies to tap various external sources, from user communities to competitors. That explains why Aker Kvaerner, a company that specializes in oil and gas recovery technology, is collaborating with engineering company ABB Ltd. to develop an undersea oil recovery process. Their customers, major oil companies, realized that no company could solve this problem alone, and persuaded them to work together.3

Given the availability of new types of innovation sources, executives are expanding the purposes for which they consider external sources appropriate. In research-intensive companies, the conventional wisdom was that research in the organization’s core area of expertise must stay in-house; outsiders could provide only less important support activities.4 Yet research powerhouses in the pharmaceutical industry are now turning to small biotech firms for their next-generation drug breakthroughs, and chemical companies with strong internal research traditions are lining up contract scientists in Russia and India to strengthen their staffs and stretch their R&D budgets.

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References

1. Investment in innovation does not always translate into economic returns. See E. Mansfield et al., “Social and Private Rates of Return From Industrial Innovation,” Quarterly Journal of Economics 91, no. 2 (1977): 221–240. A study by P. Nunes and B. Johnson found that while measures of innovation (for example, the overall number of patents granted) are up, consumers still express dissatisfaction with the level of innovativeness in products and services. See “Mind the Gap: Consumer Attitudes to Innovation,” Accenture Institute for Strategic Change Research Report (November 2002), available at www.accenture.com/isc). According to some studies, the growth in innovation has not uniformly improved overall productivity and economic performance. See R. Barrell, G. Mason and M. O’Mahony, eds., “Productivity, Innovation, and Economic Performance” (Cambridge, England: Cambridge University Press, 2000). Finally, despite increasing investments in research and development, the automotive, energy and pharmaceutical industries have declining rates of innovation. For example, U.S. patent data for Class 424, Drug, Bio-Affecting and Body Treatment Compositions, indicates that the number of U.S. patents granted to the top 50 private-sector companies (as measured by the total number of patents granted between 1997 and 2001) grew at an average rate of about 5% per year between 1997 and 1999. In contrast, the total number of patents granted to those companies in 2001 was less than the number granted in 1997. Only 20% of the companies in that group were granted more patents in 2001 than in any other year since 1997. See www.uspto.gov/web/offices/ac/ido/oeip/taf/tecasg/424_tor.htm.

2.See, for example, the following articles and books: D. Rigby and C. Zook, “Open-Market Innovation,” Harvard Business Review 80 (October 2002): 80–90; J.B. Quinn, “Outsourcing Innovation: The New Engine of Growth,” Sloan Management Review 41 (summer 2000): 13–28; R.M. Kanter, J. Kao and F. Wiersema, eds., “Innovation: Breakthrough Thinking at 3M, DuPont, GE, Pfizer and Rubbermaid” (New York: HarperBusiness, 1997); H. Chesbrough, “The Era of Open Innovation,” MIT Sloan Management Review 44 (spring 2003): 35–41; H. Chesbrough, “Open Innovation: The New Imperative for Creating and Profiting From Technology” (Boston: Harvard Business School Press, 2003).

3. Authors’ interview with Simon Davies, Aker Kvaerner’s vice president of group technology, Sept. 23, 2002.

4. H.W. Chesbrough and D.J. Teece, “When Is Virtual Virtuous? Organizing for Innovation,” Harvard Business Review 74 (January–February 1996): 65–73.

5. C.M. Christensen, “The Innovator’s Dilemma: When New Technologies Cause Great Firms To Fail” (Boston: Harvard Business School Press, 1997); and C.H. Fine, “Clockspeed: Winning Industry Control in an Age of Temporary Advantage” (Reading, Massachusetts: Perseus, 1998).

6. E. von Hippel, “Innovation by User Communities: Learning From Open-Source Software,” MIT Sloan Management Review 42 (summer 2001): 82–87.

7. Authors’ interview with Barry Clare, executive director of strategy for Boots, Oct. 8, 2002.

8. Stage-gate processes can be problematic in highly uncertain and dynamic environments. See V. Krishnan and B. Shantanu, “Technology Selection and Commitment in New Product Development: The Role of Uncertainty and Design Flexibility,” Management Science 48 (March 2002): 313–328.

9. Lilly, for example, has a useful variation on the traditional “yes/no” decisions made at stage gates: “no for us, yes for someone else.” If a new drug compound is not right to take to the next stage at Lilly, the company’s business-development function considers licensing it to another firm outright, licensing it with the option to bring it back into Lilly later, or joint development with a partner. Lilly also pays careful attention to time cycles in its stage gates, employing an early-warning system for compounds that are within 90 days of passing through a stage.

10. Authors’ interview with Dave Thompson, senior vice president of strategy and corporate development at Lilly, Sept. 26, 2002.

11. See reports by C.J. Sylvester, C. Ghorban and M. Acevedo, “Eli Lilly & Co.,” UBS Warburg, December 2002; and K. Kulju, M.A. Beall and C. Schott, “Positive AC2993 (Type 2 Diabetes) Trial Results,” Credit Suisse First Boston, December 2002.

12. Companies in our study reported surprisingly few intellectual property problems with cosourcing. That might be a result of having mostly large companies in our sample. Large firms tend to have sizable professional legal staffs and formal IP processes for managing their interests in collaborative activities. Small firms operate more informally, and the costs arising from litigation against those who violate the agreements are often beyond the financial means of the organization.

13. Authors’ interview with James Stafford, technical executive for intellectual property division, Marks & Spencer, Sept. 11, 2002.

14. Authors’ interview with Donna Smith, division leader for industrial business development at Los Alamos National Laboratory, August 27, 2002.