How to Capture All the Advantages of Open Innovation
Henry Chesbrough, adjunct professor at the University of California Berkeley Haas School of Business, coined the term “open innovation” over a decade ago. This is the practice of sourcing ideas outside your own organization as well as sharing your own research with others. However, he says that despite a booming economy in Silicon Valley, companies aren’t executing on open innovation as well as they should. They are outsourcing, but not collaborating, and fewer value-added new products and services are being created as a result. He’s the author of the book Open Innovation Results: Going Beyond the Hype and Getting Down to Business.
ALISON BEARD: Welcome to the HBR IdeaCast from Harvard Business Review. I’m Alison Beard.
Nearly two decades ago, the guest we have on the show today coined the term “open innovation”. He noticed that organizations and whole societies were more likely to succeed with a new approach to R&D. Instead of trying to do everything in-house and keeping the results to themselves, they looked to the outside world for new ideas and information, as well as sharing what they’d learned and created.
The practice is now widespread. A survey showed that 78 percent of companies in North America and Europe now employ open innovation, but there’s a problem. While innovation has increased exponentially, particularly in the text sector, broader productivity and income levels have been stagnant in recent years. That’s because organizations and governments aren’t bridging the gap between development and widespread distribution and absorption.
Our guest today wants to explain why and what we can do about it. Henry Chesbrough is a professor at the Haas School of Business at the University of California, Berkeley and author of the book, Open Innovation Results: Going Beyond the Hype and Getting Down to Business. Henry, thanks so much for being here.
HENRY CHESBROUGH: Thank you for having me.
ALISON BEARD: First, I tried to define open innovation in the intro, but you are the expert, so let’s have you describe it in your own words.
HENRY CHESBROUGH: Open innovation is a distributed innovation process involving flows of knowledge across organizational boundaries for both monetary and nonmonetary reasons, in line with an organization’s business model.
ALISON BEARD: OK, so say that in plain English.
HENRY CHESBROUGH: Open innovation is the antithesis of vertical integration where you do everything yourself inside your own four walls. Instead it’s a collaborative process that involves bringing in external knowledge for your innovation activities and equally, allowing unused ideas in your organization to go outside for others to use in their innovation activities.
ALISON BEARD: And so, you coined this term nearly 17 years ago. It’s been widely accepted and adopted, but you don’t think that it’s working particularly well anymore. So what went wrong?
HENRY CHESBROUGH: At the national and international level we see a paradox where technologies accelerating, economic productivity growth is actually slowing down and wages are stagnating. So, if technology is accelerating and advancing we would expect abundance and improvement on those measures and we’re not seeing it. So that’s what I call the exponential paradox. And the reason we’re not seeing it at the national and international level is that I think countries are not maintaining and investing in their innovation infrastructure. Which involves generating, but also disseminating and absorbing new ideas in technologies. What we see instead is some of the very best organizations are indeed advancing and accelerating quite nicely. This is a gap between the best and the rest.
ALISON BEARD: So, open innovation may still be working, for example, among all of the Silicon Valley companies, or in Tele Aviv, but not that’s not filtering outside of particular industries to a broad base of employees, customers, et cetera. It’s just not filtering out to a broader society?
HENRY CHESBROUGH: Yeah, that’s right. And even within Silicon Valley, we have some fantastic companies, but we also have a large homeless population. So, you see visual evidence of this in daily life just wandering the streets of San Francisco. There are a lot of people being left out. And then within companies, there’s a parallel argument. I think when the financial crisis hit in 2007, 2008, open innovation was a very new idea and people were still figuring it out. A number of companies made big cuts to their innovation activities in the name of open innovation, to reduce their costs. And when the markets did come back, because they had made these cuts they themselves had lost some of their innovation capability. So, ironically, open innovation is not about simply outsourcing one’s R&D, but it was used in this fashion and so companies actually damaged their own innovation infrastructure in response to the financial crisis.
ALISON BEARD: We do see these big companies that still have huge R&D departments and budgets. You can think of the tech giants as a prime example. How do companies that don’t have that wealth start to get involved in this process too?
HENRY CHESBROUGH: One thing I have some fun with in the book is I turn this question around the other way. I say, what was going on in the post war period up through the 1970s when economic productivity was growing very nicely? And what I find is that we used to make a number of investments in our innovation infrastructure starting with the GI Bill in 1944, which provided funding for millions of people to go to college for the very first time, to the interstate highway system in the 1950s, which really tremendously expanded the highway network which in turn enabled a whole range of new businesses from logistics and transportation to shopping, to tourism, et cetera, to the 1960s where we had the Apollo Moon Program and all the response to Sputnik when we greatly increased the funding for research in the natural and physical sciences, and even in the social sciences. So we did a number of things at a very large scale that dramatically improved our ability to not only generate ideas, but to disseminate them widely through the society, and then absorb them and put them to work. And unfortunately in the last 30 or 35 years, we’ve kind of gotten away from that.
ALISON BEARD: So there you’re talking about U.S. public policy solutions. What can the private sector do to jump start some of this?
HENRY CHESBROUGH: So, one thing the private sector can do is to train the workforce. There was a time when companies provided training as a normal part of the hiring process. And people coming to work in a large company might have a three month or six month rotation before getting their actual assignment. And smaller companies would typically do training on the job. These days, because of LinkedIn, because of improvements in hiring practices and targeting for new recruits, a lot of companies are looking to hire people who have essentially already done the job before. And so, there isn’t as much training as used to happen. And this means that we aren’t growing the skillsets of our workers the way we used to. And that actually makes it harder for companies to adopt and disseminate new technologies as fast as they used to do.
ALISON BEARD: Right. I want to go back to the basics a little bit with open innovation because you talk about the fact that there are so many companies practicing at, but a lot of them are very focused on the outside in bit, you know, surveying the landscape, working with universities, finding startups, but they’re not making good on the inside out aspect. Taking the things that they’ve worked on and sharing them with the rest of the world. So, how do you navigate that balance and get companies to start doing that second piece more effectively?
HENRY CHESBROUGH: To start I’ll give you a somewhat extreme example of what’s not happening. In the pharmaceutical industry, any large pharma company is going to work on hundreds and hundreds of compounds for every one drug that actually makes it into the marketplace. And typically they will take out patents on these hundreds of drugs that they’re working on. Which means nobody else can use this drug without the permission of the first company. One company that I studied, Bayer, in Germany had over 7,000 research scientists and engineers and had exactly two people in the whole organization that worked on licensing out compounds for others to use. And in a good year they would do one license, on other years, no compounds would be licensed. More generally, if you look at how many patents companies own, most research shows that the vast majority of these patents are neither practiced internally, nor are they licensed externally. So there is a big well of unused capabilities and knowledge that could be unleashed if we can find ways to do it.
ALISON BEARD: So that’s a whole new function that companies with R&D budgets need to build?
HENRY CHESBROUGH: Yes. And you might think, why would a company be willing to do that? And my answer is, when you allow these unused ideas to go outside, you get others looking at the same technology, but with different eyes and with different business models. And sometimes they will see value in something that you did not see, or they’ll see a way to use it, or market to apply it to that you would not have considered. So, it’s a way of getting free business model research on things that you’re not using and you’re not doing anything with. You can design these arrangements so that you do have a participation financially in some of this and from what you learn in terms of those business models that may be relevant to other technology that you’re currently not using that could also be used in this way.
ALISON BEARD: Right. It seems hard to break through the mindset though that it’s your intellectual property, it’s your patent and so you should benefit from it fully, rather than sharing in the benefits.
HENRY CHESBROUGH: That’s right. And if people were using the patents and practicing them, I wouldn’t be unhappy at all.
ALISON BEARD: And even though organizations seem to be doing a little bit better on bringing outside ideas and knowledge and expertise in, there are still stumbling blocks particularly with University research, scientific research and you also talk about sort of the startups and the VC funded firms. So, what are some of those issues and how can companies do a better job of bridging the gap?
HENRY CHESBROUGH: So, one problem you already alluded to, a lot of great research is being done in our universities. But to get that research out of the University, there has to be some process to engage with the technology transfer office to do that. And here at Berkeley, we have a very good technology transfer office, but they don’t have anywhere near enough funding to research and protect all the invention disclosures that come to them from the scientists, engineers and academics that we have here. So, ironically companies often have to provide funding to allow the University to do a patent filing for a technology that the company can then discuss a license with the University to receive. So you can see how cumbersome that might be. A better process that’s also here at Berkeley is a number of companies really engage with the University at scale and work on a number of projects and provide significant funding. And one example of this is Intel which does a lot of semi-conductor research with our engineering faculty here at Berkeley. Because Intel provides a lot of money, and has done so for a long time, and because there are a number of ongoing collaborations, Intel and UC Berkeley have worked out a process where Intel can get a royalty free non-exclusive license to a number of the research discoveries that are made in the projects that they work on. Now these discoveries can be shared with others as well, including competitors. But Intel by getting a royalty free non-exclusive license gets an early look at it, can get started with it and put it into production often ahead of everybody else. So, even though they don’t have a patented protected position, they often get first use because they’re able to move fast and they participated in the research. So they really understand what it is and how it works. And this I think, is a good example of open innovation working well for everybody. Because it isn’t blocked for anybody else to use, but it’s put into use more rapidly and the University gets the benefit of the funding from Intel to do the research that otherwise would be harder to fund.
ALISON BEARD: Right.
HENRY CHESBROUGH: So that’s just one barrier. So once we get in, through the research, there is something of a valley of death that sits between the completion of a research project and a successful commercialization of that research result. And that’s because the funding that led to the research has now been spent, but he project is actually at, still at a very early stage of development. And although there have been papers written, conference presentations, maybe even a patent filing, there’s actually been very little to demonstrate this technology in production in a real environment. So there are a number of technical risks that have to be addressed in order for this to be commercialized.
ALISON BEARD: Isn’t that where startups and the VC industry are supposed to jump in?
HENRY CHESBROUGH: So, this is, the question is then who’s going to fund this? Many VCs think hmm, it’s a little too early for us. It’s still pretty rough, pretty unproven and most venture capital funds have a 10 year life of the fund. Meaning they want to spend the first five years making the investments and then the next five years, scaling the successful investments and getting to an exit. So, for things like new materials and material science, or new kinds of semiconductor designs, these things may take longer than that 10 year funding life will allow. So if it’s an app for your Smart phone, no problem. The venture capital model works great for funding those activities. But for some of the more translating basic science into commercial products, the time horizon is sometimes too long for the venture capital model.
ALISON BEARD: Right. So you need the large organizations to do it.
HENRY CHESBROUGH: Large organizations really do fit in well here. Startups do too if they can find a way to use at least some of that technology commercially at an early period in time. So if you can get some value, in some part of it, you can get started. And then once things get started, they often flourish in directions that you wouldn’t necessarily anticipate. To give you an old example, when industrial lasers were being invented in the 50s and 60s, people were using photons to move light and do really cool things that were previously unable to be done. But how do you turn that into a commercial product and what application would you pursue? It turned out with the benefit of a lot of trial and error and hard work, the highest volume, most profitable uses for photonics were CDs and DVDs. And I promise you the scientists in the labs doing these photon lasers, they were not thinking about music and video, was the application of their work.
ALISON BEARD: Once an idea, research project makes its way to a startup or a larger organization that has the resources to further develop it, to productize it, what are the stumbling blocks that still arise before the, before the dissemination stage?
HENRY CHESBROUGH: Yes, you’re right. We’re still in the middle of the journey. We’re not near the end yet. So, one of the challenges I see with a very common open innovation practice called crowdsourcing, where you actually take a difficult problem you’re trying to solve and you literally crowdsource it, put it out to the community on a website and invite people to suggest solutions to that problem. When you do that, most companies give some thought to how are we going to phrase the problem? What website should we put it on? And what are we going to do when we get the answers? But what they don’t anticipate is how many bad answers are going to come back, how much time has to be spent by technical people to evaluate the submissions and then you have the whole purchasing organization. How do we deal with that? You have the operations group. How does this fit? How does the solution fit with the things that we’re doing already? The quality organization, how do we service and support it in the field? And all of these support functions can be stretched with using open innovation. And usually the company that’s looking for these answers doesn’t provide extra resources to these support functions. So they can become choke points that can restrict the ability of the company to translate a good solution into something that actually creates value for them in the marketplace.
ALISON BEARD: So, what can leaders do to un-choke the process?
HENRY CHESBROUGH: Some of it is to realize that you don’t get all this open innovation for free. You are going to need to anticipate and expand some of your capability in these areas in order to make it work. There’s a section in my book on a crowdsourcing project at NASA where they did a crowdsourcing on how to predict solar flares and they found a great answer that actually dramatically improved both the prediction accuracy and the time horizon. So you had more of a warning before the solar flare emerged. So this was a great technical solution. But inside Houston Johnson Space Control Center, which was hosting this challenge, the internal technical people were absolutely upset because the winning solution came from somebody who was a weather forecaster on Earth. He had never studied aeronautical engineering or astrophysics. He didn’t have the technical training and background that the people at NASA had and the NASA people are evaluating his solution. And they’re saying wait a minute. I’m the rocket scientist. I’m the person that came to NASA to solve these difficult problems and instead they’re being asked to vet the solution of a weather forecaster. So it really created an identity crisis and this was all laid out in some research by Hila Lifshitz-Assaf at NYU, who did this work while she was at Harvard under the supervision of Karim Lakhani. So, it’s a wonderful study in a very human response to what seems like a great outcome that still had these unanticipated consequences.
ALISON BEARD: And it takes a directive from senior leadership, or at least heavy support?
HENRY CHESBROUGH: Top management support and leadership at some point is going to be essential. One of the examples that I look at that is kind of a double edged example is Procter & Gamble. In the early 2000s they were one of the most enthusiastic and successful adopters of open innovation, with a program they called Connect and Develop. It was really outside in, open innovation and it worked very successfully for them.
ALISON BEARD: Yeah, there’s a list in the book that I thought was hugely helpful because it’s things like Olay Regenerist [CLEAR THROAT]. Sorry. It’s things like Mr. Clean’s Swiffer, Glad Press’n Seal, Olay Regenerist, you know, all these products that we think wow, that started with science. You know, maybe even outside P&G. And then turned into a product I use every day.
HENRY CHESBROUGH: That’s right. So it really did payoff and each of those brands that you mentioned is today a billion dollar brand for P&G. And yes, the science for each of them originated outside of P&G’s labs. So far so good. And the CEO at the time, A.G. Lafley was a strong supporter of open innovation and even mandated that in 2002, he said, five years from now half of our innovations will take place outside of P&G. And so he really put a mandate that really set a level playing field between inside and outside. Well he retired in 2008 and then the company went into a period, we hit the financial crisis. They had a big acquisition, a company Gillette and these I think distracted the company and took their focus away from open innovation that was working so well for them. And instead of P&G continuing to grow from its mastery of open innovation, they seemed to lose the formula. The key people that were doing the program retired. The new people coming in knew the processes, but didn’t necessarily have the mindset to execute them effectively and P&G’s ability to grow was greatly diminished. So much so that a couple years ago activists investors launched a proxy battle to get on the Board of P&G. So they really went from being a real growth success with open innovation to a target for activists’ investors in the space of about a decade.
ALISON BEARD: So we talked about U.S. companies so far. Is the picture any different outside of America? In Europe, South America, India, China?
HENRY CHESBROUGH: If we can, let’s now turn to China.
ALISON BEARD: Yeah.
HENRY CHESBROUGH: And there, the chapter is about a different angle. And it really looks at Xhang Ping’s party congress address in the fall of 2017 where a number of important things happened and it was a three hour long speech. So we aren’t taking on the entirety of the speech, but he introduced the decisive role of the market in China and allocating resources. And the leading role of the Communist Party in guiding the economy. And we looked in this chapter at the tension between those two forces. What happens when they point in different directions and what will happen to innovation in China in three different industries? So we looked first at the high speed rail industry. Then we looked at semiconductor and automotive. In the high speed rail industry, the decisive role of the market and the leading role of the Party actually have aligned very effectively. And today China is among the world leaders in high speed rail, not least because they have installed more mileage of high speed rail in China then the rest of the world combined. So they are really leaders on the demand side using high speed rail to crisscross the whole country. And the suppliers in China to serve this have become very effective, very cost effective, very technically effective and are now global competitors with this one belt, one road initiative that among other things involves putting high speed rail in many other countries. So, here the role of the Party and the market have aligned very successfully. When we moved to semiconductors though, the pictures quite different. When you’re selling high speed rail, that’s really a government to government sale. When you’re selling semiconductors it’s really a business to business sale. So you’ve got hundreds of companies in China selling to thousands and tens of thousands of businesses in China and around the world. In that industry, most of the innovation is coming not from the State owned enterprises that are closely aligned with the Communist Party. Instead most of the innovation in the semiconductor industry in China is coming from either from privately owned companies, entrepreneurs and startups, or they’re coming from foreign companies trying to bring technology and trying to open up the China market for themselves. So here the role of the party which would closely align with the State owned enterprises, could actually distort the market forces where you really would like to see the investment going to the privately owned companies, and also have very active foreign companies to keep market discipline and bring new technologies into the market. So there’s a big tension that we see in that industry. And then when we get to automotive, it’s really almost a B to C market. A business to consumer market where the market now is millions and millions of people making individual purchase decisions for cars. And China now has by unit volume, the largest automotive market anywhere in the world. So I think there were more than 20 million vehicles sold in China last year. So, here again, the pattern is much more like the semiconductor industry. The sources of innovation in the Chinese automotive sector have come privately owned companies and joint ventures with foreign manufacturers. And the State owned enterprises are really lagers in the automotive sector. They provide a lot of employment, but the export hardly any of their vehicles outside of China. Indeed one measure of competitiveness is are you able to export outside your domestic market? In the case of high speed rail, China is able to export. When we get to semiconductors and automotive however, the exports in China are coming from privately owned companies, not the State owned companies.
ALISON BEARD: But you are advocating for more government intervention in innovation. You know you said some of the most productive periods in the United States have been when there have been these big publicly funded projects. So, where do you find the right balance?
HENRY CHESBROUGH: So your right to point out that my point about innovation infrastructure is indeed saying that we, there is a role for government investment to enable not only the generation of technology, but also the dissemination and the absorption. But I am not advocating that the government get into business of making these things. And I certainly don’t want them to create state owned enterprises to conduct the activity. Rather, I think the infrastructure investments help to enable private investment and private entrepreneurship. Like the National Highway System. Greatly helped Sears Roebuck sell across the whole country out of their catalogues. Or, the internet helping businesses of all kinds doing business in ways no one could have imagined when the internet was just getting going. So, it’s a supportive and enabling role for the infrastructure that businesses draw upon. It’s not asking the government to take on the role of actually providing the services and goods themselves.
ALISON BEARD: Right. That makes sense. And society has benefitted from it on the whole, but it’s the businesses who are generating revenues from it.
HENRY CHESBROUGH: Well, that’s right. As we speak, 5G is something that is coming to cellular telephoning. And right now, it’s going slowly. And a lot of businesses are saying, do I really need 5G? It turns out 5G can enable a great range of possibilities and opportunities. From machine to machine communication in digital factories, too much, much faster internet access for all of us to faster mobile telephones and all kinds of new capabilities. But no one company captures all those benefits. So, I think it would be a very smart policy for the government to create mechanisms to promote 5G everywhere. In Finland in fact, in their Constitution, access to high speed internet is a constitutional right to every citizen in Finland. And I think something like this would be very helpful here. Just because you’re in a rural community, you should also have very high speed access. And that means that a private company may not be able to do that because it’s not financially profitable to serve a very rural part of Alaska with high speed internet. But as a society we may say, it’s actually good for everybody to have everyone have access to high speed internet. So that’s the kind of thing that we might want. A program with the government, whether it’s through a subsidy, or a tax credit, or sharing technology, to get everybody access to something like that.
ALISON BEARD: Yeah. So, if I’m a business unit manager or a CEO, listening right now and I’m thinking, I don’t have a ton more resources to devote to open innovation. My business is actually doing pretty well. So, what argument would you make to them for forging ahead?
HENRY CHESBROUGH: The good news is that if open innovation is practiced well, you should be able to do more with less. Now that won’t be true at the beginning. There will be a startup cost that has to be paid, but once you get onboard and once you get going on this, open innovation should pay for itself in at least three ways. One is with open innovation, you don’t have to start from scratch on the entire project. By partnering with other organizations who’ve already done some amount of work that they’re sharing with you, you can start in the middle rather than starting at the beginning. So that means there isn’t as much work to be done because you’re leveraging more of the work that has already been done. It also helps you a second way. That same factor should help you get to market faster than if you had to start from scratch inside your own organization. So in addition to sharing the costs, you can also accelerate your time to market. And then the third factor which is a little more subtle, is that you also share the risks because many innovations are not successful. And when you do all of it yourself, you bear 100 percent of all the losses. If you collaborate and share with others, and it doesn’t work, you still bear your portion of that projects costs, but your partner bears some of the loss as well. Which means the same pot of money can be spread over more bets, or more tries, more shots on goal.
ALISON BEARD: Thank you so much for talking with me today.
HENRY CHESBROUGH: Oh, thank you very much.
ALISON BEARD: That’s Henry Chesbrough. He’s a professor at the Haas School of Business at the University of California, Berkeley and author of the book, “Open Innovation Results: Going Beyond the Hype and Getting Down to Business.”
This episode was produced by Mary Dooe. We get technical help from Rob Eckhardt. Adam Buchholz is our audio product manager. Thanks for listening to the HBR IdeaCast. I’m Alison Beard.