The Four Ways of Organizing Innovation – The European Business Review
How have innovation practices changed in the last years? We conducted around 20 semi-structured interviews with senior managers of companies ranging from multinationals to startups. From our findings, we derive a guiding framework, which we call the Corporate Entrepreneurship Matrix, that helps executives organize their innovation activities.
Broadly described, innovation comes from within an organization – internal – or from sources outside – external. Besides, in terms of its nature and effects, innovating can be targeted or disruptive. Targeted innovation, often also called incremental innovation, means that there is a clear and stated aim of the innovative process, for example, the development of a more energy-efficient washing machine. Disruptive innovation does not have a clear direction; it is a search process based on experimentation and trials.
Certain types of industries may have traditionally tended to one side or the other. For example, gas turbine manufacturers have gradually become more efficient over the last fifty years, while producers of fast-moving consumer goods such as vegan food alternatives, electronic gadgets, or computer games with new versions and Blockchain-based platforms, are exposed to a higher degree of danger of disruption and have to experiment with new products and services. However, even companies in high-reliability infrastructure industries now face the necessity of becoming more disruptive due to digitalization, lower barriers to entry, and climate change.
The Corporate Entrepreneurship Matrix
Based on our research and qualitative interviews with corporate decision-makers and executives working in innovation management in large, medium, and small companies, we have identified the main tools and mechanisms of how executives can organize innovation. Using the two dichotomies described above, we suggest a “Corporate Entrepreneurship Matrix” that helps to categorize and balance innovation efforts along the two dimensions “internal/external” and “targeted/disruptive.” Starting from the top left quadrant, we will present our findings on targeted innovation, and then switch to disruptive innovation.
Targeted and internal
The classical stage-gate process is an example of targeted and internalized innovation. It is a project management technique that emerged in the late ’80s, was formalized by Cooper (1990), and is used to steer a new product from product ideation to market rollout. In the initial setting, the stage-gate process comprises five major interrelated stages, separated by four decision points (gates). At each gate, internal experts carefully decide whether or not it makes business sense to proceed to the next stage.
Most companies adapt the stage-gate process to their innovation management practices. For example, a large European player in the chemical industry has successfully used the stage-gate process in its product development by reducing it to three gates. While only six to seven projects pass the second gate each year, getting beyond the third and last gate requires a revenue prospect of €500 million within ten years.
Few companies have the luxury to operate in this time frame, and even this company went from “technology push” (the creation of superior products that create new markets) to “market pull” based on customer needs. To observe user preferences far from the corporate headquarters, the company sends so-called trend scouts to different continents and major foreign markets to obtain detailed trends on market segments and develop scenarios for potential product and service innovations.
A European online retail company continuously screens the market and develops a short list of around 100 ideas and technologies, which they publish internally twice per year. They call it the “Innovation Radar” and reduce the ideas to a few dozen via an internal voting process, and eventually select a single-digit number of ideas for piloting. Then they systematically organize innovation clubs, events, and roundtables with their subsidiaries to convince them to test the ideas.
Targeted and external
The field of targeted innovations bears many more possibilities in the digitalization age. For example, hackathons can be used both as internal or external sources of innovation. They have evolved from being a social coding event driven by the open-source community to cultural gathering capable of fostering team spirit and augmenting internal networks – creating a more vibrant company culture. A multinational social media network, for instance, has organized hackathons to produce some of its most popular user features, such as the link button, live chat functions, and the rainbow “Pride” emoji.
Open innovation as a model for creating products, methods, and ideas has been around for several years. Its overarching objective is to receive new ideas from the outside and get access to know-how, while keeping risks associated with innovation to a minimum. Via digital platform providers, it taps into a global pool of talent and expertise. Similarly, crowdsourcing involves seeking inputs from a large pool of people and leveraging that wisdom to an organization’s advantage. Crowdsourcing is external – albeit targeted – innovation. A task or project is offered to a relatively large group of people outside of the company. For example, a Danish producer of plastic construction toys actively seeks proposals for new toys from customers and simultaneously encourages them to vote on the toy submissions sent in by fellow consumers.
However, our interviews revealed that open innovation platforms may not be the optimal path to company-specific problem solving. Commercial platforms might not attract the right experts. A representative of a specialty chemicals company argues that they have to build their own network. They do open innovation for ideas, but as global competitions. If open innovation is defined as integrating external parties, then collaborations with universities for basic science questions or classical joint ventures (JVs) are more promising, according to our interviewee. They prefer to build JVs with partners that are geographically nearby to reduce transaction costs.
Such long-term business relationships have proliferated of late. In the automotive industry, a 50:50 joint venture between a family-owned automotive supplier and a subsidiary of large automotive manufacturer was set up to make complete seats, seat structures, and seat components. A joint venture in the smart home industry includes partners such as Germany’s former telecommunications incumbent, a home sound systems provider, a domestic appliances and a lighting products manufacturer, and a U.S. search engine company. This cross-vendor home automation solution bundles multiple brand experiences on a single application.
As the most external form of targeted innovations, acquisitions have become an increasingly popular tool. This helps them to complement the activities of the classical R&D units, inorganically expand their portfolio of products, and enhance their knowledge assets and technical prowess. Obviously, acquiring an organization with specialized capabilities works out faster than building know-how internally from the ground up.
Disruptive and internal
Moving from targeted to disruptive innovation methods (from the left to the right side of the matrix), we enter the world of uncertainty and complexity, where waterfall project management often fails and agile ways of innovating dominate.
Intrapreneurship (internal entrepreneurship) is a system by which a company lets its talented employees take charge of individual projects while still operating within the company. The employee wears the entrepreneur’s hat and can perform more or less like an entrepreneur while enjoying the relative security of a salaried job. This can happen, for example, by allowing staff to devote 10 to 15 percent of their time on their pet projects – in the hope that these might benefit the company at some future date. This innovation practice, dubbed “permitted bootlegging” by experts, smartly mines workforce talent. Oft-cited examples of successful intrapreneurship include 3M’s Scotch Tape, the world’s first-ever transparent adhesive tape, which was famously developed by an in-house engineer in 1930. Likewise, its Post-it sticky notes is a product that figures in most conversations on classic intrapreneurship. 3M allows its staff to devote up to 15 percent of their time on intrapreneurial projects.
Especially critical for fostering intrapreneurial thinking is the creation of an environment that enables learning, a context that exhibits high tolerance for mistakes. Therein, employees have near- absolute freedom to innovate, go beyond the known, and push the frontiers of knowledge and its application without having to worry about punitive actions in case of failure. Corporate incubators, such as “innovation labs,” are similarly used to drive internal projects proposed by employees. They offer opportunities to explore and incubate innovations within a safe environment that allows employees to return to their departments – so the risk for the individual innovator is limited. The employees take ownership of the innovation project, at least in the first phases with early prototypes.
A German energy utility, for example, has set up an “innovation campus” right outside an existing power plant, far away from corporate headquarters. One idea that was developed across various prototypes was an intelligent street lamp, equipped with two plugs for electric vehicles, a motion sensor, Wi-Fi, etc., which was sold successfully to numerous other grid operators and municipal utilities.
A world market leader in specialty chemicals uses so-called project houses, with half of the money coming from the central budget and the other half from the respective operational units of the intrapreneurs. The steering committee is located just under the management board, but the employees in project houses come from their operational units and provide their experience with existing processes. A project house is operational for three years, then dissolved, and the employees return to their operational units. This transfer facilitates the implementation and narrows the gap to commercialization.
When taking innovations to market, companies might choose to completely spin off the innovation, that is, separate the innovation into an independent strategic unit with the mandate to go to market with the new product or service. Instead of keeping all innovations under the roof of the mother company, a leading energy services provider in the German market sets up an independent business for every niche they have identified as lucrative and want to occupy. The COO of the company states, “If we close a niche, we try to keep the people and look what we can do with our own employees. This reduces the risk that – if you say it does not work – you get fired; employees are then deployed differently.”
Disruptive and external
Some companies focus on nurturing internal company ideas and approaches, while others partner with external entities – such as startups, enterprises, or entrepreneurs – to spawn non-core ideas with an outsider’s perspective.
If companies want to tap into completely new ideas, one popular tool is to establish or participate in corporate accelerators. They run fixed-term programs lasting around 90 or 100 days and provide startups and entrepreneurs opportunities to acquire essential business skills – including marketing, finance, sales, or product design – in a very condensed way. Participants benefit from sessions with experienced mentors and coaches, for example, on how to pitch their business ideas to investors. Typically, the startup yields a certain percentage of its equity to the accelerator in return. Similar to corporate hackathons, corporate accelerators may serve as a pool for talent recruitment in addition to fulfilling marketing and public relations tasks. Some of the more famous accelerators include TechStars – which, in 2019, boasted a client base exceeding 1,600 – and Plug&Play, which accelerated 1,107 startups in 2018.
Company builders are yet another innovation catalyzer that have come into vogue. In this model, the investor is involved from the outset in the startup creation stage. The company builder has an abiding interest in creating a well-organized and smooth-running startup on as frugal an investment as possible. The investor might also chip in with ideas, resources, and operational involvement. Thus, a company-building investor (unlike a casual investor) is proactively involved with the birthing of the company and in driving business growth. Such investors also support the fledgling startups for a relatively longer period, often helping them attain scale. A German manufacturer of heating, industrial, and refrigeration systems founded its venture builder five years ago to “create deep tech products and companies that solve industrial problems.” The relationship between a startup and a company builder is a two-way street – both parties stand to benefit.
Since the actual success of corporate accelerators is rather mixed (GALI, 2018), many companies that want to avoid the financial risk of the early-stage development process establish venture capital units (VCs), which allocate financial resources to later-stage startups or already established companies to scale their existing products or services. As they are completely detached from the investing company, a challenge is how to merge and integrate the capabilities and resources of the startups. A large European energy utility, for example, does so-called strategic co-investments, in which individual business units own the integration of the existing business. For the partnering startups, this opportunity is attractive, because it allows them to tap into the large existing customer base of the utility without having to enter the time-consuming process of acquiring customers by themselves. VC investments typically seek disruptive products or services, but they can also be targeted. Depending on their objective, they might have different KPIs and objectives. A traditional, family-owned boiler manufacturer wants to become a smart home company and, for instance, invests into or picks up stakes in promising deep tech and has set up two VC branches: One of them focuses on extensions and enhancement of existing business lines, such as proptech and constructiontech companies, while the second one deals with the disruptive business models predicated on next-gen technologies.
Balancing the four ways to organize innovation
There is no one-size-fits-all approach in the world of business innovation. Each approach promises to open up new possibilities and appeals to a certain type of company. No matter what road to innovation a company chooses to take, there are bound to be pros and cons along the way.
A company can, say, innovate in a very targeted manner, limiting itself to innovations that strictly map to its core competencies. The upside is that the resulting innovations will be those easily integrated into the prevailing company structures. More efficient processes lead to cost reductions and better KPIs. While this approach promises secure short-term returns, concentrating on targeted innovation might reduce the company’s chances of finding the next game-changer – the new pillars of growth. It may hamper the long-term prospects of the company.
Meanwhile, adopting a totally disruptive approach to innovation might also have its share of hits and misses. The company might well turn into the next big thing but have moved so far from its core business that it will be difficult to launch or inlay these transformational changes within the existing organizational structure. A major part of the workforce would have to be replaced or trained in a completely different field of expertise.
If innovation occurs only from within, changes in the corporate culture may lead to a more entrepreneurial mindset of employees, for example, by providing a safe environment for internal innovation in incubators or by fostering intrapreneurship with regular time-off beyond daily tasks. According to a representative of a large energy utility, incubators are also a great tool to enhance employee motivation and attract internal entrepreneurs. As a cultural tool, by being just inwardly focused, a company might be left ruing many missed opportunities, though.
If innovation is largely coming from the outside, for example via startups in corporate accelerators or venture capital investments, the potential of the mother company to spark innovation is left untapped.
The pace of digital transformation forces companies to accelerate their innovation cycles, if they want to remain competitive in the marketplace. But innovation comes at the price of experimentation and failures. Companies have to become more experimental and daring in their innovations, but that might create a cultural clash between those parts of the company that exploit and improve existing business lines and those that explore and venture into new products and services. Balancing innovations efforts therefore becomes a key priority for growing also in the future.
Christoph Burger is a senior lecturer at ESMT Berlin. Before joining in 2003, he worked in industry at Otto Versand and as vice president at Bertelsmann Buch AG, in consulting practice at Arthur D. Little, and as an independent consultant focusing on private equity financing of SMEs. His research focus is in innovation/blockchain and energy markets. Burger studied business administration at the University of Saarbrücken (Germany), the Hochschule St. Gallen (Switzerland), and economics at the University of Michigan, Ann Arbor (US).
As a founder, investor, author, and lecturer, Christoph Räthke has been a driving force in the German startup ecosystem since 1999. With his podcast angelsofdeutschland.de, he sttives to get more people excited about startup investing, while his methods, articles, university lectures, and events aim to give aspiring founders a better chance of success. Since 2012, he has been developing and implementing entrepreneurship programs for some of Germany’s largest companies and providing executives with structured practical experience in executive education workshops.
Bianca Schmitz is a director of leadership development programs and affiliate member of the Bringing Technology to Market Center at ESMT Berlin. Her research has been published in journals such as Industrial Marketing Management and Journal of Family Business Management. Beyond academic research, Bianca has published a number of case studies and managerial articles on hidden champions and digital transformation.
Jens Weinmann is a program director at ESMT Berlin. Weinmann’s research focuses on the analysis of decision-making in regulation, competition policy, and innovation, with a special interest in energy and transport. His academic experience includes fellowships at the Kennedy School of Government, Harvard University, and the Florence School of Regulation, European University Institute.
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