The Two Aspects of Disruptive Innovation

Sensing disruptive innovation in the marketplace is critical to the strategy of any business.   Disruptive innovation is the result of either a new technology or the mixing of previously unrelated technologies that create a shift in demand, generally in a movement away from the existing product or service.  Recognizing that some disruptive innovation – most likely the result of a new technology – will eventually change the market is critical to the long-term survival of every business, and thus should be considered in the overall business strategy.  There are two aspects that every business must be cognizant about when planning around disruptive innovation: the internal aspect and the external aspect.

The External Aspect of Disruptive Innovation

In looking at the external aspect of disruptive innovation, companies like Kodak and Motorola are prime examples of companies significantly impacted by the external aspect of disruptive innovation.  They were both premier companies in their respective markets when the demand within their product categories shifted.  Even with household names and relatively limitless resources, neither could sense the coming wave of change that would wash over the marketplace rendering their products undesirable.  What is critical to understand in both scenarios is that they each attempted to compensate for the changes and did not necessarily make illogical choices on how to appease their individual markets.  However, they ultimately chose incorrect responses for their specific scenarios. In the end, each of those companies failed to a significant extent, but for different reasons.

Kodak’s failure was due to the rise of a very efficient substitute product – digital photography.  But it wasn’t just digital photography in general, it was the camera phone specifically.  Digital photography made Kodak’s core products – film and photo paper – obsolete, even though the company did try to keep pace.  Slowly digital photography was eating into Kodak’s market in the form of quickly evolving digital camera models.  They responded by investing heavily into several technologies that should have placed them properly into the shifting demand.  They released a series of digital cameras, photo printers, and scanners.  All internal signs were that this would enable the company to survive.  Then along came the camera-enabled cell phone, causing yet another shift that was almost impossible to previously perceive.

In a time gone by, people liked having photos of their family, friends, pets, and travels on paper, often displayed in frames on walls and desktops.  Most often these photos were taken on Kodak film and printed on Kodak paper.  However, after several demand shifts, most people were simply content to let those photos sit on their most trusty companion, their cell phone.  Spurred by another technological advance, cheap digital storage, people were content to just keep all of these photos on their phone with a backup of them on their computer.  And eventually these would end up stored on the cloud.  The need for paper-based photos simply ceased.

In fairness, looking retrospectively at the situation there were only a handful of choices available that really would have made Kodak viable in the long run.  One: go into the cell phone manufacturing business, which at the time would have made no sense.  Two: license their deep and protected knowledge to a prominent cell phone manufacturer early in the process.  This too made no sense, as camera phones were ubiquitous in just a small number of years, after which Kodak was no longer needed  Ultimately, they did sell their intellectual properties off, but it was so late in the process that it did not provide for the long-term viability of the company.  While decisions about what they should have done may be clear now, such options would have made little sense at the time.  This is a key lesson for businesses when new and foreign challenges arise.

Kodak was a staple on the Dow Jones Industrial Average from 1930 to 2004. Consider all of the technological changes that came and went, as well as all of the cycles of boom and bust that they lived through, only to be undone by new technology.   Throughout their life, they stayed a very well respected company.

Motorola had a different problem.  Where the demise of Kodak involved many difficult factors, some of which were outside their industry, Motorola’s problem was more internal to the industry itself.  It had overwhelming success with a product called the Razr. Early on, the phone had tremendous sales and became one of the most recognizable and best selling cell phone models of all time. However, due to some fast changes in the industry, demand for that product waned.

Near the height of their success in the cell phone industry, an upstart called the iPhone showed up on the scene and completely changed the expectations for cell phone users.  People wanted the richer experience of a smartphone.  And customers began to migrate from Motorola to the iPhone.  One reportindicated in 2008 the over twenty percent of iPhones were purchased by former Motorola Razr users.  And despite this, Motorola could not seem to developed a proper response.  In the long run the company could not keep pace inside the cell phone industry.

The cell phone manufacturing arm of the company began losing money for the overall organization, so Motorola smartly decided to split into two companies:  Motorola Solutions and Motorola Mobility.  Motorola Solutions was making money, whereas Motorola Mobility was losing money and slowly killing the whole organism.  By cutting off the cell phone division, Motorola Solutions was left with a solid portfolio that garnered healthy profit.  As proof, its stock price has had healthy growth since the divestiture.

Meanwhile, Motorola Mobility has meandered through the tech world since that time.  It was initially purchased by Google in 2012, who then sold it to Lenovo in 2014.  There may be more than meets the eye as to why Google originally purchased Motorola Mobility, but regardless the reason, there was not enough upside for Google to keep the manufacturer in its portfolio of holdings.  Now Lenovo will give it a shot in the cell phone arena under the Motorola Mobility banner.

Those two examples of the external aspect of disruptive innovation are specific to a single industry.  However, there are interesting examples of disruptive innovation in other industries and business models.  In the automobile insurance industry, disruptive innovation altered the agent-delivered model that the historical heavy players utilized.  Failing to recognize the impact of innovative advertising, a call-center-driven sales force, and online sales capabilities, opened the door for relative upstarts like Progressive, Geico, and Safe Auto to master those markets and gain a significant foothold.

Geico is a shining model of disruptive innovation.  It has been around since 1936, but it was not until it used a new delivery methodology that it was able to grow in the insurance market after its acquisition by Berkshire Hathaway in 1996.  When everyone else of significance was sitting on their tried and true distribution model, Geico was streamlining operations and dumping the savings from an efficient operation into advertising.  This has catapulted Geico into the top few insurers in the United States auto market and been one of the single largest reasons for the success of the Berkshire Hathaway portfolio over the past years.

Meanwhile, the largest insurers have not necessarily gone away, but in some cases they have lost market share.  Had they sensed the winds of change earlier in the marketplace, they might have afforded themselves a better chance of maintaining their market share by developing a proper response to how Geico was changing the expectations of the market. However, that would ultimately mean changing the way they do business previous to having to do so.  The industry giants might have to destroy their own philosophy or culture continue their success.  These are frightful thoughts when you are on top.  One response was that Allstate eventually responded by purchasing Esurance to change how they operate in the market.  But even that move had some turbulence associated with it.

Even academia is not immune.  Inside the industry, university have faced several new threats over the past two decades.  First, community colleges began to pose a threat with their inexpensive offerings for traditional students.  Next, universities faced an onslaught from online offerings, to the point that most colleges now offer online programs.  Finally, the industry is now impacted by the massively open online course, also known as the MOOC.  MOOCs are a source for free education.  In this scenario, schools offer topical courses that are free and open to anyone who wants to join.  In just two years MOOCs have grown tremendously in popularity.  Premier institutions have smartly decided to participate and offer MOOCs for fear that ignoring this trend may lead to an exposure.

The Internal Aspect of Disruptive Innovation

These scenarios offer a lesson for every business: foresee the shifting demand prior to it taking foothold.  In all of these cases of disruptive innovation large organizations were surprised by new threats.  Threats can be internal to the industry (like Geico to the auto insurance industry) with a different way of doing business.  Threats can be external from the industry (like Apple’s iPhone to the film industry) that changes the customer’s taste and expectations surrounding a long-standing product like photographs.  In either case, disruptive innovation alters the demand for the product to a point that the market starts to become unrecognizable.  Once the tipping point is reached, all of the players must change or die.  The question is how a company can strategically prepare, which leads to the internal aspect of disruptive innovation.

The internal aspect deals with the preparations that a business takes to impact changes in its market.  There must be an attempt to create or have some control over the shifting demand.  In a Harvard Business Review article written by Joseph L. Bower and Clayton M. Christensen, they mention that “Managers must beware of ignoring new technologies that don’t initially meet the needs of their mainstream customers.”

Imagine being a Kodak executive previous to cameras being integrated into cell phones.  You are in the position that your company is the premier provider in camera product and technology and have been so for nearly a century.   At this point you could never have known that the industry-foreign cell phone would bring your company to its knees.  And even if you were such a prognosticator, could you have convinced anyone that Kodak might want to enter the cell phone industry?  This would have depended on the current company culture.  Would the company properly be scanning for opportunities and threats inside and outside their industry?

The simple answer is that would have made no sense at the time to the existing company management.  But if Kodak, with its near limitless resources prior to digital photography prominence, had considered how to be a player in consumer electronics, they might have detected the desire for cameras to be integrated into cell phones early on in the shifting demand and injected themselves into the market.  To think like this, they would had to have thought like disruptive innovators.

As an example, when thinking about Apple no one considered that the company would be the premier manufacturer of telephones in 1980.  Nor did they think this is 1990.  Nor in 2000.  Nor in 2005.  But Steve Jobs had a vision, and together that vision plus the resources at Apple’s disposal created a very important product.  But it took a visionary with many successes and near unlimited resources to create the iPhone because the innovation was driven from the top of the company.  Steve Jobs was thinking like a disruptive innovator.  That is generally not the thinking of long-standing companies, especially those who have to answer to their shareholders.

To be effective innovation disruptors, the strategic “secret” is a drive for innovation from the top of the company.  Tech companies are naturally predetermined to be innovative from the top of the company.  This is likely due in part to the nature of their business and in part to their relatively youthful time in existence.  Companies like Apple, Microsoft, Google, Oracle and Facebook tend to be scanning for opportunities in markets.  They must be alert for technological changes that could pose a threat, and so they are always looking for threats and opportunities.  In many cases they are not always in those markets initially, but they see an opportunity to move and do so.

Microsoft’s entry into the game console market is a good example.  Though they had no history in that market, it represented a fairly safe market to enter, as there was a duopoly of Nintendo and Sony in a market that was continually expanding.  They had deep resources in terms of money and knowledge, and the market had relatively low expectations.  They planned that this console could be a home entertainment hub for the household and detected the need for this before it really existed.  Apple’s iPod was a similar gamble.  Both end up as game changers.  A key to both is that neither would have bankrupted their respective company.

Another example of the strategic drive to be a disruptive innovator is in Google’s willingness to jump into and out of different markets. There is a graveyard of products that they have abandoned over the years.  They do not seem to suffer from escalation of commitment.  They collect what they can from their experience and move on.  This is part of the lesson for disruptive innovation as a strategic tool.  Know exactly what you want to “gamble” on the initiative and be prepared to move into new opportunities to capitalize on a changing market, but do not over-commit.  Scan, but do not get trapped, and do not overcommit, especially early on.

In the future, 3D printers will surely impact manufacturers.  Retailers and grocers will be impacted by innovative home delivery techniques.  Social media will likely evolve within the realm of virtual reality.  All technological equipment will become smaller.  Cars will drive themselves.  Every industry needs to prepare for the coming disruptive innovation.  The keys to successfully participating in disruptive innovation are to not be too tied to your business model; take small and measured gambles; avoid overcommitting when a new endeavor does not work; and simultaneously be resistant to responding to every conceivable ripple that is called a new idea.

Many individuals in organizations today think superstitiously that if they do nothing, everything is going to be okay in their business arena.  However, everyone must acknowledge that A CHANGE IS COMING THAT WILL DESTROY YOUR CURRENT BUSINESS MODEL.  It is not a matter of “if”, but instead a matter of “when”.  Because of the pace of innovation, it is almost impossible to detect the faint ripples of a disruptive innovation earthquake until everyone is engulfed.  It is time to make disruptive innovation part of the strategic plan.  Ultimately, the companies that successfully embrace disruptive innovation as a philosophy begin with small steps to test new ways of doing things.

For a point of reference, review Wikipedia’s list of Google’s acquisitions to see how they have slowly built their portfolio over time. Individually it can be hard to determine the significance of the acquisitions.  However, while the 2012 acquisition of Motorola Mobility for $12.5 billion is questionable based on the outcome, the 2006 acquisition of YouTube for $1.6 billion is an absolute winner for the company.  Many of their acquisitions do not make sense individually, but grouped by technology begin to paint pictures.  Google has a vision of how they will disruptively innovate far in the future and begin putting pieces together to build capabilities.

Think of these portfolio of acquisitions as tools being added to a tool belt.  This could be as simple as implementing a new level of service in an existing business or adopting a new technology or process to give give a company an edge that can not easily be copied.  The concept of creating disruptive innovations is scalable to any type of business.  In thinking strategically, any organization must start putting pieces together that give it a competitive advantage, whether disruptive or not in the short run.  Those pieces are used to build capabilities that are disruptively innovating as compared to the competition in the long run.   Relatively small changes can become a large lead when refined over time.

A final key to the internal aspect of disruptive innovation is that like Google’s long-term plans, there must be a vision of what those changes will lead to in terms of a competitive advantage.  In the end, complacency prevents companies like Kodak from straying too far from what which has always worked.  But the slow-baked disruptive innovation that arises from the likes of Google and Apple are not overnight developments.  Generally, they have been years in the making.  Disruptive innovation requires long-term planning, vision, and dedication of resources without an immediate payoff guaranteed.  This is why considering the external aspect of disruptive innovation and planning for the internal aspect of disruptive innovation must be part of every strategic plan.