Discipline of innovation

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The Disciplineof Innovationby Peter R Drucker

How much ofinnovation is inspiration, and how much is hard work? If it's mainly

the former, then management's role is limited: Hire the right people, and get out

of their way. If it's largely the latter, management must play a more vigorous role:

Establish the right roles and processes, set clear goals and relevant measures, and

review progress at every step. Peter Drucker, with the masterly

subtlety that is his trademark, comes down somewhere in the

middle. Yes, he writes in this article, innovation is real work,

and it can and should be managed like any other corporate function. But that

doesn't mean it's the same as other business activities. Indeed, innovation is the

vjork of knawing rather than doing.

Drucker argues that most innovative business ideas come from methodically

analyzing seven areas of opportunity, some of which Me within particular com-

panies or industries and someof which lie in broader social or demographic

trends. Astute managers will ensure that their organizations maintain a clear

focus on all seven. But analysis will take you only so far. Once you've identified

an attractive opportunity, you still need a leap of imagination to arrive at the

right response-call it "functional inspiration."

In business, innovation

rarely springs from a

flash of inspiration. It

arises from a cold-eyed

analysis of seven kinds

of opportunities.

DESPITE much discussion these daysof the "entrepreneurial personality,"few of the entrepreneurs with whomI have worked during the past 30 yearshad such personalities. But I haveknown many people - salespeople, sur-geons, joumalists, scholars, even musi-cians - who did have them withoutbeing the least bit entrepreneurial.What all the successful entrepreneursI have met have in common is not acertain kind of personality but a com-mitment to the systematic practice ofinnovation.

Innovation is the specific function ofentrepreneurship, whether in an exist-ing business, a public service institution,or a new venture started by a lone indi-vidual in the family kitchen. It is themeans by which the entrepreneur eithercreates new wealth-producing resourcesor endows existing resources with en-hanced potential for creating wealth.

Today, much confusion exists aboutthe proper definition of entrepreneur-ship. Some observers use the term torefer to all small businesses; others, to allnew businesses. In practice, however, a

THE INNOVATIVE ENTERPRISE AUGUST 2002 95

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great many well-established businessesengage in highly successful entrepre-neurship. The term, then, refers not toan enterprise's size or age but to a cer-tain kind of activity. At the heart of thatactivity is innovation: the effort to cre-ate purposeful,focused change in an en-terprise's economic or social potential

Sources of InnovationThere are, of course, innovations thatspring from a flash of genius. Most in-novations, however, especially the suc-cessful ones, result from a conscious,purposeful search for innovation op-portunities, which are found only in afew situations. Four such areas of op-portunity exist within a company or in-dustry: unexpected occurrences, incon-gruities, process needs, and industry andmarket changes.

Three additional sources of opportu-nity exist outside a company in its socialand intellectual environment: demo-graphic changes, changes in perception,and new knowledge.

True, these sources overlap, differentas they may be in the nature of theirrisk, difficulty, and complexity, and thepotential for innovation may well lie inmore than one area at a time. But tt>gether, they account for the great ma-jority of all innovation opportunities.

Unexpected Occurrences

Consider, first, the easiest and simplestsource of innovation opportunity: theunexpected. In the early 1930s, IBM de-veloped the first modern accountingmachine, which was designed for banks.But banks in 1933 did not buy newequipment. What saved the company-according to a story that Thomas Wat-son, Sr., the company's founder andlong-term CEO, often told - was its ex-ploitation of an unexpected success: TheNew York Public Library wanted to buya machine. Unlike the banks, libraries inthose early New Deal days had money,and Watson sold more than a hundredof his otherwise unsalable machines tolibraries.

Fifteen years later, when everyone be-lieved that computers were designed foradvanced scientific work, business un-expectedly showed an interest in a ma-chine that could do payroll. Univac,which had the most advanced machine,spurned business applications. But IBMimmediately realized it faced a possibleunexpected success, redesigned whatwas basically Univac's machine for suchmundane applications as payroll, andwithin five years became a leader in thecomputer industry, a position it hasmaintained to this day.

The unexpected failure may be anequally important source of innovationopportunities. Everyone knows aboutthe Ford Edsel as the biggest new-carfailure in automotive history. What veryfew people seem to know, however, isthat the Edsel's failure was the founda-tion for much of the company's latersuccess. Ford planned the Edsel, themost carefully designed car to that pointin American automotive history, to givethe company a ful! product line withwhich to compete with General Motors.When it bombed, despite all the plan-ning, market research, and design thathad gone into it, Ford realized that some-thing was happening in the automobilemarket that ran counter to the basic as-sumptions on which GM and everyoneelse had been designing and market-ing cars. No longer was the market seg-mented primarily by income groups;the new principle of segmentation waswhat we now call "lifestyles." Ford's re-sponse was the Mustang, a car that gavethe company a distinct personality andreestablished it as an industry leader.

Unexpected successes and failures aresuch productive sources of innovationopportunities because most businessesdismiss them, disregard them, and evenresent them. The German scientist whoaround 1905 synthesized novocaine,the first nonaddictive narcotic, had in-tended it to be used in major surgicalprocedures like amputation. Surgeons,however, preferred total anesthesia forsuch procedures; they still do. Instead,novocaine found a ready appeal among

dentists. Its inventor spent the remain-ing years of his life traveling from den-tal school to dental school makingspeeches that forbade dentists from"misusing" his noble invention in appli-cations for which he had not intended it

This is a caricature, to be sure, but itillustrates the attitude managers oftentake to the unexpected: "It should nothave happened." Corporate reportingsystems further ingrain this reaction,for they draw attention away from un-anticipated possibilities. The typicalmonthly or quarterly report has on itsfirst pagealistof problems-that is,theareas where results fall short of expec-tations. Such information is needed, ofcourse, to help prevent deteriorationof performance. But it also suppressesthe recognition of new opportunities.The first acknowledgment ofa possibleopportunity usually applies to an areain which a company does better thanbudgeted.Thus genuinely entrepreneur-ial businesses have two "first pages"-a problem page and an opportunitypage - and managers spend equal timeon both.

fcj Incongruities

Alcon Laboratories was one of the suc-cess stories of the 1960s because BillConner, the company's cofounder, ex-ploited an incongruity in medical tech-nology. The cataract operation is theworld's third or fourth most commonsurgical procedure. During the past 300years, doctors systematized it to thepoint that the only "old-fashioned" stepleft was the cutting of a ligament. Eyesurgeons had leamed to cut the liga-

Peter F Drucker is the Marie Rankin ClarkeProfessor of Social Science and Manage-ment at Claremont Graduate University'sPeter F. Drucker Graduate Schml of Man-agement in Claremont, California. He haswritten more than two dozen articles forHBR. This article was originally adapted

from his book Innovation and Entre-preneurship: Practice and Principles(Harper & Row, 1985).

96 HARVARD BUSINESS REVIEW

The Discipline of Innovation

ment with complete success, but it wasso different a procedure from the restof the operation, and so incompatiblewith it, that they often dreaded it It wasincongruous.

Doctors had known for 50 yearsabout an enzyme that could dissolve theligament without cutting. All Connerdid was to add a preservative to this en-zyme that gave it a few months' shelflife. Eye surgeons immediately acceptedthe new compound, and Alcon founditself with a worldwide monopoly. Fif-

teen years later. Nestle bought the com-pany for a fancy price.

Such an incongruity within the logicor rhythm of a process is only one pos-sibility out of which innovation oppor-tunities may arise. Another source isincongruity between economic realities.For instance, whenever an industry hasa steadily growing market but fallingprofit margins - as, say, in the steel in-dustries of developed countries between1950 and 1970 - an incongruity exists.The innovative response: minimills.

An incongruity between expectationsand results can also open up possibili-ties for innovation. For 50 years afterthe turn of the century, shipbuildersand shipping companies worked hardboth to make ships faster and to lowertheir fuel consumption. Even so, themore successful they were in boostingspeed and trimming their fuel needs,the worse the economics of oceanfreighters became. By 1950 or so, theocean freighter was dying, if not al-ready dead.


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All that was wrong, however, was anincongruity between the industry's as-sumptions and its realities. The realcosts did not come from doing work(that is, being at sea) but from not doingwork (that is, sitting idle in port). Oncemanagers understood where costs trulylay, the innovations were obvious: theroll-on and roll-off ship and the con-tainer ship. These solutions, which in-volved old technology, simply appliedto the ocean freighter what railroadsand truckers had been using for 30years. A shift in viewpoint, not in tech-nology, totally changed the economicsof ocean shipping and turned it intoone of the major growth industries ofthe last 20 to 30 years.

Process Needs

Adolph Ochs of the New York Times,Joseph Pulitzer ofthe New York World,and William Randolph Hearst. Adver-tising made it possible for them to dis-tribute news practically free of charge,with the profit coming from marketing.

Industry andMarket Changes

Anyone who has ever driven in Japanknows that the country has no modemhighway system. Its roads still follow thepaths laid down for - or by - oxcarts inthe tenth century. What makes the sys-tem work for automobiles and trucksis an adaptation of the reflector usedon American highways since the early1930S. The reflector lets each car seewhich other cars are approaching fromany one of a half-dozen directions. Thisminor invention, which enables trafficto move sm(K5th!y and with a minimumof accidents, exploited a process need.

Knowledge-bosed innovations

can be temperamental,

capricious^ and hard to direct

what we now call the media had itsorigin in two innovations developedaround 1890 in response to processneeds. One was Ottmar Mergenthaler'sLinotype, which made it possible to pro-duce newspapers quickly and in largevolume. The other was a social innova-tion, modern advertising, invented bythe first true newspaper publishers.

Managers may believe that industrystructures are ordained by the goodLord, but these structures can-and oftendo-change overnight. Such changecreates tremendous opportunity forinnovation.

One of American business's greatsuccess stories in recent decades is thebrokerage finri of Donaldson, Lufkin &Jenrette, recently acquired by the Equi-table Life Assurance Society. DL&J wasfounded in i960 hy three young men,all graduates of the Harvard BusinessSchool, who realized that the structureofthe financial industry was changingas institutional investors became domi-nant. These young men had practicallyno capital and no connections. Still,within a few years, their firm had be-come a leader in the move to negotiatedcommissions and one of Wall Street'sstellar performers. It was the first to beincorporated and go public.

In a similar fashion, changes in in-dustry structure have created massive

innovation opportunities forAmerican health care pro-viders. During the past tenor 15 years, independentsurgical and psychiatric clin-ics, emergency centers, andHMOs have opened through-out the country. Comparableopportunities in telecommu-

nications followed industry upheavals-in transmission (with the emergenceof MCI and Sprint in long-distance ser-vice) and in equipment (with the emer-gence of such companies as Rolm inthe manufacturing of private branchexchanges).

When an industry grows quickly-the critical figure seems to be in the

neighborhood of 40% growth in tenyears or less-its structure changes. Es-tablished companies, concentrating ondefending what they already have, tendnot to counterattack when a newcomerchallenges them. Indeed, when marketor industry structures change, traditionalindustry leaders again and again neglectthe fastest growing market segments.New opportunities rarely fit the way theindustry has always approached the mar-ket, defined it, or organized to serve it.Innovators therefore have a good chanceof being left alone for a long time.

Demographic Changes

Of the outside sources of innovationopportunities, demographics are themost reliable. Demographic events haveknown lead times; for instance, everyperson who will be in the Americanlabor force by the year 2000 has alreadybeen born. Yet because policy makersoften neglect demographics, those whowatch them and exploit them can reapgreat rewards.

The Japanese are ahead in roboticsbecause they paid attention to demo-graphics. Everyone in the developedcountries around 1970 or so knew thatthere was both a baby bust and an edu-cation explosion going on; about half ormore ofthe young people were stayingin school beyond high school. Conse-quently, the number of people availablefor traditional blue-collar work in man-ufacturing was bound to decrease andbecome inadequate by 1990. Everyoneknew this, but only the Japanese actedon it, and they now have a ten-year leadin robotics.

Much the same is true of Club Med-iterranee's success in the travel and re-sort business. By 1970, thoughtful ob-servers could have seen the emergenceof large numbers of affluent and edu-cated young adults in Europe and theUnited States. Not comfortable withthe kind of vacations their working-class parents had enjoyed - the sum-mer weeks at Brighton or Atlantic City-these young people were ideal cus-


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tomers for a new and exotic version ofthe "hangout" of their teen years.

Managers have known for a long timethat demographics matter, but theyhave always believed that populationstatistics change slowly. In this century,however, they don't. Indeed, the inno-vation opportunities made possible bychanges in the numbers of people -and in their age distribution, education,occupations, and geographic location-are among the most rewarding and leastrisky of entrepreneurial pursuits.

Changes in Perception

"The glass is half full" and "The glassis half empty" are descriptions of thesame phenomenon but have vastly dif-ferent meanings. Changing a manager'sperception of a glass from half full tohalf empty opens up big innovationopportunities.

All factual evidence indicates, for in-stance, that in the last 20 years, Ameri-cans' health has improved with unprec-edented speed " whether measured bymortality rates for the newborn, survivalrates for the very old, the incidence ofcancers (other than lung cancer), can-cer cure rates, or other factors. Even so,collective hypochondria grips the na-tion. Never before has there been somuch concern with or fear about health.Suddenly, everything seems to causecancer or degenerative heart disease orpremature loss of memory. The glass isclearly half empty.

Rather than rejoicing in great im-provements in health, Americans seemto be emphasizing how far away theystill are from immortality. This view ofthings has created many opportunitiesfor innovations: markets for new healthcare magazines, for exercise classes andjogging equipment, and for all kinds ofhealth foods. The fastest growing newU.S. business in 1983 was a companythat makes indoor exercise equipment.

A change in perception does not alterfacts. It changes their meaning, though-and very quickly. It took less than twoyears for the computer to change from

being perceived as a threat and as some-thing only big businesses would use tosomething one buys for doing incometax. Economics do not necessarily dic-tate such a change; in fact, they may beirrelevant. What determines whetherpeople see a glass as half full or halfempty is mood rather than fact, and achange in mood often defies quantifica-tion. But it is not exotic. It is concrete. Itcan be defined. It can be tested. And it canbe exploited for innovation opportunity.

New Knowledge

Among history-making innovations,those that are based on new knowl-edge - whether scientific, technical, orsocial - rank high. They are the super-stars of entrepreneurship; they get thepublicity and the money. They are whatpeople usually mean when they talk ofinnovation, although not all innovationsbased on knowledge are important.

Knowledge-based innovations differfrom all others in the time they take, intheir casualty rates, and in their pre-dictability, as well as in the challengesthey pose to entrepreneurs. Like mostsuperstars, they can be temperamental,capricious, and hard to direct. Theyhave, for instance, the longest lead timeof all innovations. There is a protractedspan between the emergence of newknowledge and its distillation into us-able technology. Then there is anotherlong period before this new technologyappears in the marketplace in products,processes, or services. Overall, the leadtime Involved is something like 50 years,a figure that has not shortened appre-ciably throughout history.

To become effective, innovation ofthis sort usually demands not one kindof knowledge but many. Consider one ofthe most potent knowledge-based in-novations: modem banking. The theoryofthe entrepreneurial bank-that is, ofthe purposeful use of capital to generateeconomic development - was formu-lated by the Comte de Saint-Simon dur-ing the era of Napoleon. Despite Saint-Simon's extraordinary prominence, it

was not until 30 years after his death in1825 that two of his disciples, the broth-ers Jacob and Isaac Pereire, establishedthe first entrepreneurial bank, the CreditMobilier, and ushered in what we nowcall finance capitalism.

The Pereires, however, did not knowmodem commercial banking, which de-veloped at about the same time acrossthe channel in England. The Credit Mo-bilier failed ignominiously. A few yearslater, two young men - one an Ameri-can, J.P. Morgan, and one a German,Georg Siemens-put together the Frenchtheory of entrepreneurial banking andthe English theory of commercial bank-ing to create the first successful modernbanks: J.P. Morgan & Company in NewYork, and the Deutsche Bank in Berlin.Ten years later, a young Japanese, Shibu-sawa Eiichi, adapted Siemens's conceptto his country and thereby laid the foun-dation of Japan's modern economy. Thisis how knowledge-based innovation al-ways works.

The computer, to cite another exam-ple, required no fewer than six separatestrands of knowledge:• binary arithmetic;• Charles Babbage's conception of a cal-culating machine, in the first half of thenineteenth century;

• the punch card, invented by HermanHollerith for the U.S. census of 1890;

• the audion tube, an electronic switchinvented in 1906;

• symbolic logic, which was developedbetween 1910 and 1913 by BertrandRussell and Alfred North Whitehead;

• and concepts of programming andfeedback that came out of abortive at-tempts during World War I to developeffective antiaircraft guns.

Although all the necessary knowl-edge was available by 1918, the first op-erational digital computer did not ap-pear until 1946.

Long lead times and the need forconvergence among different kinds ofknowledge explain the peculiar rhythmof knowledge-based innovation, its at-tractions, and its dangers. During a longgestation period, there is a lot of talk


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and little action. Then, when all theelements suddenly converge, there istremendous excitement and activity andan enormous amount of speculation.Between 1880 and 1890, for example,almost 1,000 electric-apparatus compa-nies were founded in developed coun-tries. Then, as always, there was a crashand a shakeout. By 1914, only 25 werestill alive. In the early 1920s, 300 to 500automobile companies existed in theUnited States; by i960, only four ofthem remained.

It may be difficult, but knowledge-based innovation can be managed. Suc-cess requires careful analysis of the

Innovation requires

knowledge, ingenuity,

and, above all else, focus.

various kinds of knowledge needed tomake an innovation possible. Both J.P.Morgan and Georg Siemens did thiswhen they established their bankingventures. The Wright brothers did thiswhen they developed the first opera-tional airplane.

Careful analysis of the needs - and,above all, the capabilities - of the in-tended user is also essential. It mayseem paradoxical, but knowledge-basedinnovation Is more market dependentthan any other kind of innovation. DeHavilland, a British company, designedand built the first passenger jet, but itdid not analyze what the market neededand therefore did not identify two keyfactors. One was configuration -that is,the right size with the right payloadfor the routes on which a jet would givean airline the greatest advantage. Theother was equally mundane: How couldthe airlines finance the purchase of suchan expensive plane? Because de Havil-land failed to do an adequate user anal-ysis, two American companies, Boeingand Douglas, took over the commercialjet-aircraft industry.

Principles of Innovation

Purposeful, systematic innovation be-gins with the analysis of the sources ofnew opportunities. Depending on thecontext, sources will have different im-portance at different times. Demograph-ics, for instance, may be of little concemto innovators of fundamental industrialprocesses like steelmaking, although theLinotype machine became successftjl pri-marily because there were not enoughskilled typesetters available to satisfy amass market By the same token, newknowledge may be of little relevance tosomeone innovating a social instrument

to satisfy a need that changing de-mographics or tax laws have cre-ated. But whatever the situation,innovators must analyze all oppor-tunity sources.

Because innovation is both con-ceptual and perceptual, would-beinnovators must also go out andlook, ask, and listen. Successful in-

novators use both the right and leftsides of their brains. They work out an-alytically what the innovation has to beto satisfy an opportunity. Then they goout and look at potential users to studytheir expectations, their values, andtheir needs.

To be effective, an innovation has tobe simple, and it has to be focused. Itshould do only one thing; otherwise itconfuses people. Indeed, the greatestpraise an innovation can receive is forpeople to say, "This is obvious! Whydidn't I think of it? It's so simple!" Eventhe innovation that creates new usersand new markets should be directedtoward a specific, clear, and carefullydesigned application.

Effective innovations start small. Theyare not grandiose. It may be to enablea moving vehicle to draw electric powerwhile it runs along rails, the innovationthat made possible the electric streetcar.Or it may be the elementary idea ofputting the same number of matchesinto a matchbox (it used to be 50). Thissimple notion made possible the auto-matic filling of matchboxes and gave the

Swedes a world monopoly on matchesfor half a century. By contrast, grandioseideas for things that will "revolutionizean industry" are unlikely to work.

In fact, no one can foretell whether agiven innovation will end up a big busi-ness or a modest achievement. But evenif the results are modest, the successfulinnovation aims from the beginning tobecome the standard setter, to deter-mine the direction ofa new technologyor a new industry, to create the businessthat is-and remains-ahead ofthe pack.If an innovation does not aim at leader-ship from the beginning, it is unlikely tobe innovative enough.

Above all, innovation is work ratherthan genius. It requires knowledge. Itoften requires ingenuity. And it requiresfocus. There are clearly people who aremore talented innovators than others,but their talents lie in well-defined areas.Indeed, innovators rarely work in morethan one area. For all his systematic in-novative accomplishments, Thomas Edi-son worked only in the electrical field.An innovator in financial areas. Citibankfor example, is not likely to embark oninnovations in health care.

In innovation, as in any other en-deavor, there is talent, there is ingenuity,and there is knowledge. But when all issaid and done, what innovation requiresis hard, focused, purposeful work. If dili-gence, persistence, and commitment arelacking, talent, ingenuity, and knowl-edge are of no avail.

There is, of course, far more to entre-preneurship than systematic innova-tion-distinct entrepreneurial strategies,for example, and the principles of entre-preneurial management, which areneeded equally in the established en-terprise, the public service organization,and the new venture. But the very foun-dation of entrepreneurship is the prac-tice of systematic innovation. ^

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ARTI CLES"Value Innovation: The Strategic

W.Chan Kim and Ren^e Mauborgne

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Kim and Mauborgne help managers recognize the opportunities revealed bywhat Drucker describes as a purposeful search ofthe environment. Companiesachieve sustained high growth, the authors maintain, by pursuing value innova-tion-shaping conditions in an industry and pursuing quantum leaps in value tocustomers. Virgin Atlantic, for example, challenged industry conventions byeliminating first-class service and channeling the cost savings into innovationsfor business-class passengers.

"Breaking Compromises, Breakaway Growth"Ceorge Stalk, Jr., David K. Pecaut,and Benjamin BurnettHarvard Business Review, September-October 1996Product No. 96507

How and where should companies search for growth? Look for opportunities tobreak industry compromises, these authors suggest. Compromises occur whenan industry imposes its own operating practices or constraints on customers.For example, you can trade off luxury (Ritz-Carlton) for economy (Best West-ern), but the hotel industry forces you to compromise by not permitting check-in before 4 PM. The quest for innovation opportunities calls for wisdom, curios-ity, and perseverance in order to overcome these compromises.

"Developing Products on Internet Time"Marco lansiti and Alan MacCormack

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This article offers a good example of a disciplined search for innovation oppor-tunities in the marketplace. The Intemet has created an extremely fast environ-ment for product development. The customer needs that a product is designedto satisfy, and the technologies required to satisfy those needs, can change radi-cally-even as the product is under development. Some companies have re-sponded with a flexible product-development process that lets designers defineand shape products up to the last possible moment before market release.
