Deep Change

Breakthroughinnovations inoperations-not just steadyinnprovement-candestroy competitorsand shake upindustries.Suchadvances don'thave to be asrare as they are.

84 HARVARD BUSINESS REVIEW

DeepChange

How *^OperationalInnovationCan TransformYour Company

by Michael Hammer

I N 199T, Progressive Insurance, an automobile insurerbased in Mayfield Village, Ohio, had approximately$1.3 billion in sales. By 2002, that figure had grown to

$9.5 billion. What fashionable strategies did Progressiveemploy to achieve sevenfold growth in just over a decade?Was it positioned in a high-growth industry? Hardly. Autoinsurance is a mature, ioo-year-o!d industry that growswith GDP. Did it diversify into new businesses? No, Pro-gressive's business was and is overwhelmingly concen-trated in consumer auto insurance. Did it go global? Again,no. Progressive operates only in the United States.

Neither did it grow through acquisitions or clever mar-keting schemes. For years. Progressive did little advertis-ing, and some of its campaigns were notably unsuccessful.It didn't unveil a slew of new products. Nor did it grow atthe expense of its margins, even when it set low prices.The proof is Progressive's combined ratio (expenses plusclaims payouts, divided by premiums), the measure of

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How Operational Innovation Can Transform Your Company

financial performance in the insurance industry. Mostauto insurers have combined ratios that fluctuate around102% - that is, they run a 2% loss on their underwritingactivities and recover the loss with investment income.

Operational innovation is truly deep change,affecting the very essence of a company: howits work is done.The effects ripple outward toall aspects of the enterprise.

By contrast, Progressive's combined ratio fluctuates around96%. The company's growth has not only been dramatic-it is now the country's third largest auto insurer-it hasalso been profitable.

The secret of Progressive's success is maddeningly sim-ple: It outoperated its competitors. By offering lowerprices and better service than its rivals, It simply took theircustomers away. And what enabled Progressive to havebetter prices and service was operational innovation, theinvention and deployment of new ways of doing work.

Operational innovation should not be confused withoperational improvement or operational excellence.Those terms refer to achieving high performance via ex-isting modes of operation: ensuring that work is done asit ought to be to reduce errors, costs, and delays but with-out fundamentally changing how that work gets accom-plished. Operational innovation means coming up withentirely new ways of filling orders, developing products,providing customer service, or doing any other activitythat an enterprise performs.

Operational innovation has been central to some of thegreatest success stories in recent business history, includ-ing Wal-Mart, Toyota, and Dell. Wal-Mart is now the larg-est organization in the world, and it owns one of theworld's strongest brands. Between 1972 and 1992, Wal-Mart went from $44 million in sales to $44 billion, pow-ering past Sears and Kmart with faster growth, higherprofits, and lower prices. How did it score that hat trick?Wal-Mart pioneered a great many innovations in how itpurchased and distributed goods. One of the best knownof these is cross-docking, in which goods trucked to a dis-tribution center from suppliers are immediately trans-ferred to trucks bound for stores - without ever beingplaced into storage. Cross-docking and companion inno-vations led to lower inventory levels and lower operatingcosts, wbich Wal-Mart translated into lower prices. The

rest is history. Although operational innovation wasn'ttbe sole ingredient in Wal-Mart's success - its culture,strategy, human resource policies, and a host of otherelements (including operational excellence) were also

critical - it was the foundation on which thecompany was built.

Similar observations can be made aboutDell and Toyota, organizations whose oper-ational innovations have become propernouns: the Deli Business Model and theToyota Production System. Each of thesethree companies fundamentally rethoughtbow to do work in its industry. Their oper-ational innovations dislodged some of the

mightiest corporations in the history of capitalism, in-cluding Sears, General Motors, and IBM.

These stories are well known for two reasons. First, tbestories are worth telling: Operational innovations fuel ex-traordinary results. But tbe stories are also repeated be-cause there are, frankly, not many of them. Operationalinnovation is rare. By my estimate, no more than 10% oflarge enterprises have made a serious and successful ef-fort at it. And that shouldn't be. Executives who under-stand how operational innovation bappens-and who alsounderstand the cultural and organizational barriers thatprevent it from happening more often-can add to theirstrategic arsenal one of the most powerful competitiveweapons in existence.

Michael Hammer is the founder of Hammer and Com-pany, a management education firm based in Cambridge,Massachusetts. He can be reached at [email protected].

The PayoffsFor most of its history. Progressive focused on high-riskdrivers, a market that it served profitably through ex-tremely precise pricing. But in the early 1990s, the insurerbelieved that much larger companies were about to enterthis niche and emulate its approach to pricing; the com-pany's managers realized it couldn't compete againstlarger players on a level playing fleld. So Progressive de-cided to win the game by changing the rules. It reinventedclaims processing to lower its costs and boost customersatisfaction and retention.

The company introduced what it calls Immediate Re-sponse claims handling: A claimant can reach a Progres-sive representative by phone 24 hours a day, and the rep-resentative then schedules a time when an adjuster willinspect the vehicle. Adjusters no longer work out of offl-ces from nine to five but out of mobile claims vans. In-stead of taking between seven and ten days for an ad-juster to see the vehicle. Progressive's target is now justnine bours. Tbe adjuster not only examines tbe vehiclebut also prepares an on-site estimate of the damage and,if possible, writes a check on the spot.

This approach has many benefits. Claimants get fasterservice with less hassle, which means they're less likely toabandon Progressive because of an unsatisfactory claims



A Powerful Weapon

Strategic benefits

Marketplace benefits

higher customer retention

greater market share

ability to execute strategies

ability to enter new markets

Operational benefits

lower prices

greater customer satisfaction

differentiated offerings

stronger customer relationships

greater agility

lower direct costs

better use of assets

faster cycle time

increased accuracy

greater customization or precision

more added value

simplified processes

Innovative operations can result in direct performance improvements

(faster cycle time and lower costs), which lead to superior market

performance (greater customer satisfaction and more highly differen-

tiated products). And improved market performance yields a host

of strategic payoffs, from higher customer retention to the ability to

penetrate new markets.

experience. And the shortened cycle time reduced Pro-gressive's costs dramatically. The cost of storing a damagedvehicle or renting a replacement car for one day-around$28 - is roughly equal to the expected underwriting profiton a six-month policy. It's not hard to calculate the savingsthis translates into for a company that handles more than10,000 claims each day. Other benefits for Progressive arean improved ability to detect fraud (because it is easier toconduct an accident investigation before skid marks washaway and witnesses leave the scene), lower operatingcosts (because fewer people are involved in handling theclaim), and a reduction in claim payouts (because claim-ants often accept less money if it's given sooner and withless travail).

No single innovation conveys a lasting advantage, how-ever. In addition to Immediate Response, Progressive hasalso introduced a system that allows customers to call an

800 number or visit its Web site and, by pro-viding a small amount of information, com-pare Progressive's rates with those of threecompetitors. (Because insurance is a regulatedindustry, rates are on file with state insurancecommissioners.) This offer has attracted cus-tomers in droves.

The company has also devised even betterways of assessing an applicant's risk profile tocalculate the right rate to quote. When Pro-gressive realized that an applicant's credit rat-ing was a good proxy for responsible drivingbehavior, it changed its application process.Now its computer systems automatically con-tact those of a credit agency, and the appli-cant's credit score is factored into its pricingcalculation. More accurate pricing translatesinto increased underwriting profit. Put these alltogether, and Progressive's remarkable growthbecomes comprehensible.

Other companies have made similar perfor-mance gains through operational innovations.Beginning in 1994, Eastern Electric, a UK powerutility, created a process that reduced the timeneeded to initiate electrical service by 90% andits cost by 66%. In the late 1990s, IBM inventeda new product-development process that causeda 75% reduction in the time to develop newproducts, a 45% reduction in development ex-penses, and a 26% increase in customer satis-faction with these new products, in 2002, ShellLubricants reinvented its order fulfillment pro-cess by replacing a group of people who han-dled different parts of an order with one indi-vidual who does it all. As a result. Shell has cutthe cycle time of turning an order into cash by75%, reduced operating expenses by 45%, andboosted customer satisfaction 105%-all by in-

troducing a new way of handling orders. Time, cost, andcustomer satisfaction - the dimensions of performanceshaped by ope rations-get major boosts from operationalinnovation.

Organizational BarriersCompared with most of the other ways that managers tryto stimulate growth - technology investments, acquisi-tions, major marketing campaigns, and the like - oper-ational innovation is relatively reliable and low cost. Sowhy don't more companies embrace it?

The question is particularly significant because opera-tional innovation is needed now more than ever. Mostindustries today are struggling with low-growth, evenstagnant, markets. Overcapacity is rampant, and conipe-tition-particuiariy giobai competition 's fierce. Virtually

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all product and service offerings have become commodi-ties, almost no one has any pricing power, and none ofthis is likely to change in the near future. In this environ-ment, the only way to grow is to take market share fromcompetitors by running rings around them: by operatingat lower costs that can be turned into lower prices and byproviding extraordinary levels of quality and service. Inother words, the game must now be played on the field ofoperations.

Mere operational improvement is not enough to winthe game. Excellence in execution can win a close game,but it can't break a game wide open and turn it into arout. The only way to get and stay ahead of competitorsis by executing in a totally different way-that is, throughoperational innovation.

But operational innovation entails a departure from fa-miliar norms and requires major changes in how depart-ments conduct their work and relate to one another. It istruly deep change, affecting the very essence of a com-pany: how its work is done. The effects of operational in-novation ripple outward to all aspects of the enterprise,from measurement and reward systems and job designsto organizational structure and managerial roles. Thus,it will never get off the ground without executive lead-ership. Yet senior managers rarely perceive operational

Operational innovation is by nature disruptive, soit should be concentrated in those activities with thegreatest impact on an enterprise's strategic goals.

innovation as an important endeavor, nor do they enthu-siastically embrace it when others present it to them. Whynot? The answers hinge on some unpleasant characteris-tics of contemporary corporate leadership.

Business culture undervalues operations. I have spo-ken with thousands of managers from hundreds of com-panies about operational innovation. Overwhelmingly,they've told me that their senior executives did not un-derstand, support, or encourage it. As one manager said,"In our company, operations is not glamorous. Deals are."Making acquisitions, planning mergers, and buying andselling divisions will get the company's name and theCEO's picture in business magazines. Redesigning pro-curement or transforming product development will not,even though it might be much more important to thecompany's performance. Deals are easily explained to andunderstood by boards, shareholders, and the media. Theyoffer the prospect of nearly immediate gratification, andthe bold stroke of a deal is consistent with the modernimage of the executive as someone who focuses on grandstrategy and leaves operational details to others. The fact

that the great majority of deals are unsuccessful does notdeter executives from pursuing them.

Operations simply aren't sexy. One business school stu-dent recently observed to me, "There seems to be a hier-archy in the business world. Finance and strategy are atthe top, marketing and sales occupy the middle tier, andoperations is at the bottom." An insurance CEO oncequipped that managers work hard at operations so theycan be promoted to the executive level, where they canstop worrying about operations. A journalist at a promi-nent business magazine, assigned to do a story on opera-tions, confessed that he thought it boring. This is the stateof our business culture. The core, value-creating work ofenterprises has become low status.

Operations are out of sight (and out of mind-set). Atits heart, operations is a branch of engineering. It requiresa skill set and a mind-set different from those needed inmost other executive activities. Most senior managers fo-cus on strategic planning, budgeting, capital allocation,financial management, mergers and acquisitions, person-nel issues, regulatory concerns, and other macro issues,very different from the design work at the heart of oper-ational innovation.

Many top managers are ignorant about operationsand uninterested in learning more. They've ascended to

the highest levels of the enter-prise without ever getting theirhands dirty. They enter the orga-nization through finance, strat-egy, or marketing and build theirreputations on work in thesedomains. When they move intotheir first general managementrole, they rely on others - plant

managers, engineers, customer service leaders-to mindthe details of the actual work. Their role is one of super-vision, resource allocation, and direction-all vital,but allperched precariously on a foundation not grounded inthe bedrock of the organization's real work.

At a major semiconductor maker, for instance, a groupof middle managers who were frustrated with the com-plexity and poor performance of their order fulfillmentprocess decided to make a case for change to executivemanagement. They created a two-page diagram illustrat-ing the endless series of steps every order went through,the redundant moves of the product between factoriesand depots, the accumulations of inventory, and the enor-mous delays. When members of the company's executivecommittee saw it, they were incredulous: "We do this?"

It should not be surprising that executives without ex-perience in operations do not look there for competitiveadvantage. The information they usually get does little tofocus their attention on the mechanics of operations.How many executives receive data about order fulfill-ment cycle time, or the accuracy of customer service re-

HARVARD BUSINESS REVIEW


sponses, or the cost of each pro-curement transaction, or the per-centage of parts that are reusedin new products? Indeed, in howmany organizations is such infor-mation available at all? Financialdata dominate the discourse in themodern organization, althoughoperational performance is thedriver of financial results.

Nobody owns it No one holdsthe title Vice President of Opera-tional Innovation; it is organiza-tionally homeless. It doesn't fitinto R&D, where product innova-tion is based. Functional line man-agers are too focused on meetingdeadlines to have time for or in-terest in inventing new ways ofdoing things. What's more, impor-tant innovations are not limitedto individual departments but in-volve end-to-end processes thatcross departmental boundaries.Normal planning and budgeting focus on investments innew equipment, products, and services and take accountof process improvement. It's a rare company whose bud-get or planning process explicitly looks for process break-throughs. No wonder operational innovation has a hardtime gaining traction in an organization.

This is particularly problematic because operational in-novation can easily founder in a sea of competing butsmaller change initiatives. It is all too common for enter-prises today to have dozens - even hundreds - of opera-tional improvement programs under way at any point intime. Some are technologically based, such as the imple-mentation of enterprise resource planning (ERP), cus-tomer relationship management (CRM), or supply chainmanagement (SCM) software systems. Others are cen-tered on specific bodies of improvement techniques, sucbas Six Sigma quality or lean enterprise programs. Stillothers are defined in terms of outcomes, such as acceler-ating time to market or presenting a single face to cus-tomers, or focused on improving a particular aspect of theenterprise (procurement or customer service, for exam-ple). Fach project typically has a narrow scope, a group ofexperts dedicated to it, and a sponsor whose enthusiasmis tolerated by his or her peers only as long as it is keptwitbin bounds.

This kind of situation can cripple operational innova-tion because an organization has only so much capacityfor change. If people are already juggling a great manyimprovement projects, they may conclude that they can'thandle an innovation effort as well. Indeed, in a companyconsumed with improvement projects, the distinction

between improvement and innovation may be lost Im-provement projects can also get in the way of innovationefforts by appearing to address similar issues. For in-stance, many companies implementing ERP or SCM sys-tems merely use them to enhance existing processes. Realinnovations in order fulfillment or supply chain manage-ment are also likely to involve these technologies, butthey may be dismissed because, people think, "we're al-ready doing ERP."

Making It WorkHow do operational innovation efforts begin if no one isresponsible for them and no formal channels for creatingprograms exist? Most often they start as grassroots move-ments, fostered by people sprinkled throughout organi-zations who are passionately committed to finding and ex-ploiting opportunities for operational innovation. Thesecatalysts take it upon themselves to find a leader who cangrasp what they have in mind and then spearhead the in-novation effort. The executive must have both the imagi-nation and the charisma needed to drive major opera-tional change.

Then the catalysts relentlessly campaign for the cause-confronting the executive with the inadequacies of exist-ing operations and arranging for meetings with peersfrom other companies that have successfully imple-mented operational innovations. The campaign will behelped immensely if catalysts can tout existing pockets ofoperational innovation within their own organization.Maybe one plant implemented a new way of scheduling

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production, or a customer service center used a CRM sys-tem in a new way, or a sales team created a new way tosupport customers. Examples like these will help convincea leader that operational innovation can work.

Once the top executive is convinced that operationalinnovation is worth pursuing, the organization needs tofocus its efforts. Because operational innovation is bynature disruptive, it should be concentrated in thoseactivities with the greatest impact on an enterprise's stra-tegic goals.

Progressive, for instance, realized that the key to its prof-itable growth is customer retention because acquiringnew customers through commission-based agents is veryexpensive. And the key to customer retention is makingsure customers have rewarding interactions with the com-pany. That's why Progressive concentrated on streamlin-ing claims; making it a more pleasant experience forcustomers would directly affect overall performance.Many auto insurers, by contrast, viewclaims as a nuisance at best becauseit entails paying claimants. They con-sider it to be a low-priority activitythat doesn't deserve attention.

Or consider how American Stan-dard, the diversified manufacturer,decided where to focus its innova-tion efforts in the early 1990s. It hadjust survived a hostile takeover bidby going through a leveraged buy-out, and leaders realized that servic-ing the debt would consume virtu-ally all the company's available cashand starve product development ef-forts. Because a large amount of cashwas tied up in inventories, the CEOmandated that the company wouldhave to drive down its working capi-tal and dramatically increase inven-tory turns. A program was institutedto transform manufacturing from aconventional push-based system toone pulled by actual demand usinga system known as Demand FlowManufacturing. The innovation paidoff and led to a successful IPO a fewyears later.

Using similar analyses, other com-panies have pinpointed procure-ment, order fulfillment, new productdevelopment, post-sales customersupport, and even budgeting as theplace where innovation would havethe greatest effect on achieving keystrategic goals. While operational in-novation need not be confined to

just one area, most companies find it prudent to limittheir innovation programs to no more than two or threemajor efforts at a time. To undertake more would proba-bly consume too many resources and create too much or-ganizational disruption.

After selecting the area for innovation, the companymust set stretch performance goals. At American Stan-dard, the goal was to triple its inventory tums; at Pro-gressive, to initiate claims within nine hours. Absent suchspecific targets, innovation efforts are likely to drift or de-generate into incremental improvement projects. Onlya daunting target-clearly unattainable through existingmodes of operation-will stimulate radical thinking andwillingness to overturn tradition.

Inventing a new way of operating that achieves the tar-get need not be simply a matter of crossing your fingersand hoping for inspiration. Following these suggestionsshould accelerate your efforts.

Reimagining Processes

Dimension of work

What resultsthe work delivers

Whoperforms the work

Wherethe work is performed

Whenthe work is performed

Whetherthe work is performed

What informationthe work employs

How thoroughlythe work is performed

Example

Progressive Insurance increased marketshare by informing customers of itscompetitors' rates as well as its own.

Shell Lubricants improved cycle timeby changing its order fulfillment processso that one person handles all aspects ofan order(instead of seven peopleeachworking on one aspect).

Taco Bell cut costs by preparing ingredientsin commissaries rather than in individualrestaurants.

A major hospital responded to physicianreferrals more quickly by assigning a bedafter, rather than before, agreeing to accepta patient.

Wal-Mart cut costs by cross-docking fromtruck to truck instead of storing goods inwarehouses.

A consumer packaged-goods manufacturerreduced inventory by basing its productionscheduling on actual orders rather than onforecasts.

Harvard Pilgrim Health Care cuts costs bycarefully analyzing patients to identify thosewho need intervention before a crisis strikes.



Look for role models outside your industry. Bench-marking within your own industry is unlikely to uncoverbreakthrough concepts. But techniques used in other in-dustries with seemingly very different characteristics mayturn out to be unexpectedly applicable. For instance, inthe 1980s, Taco Bell transformed its restaurant operationsby thinking about them in manufacturing rather than infast-food terms. The restaurant chain reduced the amountof on-site food preparation by outsourcing to its suppli-ers, centralizing the production of key components, andconcentrating on assembly rather than fabrication in therestaurants. The new approach lowered Taco Bell's costsand increased customer satisfaction by ensuring consis-tency and by allowing restaurant personnel to focus on cus-tomers rather than production. Harvard Pilgrim HealthCare has applied techniques of market segmentation,common in consumer goods but not in health insurance,to identify patients most likely to have a medical crisisand to intervene before the crisis occurs.

Identify and defy a constraining assumption. At itsheart, every operational innovation defies an assumptionabout how work should be done. Cross-docking negatesthe assumption that goods need to be stored in a ware-house, build-to-order that goods should be producedbased on forecasts and destined for inventory. Zero in onthe assumption that interferes with achieving a strategicgoal.andthenfigureout how to get rid of it. A major hos-pital, for instance, recognized that to increase the numberof patients admitted for (well-reimbursed) cardiac bypassgraft operations, it needed to respond more quickly tophysicians who wanted to refer a patient. The reason forthe delay in response was the assumption that the hospi-tal first had to assign a prospective patient a bed, a sup-position that generated hours of delay and often ledphysicians to send their patients somewhere else. Thesolution? Send the patient to the hospitalimmediately, and assign the bed while thepatient is in transit.

Make the special case into the norm.Companies often achieve extraordinary lev-els of performance under extraordinary con-ditions; their problem is performing extraor-dinarily in normal situations. One way toaccomplish this is to turn the special-case process into thenorm. A consumer packaged-goods maker, for instance,based its production scheduling on sales forecasts ratherthan on actual customer demand. When demand for anew product wildly exceeded forecasts, an ad hoc processwas created that gave the manufacturing division real-time information about customer demand, which in turnallowed them to do production planning and product dis-tribution much more efficiently. After the crisis hadpassed, the company decided to adopt this emergencymode of operation as its standard one. The results in-cluded a dramatic drop in inventory, an improvement in

customer service, and a major reduction in the total costof product deployment

Rethink critical dimensions of work. Designing oper-ations entails making choices in seven areas. It requiresspecifying what results are to be produced and decidingwho should perform the necessary activities, where theyshould be performed, and when. It also involves deter-mining under which circumstances fw/jef/jerj each of theactivities should or should not be performed, what infor-mation should be available to the performers, and howthoroughly or intensively each activity needs to be per-formed. Managers looking to innovate should considerchanging one or more of these dimensions to create anew operational design that delivers better performance.(The exhibit "Reimagining Processes" shows examples ofcompanies that have rethought these various dimensionsof work.)

Getting Implementation RightIn The Innovator's Dilemma, Clayton Christensen ob-served that conventional market-analysis tools lead orga-nizations astray when applied to disruptive technologies.In a similar way, conventional implementation method-ologies often lead to failure when applied to disruptivemodes of operation.

Companies that follow traditional implementationmethodologies inevitably take too long. There is so muchto be done, and so much that must be integrated witheverything else, that years can pass before the innovationis implemented and its benefits start to flow. Further-more, because every proposed major change in operatingprocedures is invariably greeted with a chorus of "it willnever work," a lengthy implementation period gives op-ponents an extended opportunity to campaign against

Zero in on the assumption that interferes withachieving a strategic goal, and then figure outhow to get rid of it.

it. In fact, even those who aren't aggressively opposed tothe innovation will find a protracted transition unsettlingand disquieting. As more time passes and more money isspent without the innovation or its payoffs seeing thelight of day, organizational support leaks away. Execu-tive leadership then loses heart, and the denouement isinevitable.

Another problem with conventional implementation isthat it assumes that the initial specifications for an oper-ational innovation will be accurate and complete. In real-ity, they will be neither. When envisioning new ways ofworking, it is impossible to get everything right from the

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outset. Ideas that look good on paper don't always workas well in practice; only when a concept is actually trieddoes one leam what it should really have been in the firstplace. Companies must be prepared to roll with thepunches and learn as they go. An apparel manufacturerhad to regroup when the technology underlying its plansfor a new approach to production scheduling did not liveup to expectations; a consumer goods maker had to scaleback an innovation in logistics when its implementationbecame more difficult than expected.

Companies need to adopt a new approach to implement-ing operational innovations. This alternative methodbuilds on an idea that is popular in software product de-velopment, an idea variously known as iterative, evolu-tionary, or spiral development. One begins with one's bestestimateof the innovation, builds a first version of it, andthen tries it out with customers or users. Knowledgegained from these tests is then fed back into a fast-cycleiteration of the next version.'

Companies would also be wise not to try to implementan innovation all at once. Breaking a large-scale imple-mentation into a series of limited releases creates m(^mentum, dispels skepticism and anxiety, and delivers apowerful rejoinder to carping critics.

When MetLife, for instance, was implementing a newprocess for installing coverage of a new customer, it did soin two releases. The first involved the creation of a newrole-a case-implementation leader, who was responsiblefor collecting all the information to establish coverage.In that release, a new project-management tool was also

Operational innovation is a step change:It moves a company to an entirely new level.

introduced to control the process. That took only a fewmonths and delivered substantial reductions in cycletime, as well as a 15% productivity gain. But it continuedto rely on old information systems to support the process.In the second release, a new information system was in-stalled that facilitated data collection and the productionof documentation and also offered enhanced reportingcapabilities. This second release delivered another 20%productivity improvement, as well as a 20-point increasein customer satisfaction.

Shell Lubricants followed a simiiar strategy when ittransformed its order fulfillment process. The first releasebrought all the departments involved in the processunder a single manager. This easy-to-implement changequickly delivered a degree of performance improvement.The improvements continued when the next releasebrought people from the various departments togetherinto cross-functional teams. In the final release, each team

member was trained to handle an entire order. This wasthe goal from the outset; Shell simply reached it in man-ageable steps.

Is It Sustainable?Even with all the benefits operational innovation can de-liver, some executives may wonder if it is truly worth theeffort. Why bother to be the first on the block to developand deploy a new way of working? Why not let a com-petitor break that ground and then capitalize on its expe-riences, doing an even better job? Indeed, where is thereal strategic advantage in operational innovation at all?Once one company introduces a new way of doing things,all competitors can follow, and before long all are back onthe same level playing field.

In theory, that is a powerful argument, but in the realworld, operational innovations have legs. Even today, notall auto insurers offer immediate claims response. Anddespite Dell's success, build-to-order has not swept the PCindustry. At one major PC maker, an effort to do so wassuppressed by both the head of manufacturing (whowas concerned that it would lead to outsourcing) andthe head of marketing (who was afraid of alienatingthe retail channel), and top leadership was too preoccu-pied with other matters to intervene. Toyota has confi-dently opened its factories to visitors from other auto-makers and yet continues to expand its productivity lead.

There are many reasons why theoretically imitableoperational innovations have staying power. Some com-

panies, even when confronted by a competi-tor's innovations, will not rush to emulatethem. Denial of competitor superiority and adisinclination to truck with operations arepowerful forces of nature, and so is organiza-tional inertia. Some competitors who at-tempt to imitate the innovation won't under-

stand it, and others won't be able to implement it. Eventhose who do follow will be at a disadvantage until theycatch up.

Operational innovation is a step change: It moves acompany to an entirely new level. Once there, the organi-zation can focus its efforts on a generation of additionalchanges-refinements of the innovation-that will keep itahead of the pack until the inevitable time comes fora new wave of innovation.

That's why companies should strive to make opera-tional innovation not an extraordinary project but a wayof life. Even areas of the business that have already beenrethought can benefit from subsequent rethinking as newtechnologies and new customer needs make the old in-novations pass^. Companies that bake operational inno-vation into their culture make competitors continuallyscramble to catch up with the changing rules. What'smore, they can even develop a reputation with customers



for relentlessly improving performance, a brand promiseof extraordinary value.

Progressive has created such a culture; leaving wellenough alone is a principle with which the company issystemically uncomfortable. It recently revised its verysuccessful Immediate Response ciaims process so that therepresentative no longer attempts to assign an adjuster assoon as the claimant calls. Rather, the representative guar-antees to call the claimant back within two hours withspecifics about when an adjuster will see the vehicle. Thistwo-hour window gives the company the opportunityto assign the right kind of adjuster given the specifics ofthe case, so that a junior adjuster is not confronted witha complex accident heyond his level of expertise. Progres-sive is also deploying in select markets what it calls aconcierge approach to claims handling. Here, a claimantsimply brings the car to a Progressive claims facility at aconvenient time and leaves it there, picking up a loanerat the same time. Progressive then takes responsibilityfor getting the car fixed. Under this system, the claimant

is spared the hassle of dealing with body shops, the Pro-gressive adjuster works in a climate-controlled environ-ment that allows more careful inspection, and the bodyshop doesn't have to get between Progressive and itscustomers. By the time its competitors imitate this latestinnovation. Progressive will no doubt have moved ontosomething else.

Operational innovation may appear unglamorous orunfamiliar to many executives, but it is the only lastingbasis for superior performance. In an economy that hasoverdosed on hype and in which customers rule as theynever have before, operational innovation offers a mean-ingful and sustainable way to get ahead - and stayahead-of the pack. ^

1. Marco lansiti and Alan MacCormack describe how this approach wassuccessfully applied In the development of Intemet browsers in their article"Developing Products on Internet Time" (HBR September-October 1997).

Reprint R0404E; HBR OnPoint 6573To order, see page 143.

"We need to put our faith in consumer ignorance."

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Deep Change