There is a simple consequence for firms not coming to terms with the need for innovation: they go bust. History is littered with firms that failed to innovate. However, the effects can be much more devastating. Lack of innovation nearly wiped out the once mighty Swiss watch industry, and killed the British motorbike industry. The effects are profound, going well beyond the financial health of a given company, extending into the entire social and economic vitality of an industry, a region and a country.
An Historical Perspective
As human beings, we are constantly striving to do better, to survive, to compete. At onetime man had little or no tools and techniques for improvement. But let’s not go back that far; let’s go back a few hundred years and look at what has and is shaping our business environment.
The industrial revolution took hold in the eighteenth century and flourished throughout the nineteen century. Machines of all types were emerging, replacing what was once done by the labor of man. We can say that this period was an era of mechanization.
In the late nineteenth century and throughout the twentieth century we spawned two eras; the productivity era and the quality era. In the late 1800’s we were in an era where the focus was on mass production, accelerated by Henry Ford and others. Then soon after we had the ability to mass produce, it became obvious that we were producing a lot of poor quality. For obvious reasons it became important to focus on quality improvement, if for no other reason than to control costs. Such names as Shewhart, Deming, Juran and others typify this era along with improvement approaches like TQM, Six Sigma and Lean. For several decades we have used statistical and productivity tools for the improvement of quality and on cost reductions.
This does not mean that we no longer put effort into these previous areas, but rather that we have already made significant gains. It means that the next area of significant gains will likely come from innovation.
The Economist magazine called innovation the industrial religion of the 21st century. Without it many firms will go out of business, and those that remain will become secondrate and subservient to international leaders in decision-making and profit-taking. Without innovation, there won't be the new businesses and jobs that are necessary in a modern dynamic economy.
A Business Financial Perspective of Survival
Everyday, every CEO is under constant pressure to improve revenues and profits. For the past several decades much of the revenue growth by corporations has come from acquisitions and less from organic growth. While that strategy has worked extraordinarily well for many companies, profitable growth through acquisitions is opportunistic and the number of opportunities is less abundant. Tom Copeland, in the book Valuation, found that technological innovation is now responsible for up to one half of the growth of the US economy. Because of factors such as globalization,increasing competition, the growing impact of information and communications technology, and the high pace of scientific and technological change, firms must innovate more rapidly than ever before. Surveys suggest that the average R&D cycle of firms has fallen from 18 months in 1993 to less than 10 months today.
It is well understood that the stock market values a continuous combination of profit and revenue growth in determining the valuation of a company. Operating profit can be improved through cost reductions, but this can only help somewhat. Additional growth in profit and valuation must come from a growth in revenue. Less than 10% of all publicly traded companies have been able to sustain for more than a few years above average shareholder returns? What factors might contribute to this dismal statistic?
The factors for failing to achieve consistent profitable growth have received considerable study by a number of notable individuals. A major finding has been the failure to systematically apply innovation to the development of new products, processes, services and business models.
It is typical for 30% to 50% of a company’s revenue to come from new products and services. To not falter even once and to consistently achieve above average returns, a company cannot be periodically innovative. It has to consistently be able to innovate at a faster rate than its current or future competitors. To demonstrate the strength of this need, a recent Business Week interview of 100 CEO’s found that 95 of these CEO’s believed that innovation was absolutely critical to their company’s success. And Bill Ford, CEO and President of Ford Motors, recently stated the following, “Innovation will be the compass guiding this company going forward.” A strong statement about where Ford expects to generate consistent revenue and success.
Innovation will be a key component to financial success and sustainability in today’s global economy. Innovation drives profitability and performance by allowing companies to differentiate themselves to create a competitive advantage. Innovation applies to all areas of a business for generating revenue and profit, ranging from performance improvements, new product, manufacturing, operations, services and the design of organizational structures.
Only 23% of all acquisitions were ultimately successful. Corporations will continue to aggressively pursue acquisitions, but organic growth will be increasingly important for profitable growth. As you might expect, to achieve this type of growth, you are going to have to come with new ways of performing and improving a business. Finding such ways is at the heart of innovation.