The Innovator's Solution

by Clayton Christensen

  It’s quite stunning, when you think about it. This pattern would strike most managers as a dream come true. What more could you want than a situation where customers are easily delighted, powerful competitors ignore you, and you’re locked arm-in-arm with channel partners in a win-win race toward exciting growth? We will explore next why this dream so often becomes a nightmare instead, and then suggest what to do about it.

  What Makes Competing Against Nonconsumption So Hard?

  The logic of competing against nonconsumption as the means for creating new-growth markets seems obvious. Despite this, established companies repeatedly do just the opposite. They choose to compete at the outset against consumption, trying to stretch the disruptive innovation to compete against—and ultimately supplant—established products, sold by well-entrenched competitors in large, obvious market applications. Doing this requires enormous amounts of money, and such attempts almost always fail. Established firms almost always do this, rather than shaping their ideas to fit the pattern of successful disruption noted earlier. Why?

  In a very insightful stream of research, Harvard Business School Professor Clark Gilbert has helped us understand the fundamental mechanism that causes the established competitors in an industry to consistently cram the disruptive technology into the mainstream market. With that understanding, Gilbert also provides guidance to established company executives on how to avoid this trap, and capture the growth created by disruption instead.5

  Threats Versus Opportunities

  Gilbert has borrowed insights from the fields of cognitive and social psychology, as exemplified in the work of Nobel Prize winners Daniel Kahneman and Amos Tversky, to study disruption.6 Kahneman and Tversky examined how individuals and groups perceive risk and noted that if you frame a phenomenon to an individual or a group as a threat, it elicits a far more intense and energetic response than if you frame the same phenomenon as an opportunity. Furthermore, other researchers have observed that when people encounter a significant threat, a response called “threat rigidity” sets in. The instinct of threat rigidity is to cease being flexible and to become “command and control” oriented—to focus everything on countering the threat in order to survive.7

  You can see exactly this behavior among the established firms that experience new-market disruptions. Because the disruptions emerge at a time when the established firms’ core business is robust, framing the new-market disruption as an opportunity simply does not get people’s attention: It makes little sense to invest in new-growth businesses when the present ones are doing well.

  When visionary executives and technologists do see the disruption coming, they frame it as a threat, seeing that their companies could be imperiled if these technologies succeed. This framing as a threat rather than an opportunity is what elicits a resource commitment from the established firms to address the technology. But because they instinctively define the disruption as a threat, they focus on being able to protect their customers and their current business. They want to be there with the new technology ready when they must switch to it in order to protect their current customers. This causes the organization to pursue a strategy that not only misses the growth opportunity but also leads to its eventual destruction—because the disruptors who take root in nonconsumption eventually kill them. This just means, however, that established firms must reposition themselves on the other side of the dilemma, at the appropriate time.

  How to Get Commitment and Flexibility

  Gilbert’s work, fortunately, not only defines an innovator’s dilemma but suggests a way out. The solution is twofold: First, get top-level commitment by framing an innovation as a threat during the resource allocation process. Later, shift responsibility for the project to an autonomous organization that can frame it as an opportunity.

  In his study of how major metropolitan newspapers responded to the threat or opportunity of going online, Gilbert showed that in the initial period of threat framing, the project to address the disruption was always housed within the budgetary and strategic responsibility of the mainstream organization—because it had to be. In the case of newspapers, this entailed putting the newspaper online. The advertisers and readers of the online version were the same as those of the paper version. The newspapers did exactly what the vacuum tube and solar energy companies did: try to make the disruptive technology good enough that existing customers would use it instead of the existing physical newspaper.

  At first blush, this market targeting seems senseless: Concerns about cannibalism become self-fulfilling prophecies. But threat framing makes sense of the paradox. Because current customers are the lifeblood of the company, they must be protected at all costs: “If the technology ever does in fact become good enough to begin to steal away our customers, we will be there with the new technology, ready to defend ourselves.”

  In contrast to the dilemma facing the incumbents, threat framing isn’t a vexing issue for entrant firms. For them, the disruption is pure opportunity. This asymmetry of perceptions explains why incumbents so consistently try to cram the disruptive technology into mainstream markets, whereas the entrants pursue the new-market opportunity. Understanding this asymmetry, however, points to a solution. After senior managers have made a resolute commitment to address the disruption, responsibility to commercialize the disruption needs to be placed in an independent organizational unit for which the innovation represents pure opportunity.

  This is what Gilbert noted in his newspaper study. After the initial period of threat framing that elicited resource commitment, Gilbert noted that a number of newspaper organizations spun off their online groups to become independently managed, stand-alone profit centers. When this happened, members of the newly independent groups switched their orientation, seeing themselves as involved in an opportunity with significant growth potential. When this happened, quite rapidly those organizations evolved significantly away from being just online replications of the newspaper. They implemented different services, found different suppliers, and earned their revenue from a different set of advertisers than the mainstream paper. Those newspapers that continued to house responsibility for their online effort within the mainstream news organization, in contrast, have continued on the self-destructive course of cannibalism, offering an online newspaper in defense of the core business.

  Gilbert’s recommendations are summarized in figure 4-3. The disruption is best framed as a threat within the resource allocation process in order to garner adequate resources. But once the investment commitment has been made, those engaged in venture building must see only upside opportunity to create new growth. Otherwise, they will find themselves with a dangerous lack of flexibility or commitment.

  An initial decision to fund a disruptive growth business is not the end of the resource allocation process or of the conflict between threat and opportunity framing. For several years in each annual budgeting cycle, the disruptive opportunity will seem insignificant. The way that many corporate entrepreneurs deal with these annual challenges to the value of new-growth ventures is by promising big numbers in the future in exchange for resources in the present. This is suicidal for two reasons. First, the biggest markets whose size can be substantiated are those that exist. The very effort to articulate a convincing case for resources actually forces the entrepreneurs to cram the innovation as a sustaining technology in the existing market. Second, if results fall short of projected numbers, senior managers often conclude that the potential market size is disappointingly small—and they cut resources as a result.

  FIGURE 4 - 3

  How to Garner Resource Commitments and Target Them at Disruptive Growth Opportunities

  How do you deal with the rational need of the executives who manage resource allocation to focus investments where the risk/reward opportunity is most attractive? The answer is not to change the rules of evidence in the resource allocation process, because in successful companies, the well-honed operation of this process is critical to success on the sustaini
ng trajectory. Decisions in that process can be rules based, because the environment is clear.

  But companies that hope to create growth through new-market disruption need another, parallel process into which they can channel potentially disruptive opportunities. Ideas will enter this parallel process only partially formed. Those who manage this process then need to shape them into business plans that conform to the four elements of the pattern noted previously. Executives who allocate resources in this process should approve or kill project budgets based on fit with the pattern, not numerical rules. Fit constitutes a much more reliable predictor of success than do numbers in the uncertain environment of new-market disruption. If a project fits the pattern, executives can approve it with confidence that the initial conditions are conducive to successful growth.8 Ultimate success, of course, depends on aligning all the related actions and decisions that we discuss in later chapters.

  Reaching New-Market Customers Often

  Requires Disruptive Channels

  In the final pages of this chapter, we hope to amplify the fourth element of the pattern of successful new-market disruption: going to market through a disruptive channel. The term channel as it is commonly used in business refers to the wholesale and retail companies that distribute and sell products. We assign a broader meaning to this word, however: A company’s channel includes not just wholesale distributors and retail stores, but any entity that adds value to or creates value around the company’s product as it wends its way toward the hands of the end user. For example, we will consider computer makers such as IBM and Compaq as the channels that Intel’s microprocessors and Microsoft’s operating system use to reach the end-use customer. A physician’s practice is the channel through which many health care products provide the needed care to patients. A company’s salesforce is an important channel through which all products must pass.

  We use this broader definition of channel because there needs to be symmetry of motivation across the entire chain of entities that add value to the product on its way to the end customer. If your product does not help all of these entities do their fundamental job better—which is to move up-market along their own sustaining trajectory toward higher-margin business—then you will struggle to succeed. If your product provides the fuel that entities in the channel need to move toward improved margins, however, then the energy of the channel will help your new venture succeed.

  Disruption causes others to be disinterested in what you are doing. This is exactly what you want with competitors: You want them to ignore you. But offering something that is disruptively unattractive to your customers—which includes all of the downstream entities that compose your channel—spells disaster. Companies in your channel are customers with a job to get done, which is to grow profitably.

  Retailers and Distributors Need to Grow Through Disruption, Too

  Retailers and distributors face competitive economics similar to those of the minimills we described in chapter 2. They need to keep moving up. If they don’t, and just sell the same mix of merchandise against competitors whose costs and business models are similar, margins will erode to the minimum sustainable levels. This need to move up-market is a powerful, persistent disruptive energy in the channel. Harnessing it is crucial to success.

  If a retailer or distributor can carry its business model up-market into higher-margin tiers, the incremental gross margin falls almost directly to the bottom line. Hence, innovating managers should find channels that will see the new product as a fuel to propel the channel up-market. When disruptive products enable the channel to disrupt its competitors, then the innovators harness the energies of the channel in building the disruption.

  When Honda began its disruption of the North American motorcycle market with its small, cheap Super Cub motorized bicycle, the fact that it could not get Harley-Davidson motorcycle dealers to carry Honda products was good news, not bad—because the salespeople in the dealerships always would have been able to make higher commissions by choosing to sell Harleys instead of Hondas. Honda’s business took off when it began to distribute through power equipment and sporting goods retailers, because it gave those retailers a chance to migrate toward higher-margin product lines. In each of the most successful disruptions we have studied, the product and its channel to the customer formed this sort of mutually beneficial relationship.

  This is an important reason why Sony became such a successful disruptor. Discount retailers such as Kmart, which had no after-sale capability to repair vacuum tube–based electronic products, were emerging at the same time as Sony’s disruptive products. Solid-state radios and televisions constituted the fuel that enabled the discounters to disrupt appliance stores. By selecting a channel that had up-market disruptive potential itself, Sony harnessed the energies of its channel to promote and position its products.

  The fuel that a disruptive company provides to its channel will become spent, meaning that getting your products in the channels that stand to benefit the most is a perpetual challenge. This happened to Sony. After the discounters had driven the appliance stores out of the consumer electronics market and the products were being sold by equal-cost discount retailers, margins on those products eroded to subsistence levels. Consumer electronics no longer provided the fuel that the discounters needed to move up-market. Consequently, they de-emphasized electronics, gradually leaving them to be sold in even lower-cost retailers such as Circuit City and Best Buy. The discount department stores had to then look to clothing, which was the next fuel that would enable them to move up and compete against higher-margin retailers again.

  Value-added distributors or resellers face the same motivations as retailers. As an example, Intel and SAP established a joint venture called Pandesic in 1997 to develop and sell a simpler, less-expensive version of SAP’s enterprise resource planning (ERP) software to small and medium-sized businesses—a new-market disruption.9 SAP’s products historically had been targeted at huge enterprises, which would ante up several million dollars to purchase the software, and another $10 million to $200 million to implement it. The sale and implementation of SAP’s products was largely done by its channel partners—implementation consultants such as Accenture, which experienced tremendous growth riding the ERP wave.

  Pandesic’s managers decided to take their lower-priced, easier-to-implement ERP package to market through the same channel partners. But when the IT implementation consultants had to choose whether to spend their time selling huge multimillion-dollar SAP implementation projects to global corporations or selling lower-ticket Pandesic software and straightforward implementation projects to small businesses, how would you expect them to expend their energy? Naturally, they pushed big-ticket SAP product implementations that helped them make the most money given their size and cost structure. There was no energy for Pandesic’s disruptive product in the channel that Pandesic chose, and the venture failed.

  A company’s own salesforce will react the same way, especially if they work on commission. Every day salespeople need to decide which customers to call on, and which they will not call on. When they are with customers, they must decide which products they will promote and sell, and which they will not mention. The fact that they are your own employees doesn’t matter much: Salespeople can only prioritize those things that it makes sense for them to prioritize, given the way they make money. Rarely will people who sell a company’s mainstream products on the sustaining trajectory be successful in pushing the disruptive ones. It is foolish to give them a special financial incentive to push the disruptive products, because that would take their eye off their critical responsibility of selling the most profitable products on the sustaining trajectory. Disruptive products require disruptive channels.

  Customers as Channels

  For materials and components manufacturers, the end-use products constitute an important entity in their channel. In a similar way, service providers who use a product in order to deliver their service are the product’s channel to the end-u
se customer. For example, computer makers such as Compaq and Dell Computer constitute the “channel” by which Intel’s microprocessors reach an important market. The improvements in Intel’s microprocessor have been the fuel propelling makers of desktop machines up-market so that they can continue to compete against higher-cost computer makers such as Sun.

  The same situation exists in service businesses. Just as lower-performing products can take root in simple applications and then get disruptively better, so too technological progress often enables less-skilled service providers to disrupt more highly trained and expensive providers above them. In a way that is analogous to Intel’s relationship with Dell, it is the potentially disruptive service providers that constitute the channel for the companies providing the enabling disruptive technology.

  Let us illustrate the importance of fueling a disruptive channel by visiting health care again. In this industry today, many physicians are in a dogfight similar to that of the steel minimills. They are locked in a price-driven struggle against other physicians’ practices and the companies that reimburse for the cost of care, working ever harder to make attractive income. A major health care equipment company has begun launching a series of disruptive products that will help office-based caregivers to move disruptively upward—to pull into their own practices procedures that historically had to be referred to more expensive outpatient clinics.