Reinhard Moebius, Volker Staack
July 29, 2015
In a global economy characterized by growing competition, even market leaders struggle to achieve target growth rates through innovation. As cost pressures increase, companies have begun spending less on incremental innovation (modest advances to existing products and services) and allocating more of their declining research and development budgets to breakthrough innovation (bolder moves to develop radically different products and services). However, breakthrough innovation carries substantial risks. As a result, companies require a unique set of capabilities — which we refer to as strategic product value management — to manage these risks, reduce product costs, drive growth, and expand margins.
Strategic product value management uses commercial and design levers to provide the discipline and methodology required to manage risks during product development. It adds significant value early in the process, particularly through two aspects: design to value (DTV) and design to cost (DTC). Design to value entails analyzing what customers need in terms of features, efficacy, or other attributes (i.e., the value proposition of a particular product, including pricing). Design to cost, by contrast, entails analyzing all costs of a particular product and developing rigorous models to reduce those costs at every possible juncture.
Many companies currently apply some form of DTV or DTC, yet they typically use one or the other, and in isolation. We believe the biggest opportunity to reduce costs, drive growth, expand margins, and manage risks is to apply both approaches in parallel early in the product development process. In addition, these methods need to be applied repeatedly at each design iteration — not just during initial development but throughout the product life cycle — so that the cost and pricing models become more refined and accurate over time.
In virtually all industries, smart companies seek to grow organically through innovation. But many are simply not good at it. Each year for the past decade, Strategy& has conducted a systematic study of innovation at multinational companies. A core finding of that research — across 10,000 statistical analyses — is that there is almost no correlation between an organization’s R&D spending and its financial performance. (See Barry Jaruzelski, Volker Staack, and Brad Goehle, “The Global Innovation 1000: Proven Paths to Innovation Success,” strategy+business, Winter 2014.)
Our research breaks innovation down into three principal models:
Although all three models can work, our research indicates that the need seeker model is the most consistently successful. In our 10-year analysis, need seekers are more likely to show stronger financial performance than their competitors, and they are more likely to align their innovation strategy with their overall business strategy.
More broadly, the challenge of successful innovation and new product development is becoming more difficult. Companies are now spending a smaller amount on incremental innovation as a percentage of overall revenue, and shifting a greater percentage of that investment to breakthrough ideas. They are essentially making bigger bets in order to give themselves a true competitive edge. Although such moves have the potential for larger payoffs, they also entail correspondingly larger risks.
These market dynamics are not going away. Innovation is an ongoing imperative, and as companies make increasingly large bets on breakthrough innovation, the risks will only grow. To meet this challenge, companies need to effectively manage the inherent risks — ideally as early as possible in the development process for products and services. At first glance, risk management may seem to run counter to the idea of breakthrough innovation, because innovators should theoretically be freed from any constraints and allowed to dream big. In fact, however, the opposite is true. The ability to effectively manage risks has a direct correlation with a company’s innovation success. It keeps the innovators focused on aligning their product or service with the customer’s true needs, rather than just innovation for its own sake. In this way, risk management is akin to guardrails that establish the true boundaries for innovation and ensure that the resulting products or services link to the organization’s overall strategy and fulfill their mandate of creating value for customers.
Whether in new ventures or in a corporate setting, what drives innovation forward is the ability to identify, prioritize, and systematically manage risks. The strategic product value management process provides a robust framework to manage risks throughout the innovation process along the product life cycle. Success requires developing three capabilities: an organizational structure that supports DTV and DTC; robust analytics to understand customer demand and price sensitivity as well as product cost drivers; and a cross-functional approach.
Implemented correctly, this methodology does not limit creativity, but rather puts in place a structure that helps companies focus on the innovations that promise the highest return on investment.