When Big Firms Are Most Likely to Innovate

When Big Firms Are Most Likely to Innovate

When Big Firms Are Most Likely to Innovate

Large, established companies get a bad rap for failing to be innovative. Conventional wisdom suggests that these firms are less likely to create path-breaking new technologies. Some argue this is because established firms are less likely to pursue radically new ideas—they get complacent or they don’t want to cannibalize their own success. Others claim that established firms may try to innovate, but are too set in their old ways to succeed.

In our research, we argue that it’s neither reluctance to pursue new technologies nor inability to think in new ways that limits established firms from developing new technologies. Rather, it’s when and where they choose to pursue such innovations that may sometimes be the problem. On the one hand, firms are most likely to pursue path-breaking innovation when their technological performance has fallen below their expectations. A firm that’s outcompeting its rivals may see no need to try something radically new; one that’s falling behind may be eager to look for a big breakthrough, especially if its performance is just slightly below expectations, so a big new discovery could push it over the hump.

On the other hand, attempts to develop path-breaking new technologies are most likely to succeed when undertaken from positions of existing strength. Organizations tend to perform better when they have strong capabilities—better scientists and engineers, effective product development processes, and strong brand names—and these advantages are not only likely to persist over time, they are also likely to be helpful even when pursuing more radical inventions. The better you understand the possibilities and limits of the old technology, the better chance you have of combining it with more distant knowledge to develop something really new.

Putting these two arguments together suggests a fundamental mismatch between the pursuit of path-breaking new innovations and their likelihood of success. Firms may be most motivated to go after radical new technologies when they are lagging (slightly) behind expectations, but they are most likely to successfully develop such technologies when they are technology leaders. Thus, firms that eagerly pursue path-breaking new technologies when their performance falls below expectations may be over-invested in looking for the next big thing, while firms that choose to play it safe because their performance far exceeds expectations may be under-invested in trying new things.

Our study explores this dynamic through a massive, long-term dataset of organizational patenting behavior from 1980-1997. Starting with every US patent filed, we look for patents that make truly novel connections—bringing together technology areas that have rarely, if ever, been linked before. For example, if research in power generation hadn’t typically drawn on knowledge about gas separation (largely true before the 1990s), then a new patent using gas separation to innovate in power plants would represent a novel connection. We then look at a) which firms are most likely to introduce such patents, and b) which of these “radical” patents are most likely to have substantial impact, where impact represents a breakthrough patent that is among the 5% most highly cited patents in the same technology class and year (a common, non-commercial measure of patent success).

Our results show strong support for our theory about the mismatch between motivation and ability: firms are most likely to introduce “radical” patents when their prior technological performance has been just below their aspirations, but such patents are most successful when introduced by firms performing substantially above their aspirations. Further, we find that this mismatch is especially pronounced in large, multi-technology firms—the more technological areas you compete in, the more eager you are to try radically new things in areas where you’re falling behind, and the less eager to mess with those technologies that are doing well.

What does all this mean? First, it means that stronger firms need to fight against the biases that sap their motivation to be innovative. This often means building a culture and incentive system where experimentation and even failure are tolerated and encouraged. Since innovation is typically very risky, if failure is seen as a black mark on someone’s record, most employees at successful firms will shy away from innovation and stick with safer, incremental projects. This is what firms like Apple and Google have discovered and done so well — they’ve been willing to take risks and try new things even when they are highly successful, and have found ways to encourage innovation among high performing employees who would otherwise be content to play it safe.

Second, it means that struggling firms need to be very careful. Their inclination may be to take bigger risks, but senior managers need to recognize that such efforts are likely to fail. Going after the next big thing in the hope that it will stem the rot is not a solution; instead, managers need to try and address the lack of key capabilities that caused them to struggle in the first place. Only after they’ve identified and fixed the problems that caused their performance to decline can managers realistically hope to pursue path-breaking new technologies.

Finally, our study suggests that managers may need to revisit how they allocate R&D resources across technology areas. While it may seem reasonable to play it safe in areas where you’re doing well while going for big wins in areas where you’re doing badly and have less to lose, firms would be more likely to develop path-breaking new technologies if they actively shifted resources to the high performing technology areas, while cutting back on search in the areas where they’re struggling.

Overall, our study shows that while large, established firms do actively pursue path-breaking new technologies (accounting for the lion’s share of patents that make radical new connections in our study), they would have more success doing so if they went after such technologies from positions of existing strength, instead of only trying for the next big thing in times (or in areas) where they are starting to fall behind.

“If it ain’t broke, don’t fix it”, the saying goes, but it’s precisely by trying to fix things that aren’t broken that firms can raise their odds of staying ahead. If you wait till it’s broken, it may be too late to fix.

When Big Firms Are Most Likely to Innovate

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