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5: Why Companies Invest in Design Innovation

The traditional basis for business decisions is a cost-benefit analysis, in which the cost of doing something is compared to the revenue to be generated by doing it. If it costs more than it earns, it is wasteful; but even if it earns more than it costs, it must compete with other proposals and firms generally select based on a simple accounting comparison: those that have the greatest return on investment are the first funded. Unfortunately, it is difficult to quantify the benefit of design, so design-driven innovations often fall below the line.

Innovation is also difficult to quantify - if an idea is truly new, there is no historical data to justify it. When imitating a competitor, one can discover their results (a 20% increase in sales, for example) and use that as a basis for projecting the revenue of doing the same thing. But when an idea is truly different and no-one has done it before, there is no data to support the claim that revenues will increase by a given amount.

But more significantly, financial analysis is a tool by which companies bury good ideas without admitting to fear of the unknown. If a designer cannot monetize the value of an innovation, then it is said that it doesn't make financial sense. Even if a designer monetizes the value, the opponents will pick apart the equations and underlying assumptions - anything to discredit and disqualify the idea in favor of maintaining the status quo.

The author asserts that highly innovative companies don't require design innovation to prove its worth in dollars and cents. They have an intuitive understanding that a well-designed product will outperform a poorly designed one. And even if they cannot quantify exactly how much, they pursue a good idea simply because it is a good idea. Because it has potential, in spite of the risk. It is not that they throw caution to the wind in pursuit of wild ideas, but neither do they throw good ideas to the trash in pursuit of stable and reliable financial performance.

The Value of Design Innovation

An innovative product is like any other new product offering: there is a risk that the market will not accept it and that the investment will have no return at all. The only reason that a new product will sink a firm is if they over-invested, which can happen with any change (even an efficiency improvement). In such instances, it is not the innovation that sunk the company, but the financial decision to make an all-or-nothing bet on a single product. But on the other hand, look what happens when an innovative idea succeeds:

First of all, highly innovative products become major sources of profit. They are radically different from competing products and are regarded as unique - such that if there is an interest in the product, it is focused exclusively on the brand because no competitor makes anything similar. Products such as the Wii, Swatch, and iPod take the market by storm, commanding huge market shares, huge profits, and leaving competitors in the dust. In essence, it holds a monopoly on an entirely new product, because competitors' offerings are considered to be entirely different (and commoditized) as well as a huge first-mover advantage.

Second, the success of an innovative product boosts the reputation of the brand, which translates into many benefits for the firm, such as increased sales of other products, channel power, attracting more talented workers, increased interest from investors, and the like. In many instances, the creation of a highly innovative product earns a company forgiveness for its shortcomings and past transgressions, as attention is focused for the moment on the firm's genius idea. Additionally, the success of one new product makes the market amenable to additional new products under the same brand.

Verganti returns again to Apple, whose iPod music player took the market by storm and established the firm as a design leader in personal electronics. It is because of the iPod that the company's iPhone and iPad products were in such frantic demand. And it is also because of the iPod that the company's desktop and laptop computers, which lagged competitors, experienced a resurgence in demand.

Third, the company benefits from building the culture and infrastructure to support further innovation. The people and departments involved in the creation of a new product do not return to business as usual, but instead become an internal "think tank" that can pursue other new ideas, and which has earned significant status within the organization to gain support and acceptable for its future ideas.

He then switches channels to talk about the cost of design innovation - which is much less than assumed. It is not necessary to create a separate design department or research lab, but to leverage the knowledge of existing workers, who likely already have many ideas from their first-hand experience with the shortcomings of the existing products, but who are often reluctant to challenge the status quo by proposing a new and different idea.

Design innovation is very inexpensive, as demonstrated by the number of small start-up firms whose entire business model is pursuing innovation. But on the other hand, delivering any innovation to the market requires considerable effort, which is the reason many small start-up firms are consumed by larger companies that buy them out to have access to ideas that the start-up lacks the resources to deliver.

Product Longevity

The author mentions that not all products need to innovate. He cites a personal example of driving the same model of car for over twenty years because the vehicle met his needs. There are also many staple products, such as salt or soap, that serve a simple purpose and don't need to invest in innovation. This is not to say that these products do not evolve over time, but it tends to be incremental improvements that are made over a long period of time rather than rapid and dramatic innovation.

At the same time, we must be cautious of complacency. So long as a product sells well, it is assumed that the market is happy with the way things are - but this may simply be because they can only choose among the options that suppliers provide to the market, and no supplier has stepped out of line wit hthe rest to offer something distinctive.

He also notes that a dramatic change isn't necessarily the harbinger of a period of turbulence. In fact, a dramatic innovation often creates a product that is sustainable for a long period of time. Back to Apple, the iPod is now more than fifteen years old and the iPhone is nearly ten - both products remain in high demand and have not significantly evolved since the first product generation. A company that releases an innovation that moves the market forward isn't generally leapfrogged by a competitor, as the competition is struggling just to catch up.

The author looks again at the automotive industry, where it can be seen that many of the most popular vehicles today were first released decades ago and many discontinued models are later reborn. They have the same basic format and features as the original, though the peripheral technology has been upgraded over time. He seems stuck on the Fiat Panda, an Italian model that lasted for 23 years (EN: but looking at the American market, the Ford Mustang has been in the market for 50 years, the Chevrolet Corvette for 60, and the Volkswagen Beetle nearly 80). It is not merely the leap forward in technology that gives great innovations their longevity, but the leap forward in meaning. The most highly innovative products make such a strong impression on the market that they are regarded as icons or classics, and generally persevere longer and perform better than the cheaper imitations that follow.

The Challenges of Design Innovation

While the benefits of innovation can be significant, many companies make a conscious decision not to pursue it, but instead to simply wait for the market to endorse a competitor's innovation, at which time they recognize it as safe to pursue. They recognize that this means they lack competitive advantage, but sense that by avoiding the risk and expense, they can succeed by offering imitations of others, generally selling to the low end of the market who cannot afford the innovative product.

Consider the fashion industry: the high-end designers take a great risk and sell a few garments to the upper end of the market, department stores make cheaper knock-offs of haute couture outfits, and discount stores make even cheaper versions for the low end of the market. The customers at the lower ends of the market are not on the leading edge of fashion, and do not care to be: they want a "style" to be proven by others before they adopt it for themselves.

Most companies do not ask the right questions. They ask "what makes a good product?" but not "what is the main reason people buy this product at all?" and therefore they overlook innovative solutions because they are fixated on the current solution to the customer's problem rather than considering whether there might be a better way to solve that problem that would involve an entirely different product. It is for this reason that their products evolve slowly and over long periods of time, as they make existing products better rather than discovering new products. It's simply less risky.

Innovation requires tolerance for failure. He mentions one CEO who takes the success of its products as a barometer for innovation ... when all new products are successful, the company has been too conservative and needs to be bolder in order to stay ahead of competitors and is settling into a position where obsolescence is inevitable. Failure is a sign that the firm is moving in a direction that confuses the market - it is being too innovative. The sweet spot is between the two extremes, where enough products succeed to pay for the failures and return a sufficient profit.