In 1994, James Utterback, of the Massachusetts Institute of Technology, drew upon historical data to explain why most breakthrough innovations come from industry outsiders and why many firms fail to maintain industry leadership across generations of technology (1). In 1997, Clayton Christensen of Harvard further dissected the historical paradox that good, established business practices ultimately weaken great firms when they are confronted with disruptive changes in technology (2). In 2000,
Richard Leifer and colleagues at the Renssalaer Polytechnic Institute reported the results of their five-year, real-time study of radical innovation projects at ten major corporations, and diagnosed why most big businesses had been unable to pioneer the new technologies and business models that were coming to dominate personal computing, biotechnology, e-commerce, and wireless communications (3). Finally, in 2001, Richard Foster and Sarah Kaplan of McKinsey & Co. concluded (using a McKinsey statistical database of relative performance of more than 1,000 companies in 15 industries over a 36-year period) that the assumption of continuity of corporations is a myth; long-term corporate survivors are poor performers from the investor's standpoint compared to their newer competitors (4).
What makes startup companies with almost no resources, no global reach, no established brand, etc. consistently better at introducing breakthrough products and/or creating new markets than their large, established competitors? What can an established leader do to adopt the approaches that are apparently so successful for startups?
Patient vs. Impatient Money
The most important force behind this paradox turns out to be the capital market. In a phenomenon that is self-reinforcing, capital markets have taken notice of the apparent advantage of startups in fast-changing markets and have acted in response, increasing the amount of venture capital by a factor of 200 over the past 20 years. Despite the current market conditions, this growth is not expected to slow.
Concurrent with this increase of venture capital, the stock market has shifted toward holding established companies to tight earnings expectations. In other words, investors such as the California Public Employees Retirement System (CalPERS) are increasingly allocating their high-risk money toward venture capital and their low-risk money toward established public companies, while managing their investments accordingly. When investing in public companies, large pension funds want to see Return On Investment in the current year or even the current quarter, while venture funds are willing to wait 10 years. Even if everything else were equal, this alone would shift the discontinuous innovation activity toward the venture-funded startup world.
Rewarding the Agile
With the recent slide of technology and dot-com stocks, it is tempting to think that perhaps this phenomenon is over and spent, and that there will now be a return to some sort of "normalcy." However, we technologists know that this cannot be. The underlying technology forces that, over the last 20 years, have driven the rapid increases in the supply of bandwidth and computer cycles and decreases in unit costs are still intact, or if anything, are accelerating. It is this rapid, technology-driven change that has turned stable markets such as communications into fast-changing markets, and has created the cheap bandwidth and computer cycles upon which whole new industries are being built. And, as we have seen, in both cases the odds favor the startups over the established players.
These continuing technological forces also create an exponentially-expanding supply of computer cycles and bandwidth, which, if not matched to demand, can create economic problems. Hence, we are currently experiencing the problems associated with the supply outstripping the demand. But with sufficient new business creation, the demand will once again match the supply. …