External Innovation: The Route to Survival for Businesses?

ASAP Webinar,

Posted By Dan Caplinger, Wednesday, April 21, 2021

The current business environment is unlike any we’ve seen before. Amid the ups, downs, and uncertainties of the pandemic, businesses have had to overcome unprecedented challenges to transform themselves even as they continually face the threat of disruption from competitors.

However, for Jonathan Hughes, founder and partner, and Jessica Wadd, partner, at Vantage Partners, those challenges offer an opportunity for forward-thinking, outward-looking companies. As they discussed in their April 1 ASAP Netcast webinar, “External Innovation,” third-party collaboration is increasingly a key source of innovation to help businesses not only survive the current environment but thrive in it.

The webinar focused on three broad topics:

  1. The value of external innovation
  2. When to collaborate with external partners for innovation
  3. How to maximize the value of innovation from partnerships while managing the risks of external collaboration

Looking Outward vs. Looking Inward

Hughes started out by noting that almost two-thirds of the businesses he works with get most or a great deal of their innovation from external sources. That’s a shift from traditional business wisdom, which suggested that companies should innovate from within.

To highlight the limitations of the traditional, go-it-alone view, Hughes offered the example of General Electric, which tried to tap into the high-growth potential of the Industrial Internet of Things (IIoT) with an ambitious strategy and platform of its own. But the “inside-out,” non-customer-focused nature of the effort may have doomed it to failure, he said. With the project having consistently lost money and failed to meet its targets, GE has now sought to divest its digital business and is looking externally for new sources of innovation.

In the webinar, Hughes said, “We want to explore what are the limitations of relying on external capabilities to do breakthrough innovation and what are the benefits of getting outside perspectives and different expertise from companies that focus on things different from us.”

Quicker, Nimbler—and More Profitable

The problem with the legacy in-house approach, as Wadd described it, is that it fails to take customer input into account and involves high sunk costs. By contrast, newer approaches to innovation are quicker to use customers as a resource. Starting small allows businesses to remain nimble, moving on if they don't achieve promising results quickly without losing too much in sunk costs.

Already, companies have made a lot of progress toward embracing external innovation. The percentage of businesses getting most of their innovation from third parties has nearly doubled in the past five years, while the proportion of those getting little or none of their innovation externally has shrunk by nearly half.

Yet Hughes observed a lot more change on the horizon. Almost three-quarters of respondents believe that external innovation will increase by some or a great deal in the coming five years.

“We all believe that the future requires innovation, and more innovation, and innovation at a faster rate, and in order to do that, we will need to engage more with partners,” he said.

Wadd added that companies that get most or a great deal of their innovation externally had nearly triple the revenue growth rate of companies with little or none of their innovation coming from outside—a powerful incentive indeed.

“This connects to how you generate innovation, what innovation looks like, and what it takes,” she said.

One example Wadd mentioned was General Motors, which is catching up in the electric vehicle market through joint ventures (such as with LG) that have paid off in higher stock prices, reduced reliance on hard-to-get raw materials, and a boost in EV sales.

Innovation Fantasy Meets Reality

Wadd pointed to three sources that businesses turn to for external innovation:

  • Attracting people and organizations that already have innovative ideas of their own
  • Actively monitoring innovation “nodes” both inside and outside a company
  • Developing innovative solutions jointly with partners

The first category has typically gotten the most attention, according to Wadd. However, most companies now follow a more balanced approach.

Hughes cautioned businesses not to expect to find ready-made innovations without effort.

“There’s kind of a fantasy around external innovation that somewhere out there, there are these amazing innovative ideas sitting on a shelf in a box with a bow, and we just need to get access to them,” he said. “But overwhelmingly, breakthrough innovation has to be developed.”

Product or Process?

Innovation often centers on products, but Hughes and Wadd both believe that there might actually be more opportunity with innovation geared toward improving internal business processes and business models. An innovative process can boost productivity and reduce costs, while innovation in business models can fundamentally improve the value proposition for customers and increase profits.

In considering whether to look to external third parties, though, Wadd noted that “a lot of organizations find themselves struggling with whether to leverage external innovation or try to pursue it alone because they see risk. So they focus solely on the choice of whether to do it with a third party.”

Rather than simply seeing each strategic collaboration decision as having a yes or no answer, the better approach acknowledges the many possibilities involved in structuring an alliance that will fare far better than taking no action at all. Moreover, as business conditions constantly shift, a systematic approach toward risk analysis is necessary, Wadd said.

Get Smart About Risks: Share Them with Your Partner

In general, Hughes and Wadd have found that most companies have an approach that encourages smart risk-taking. Nobody likes to make mistakes, but “good mistakes” can advance innovation and teach valuable lessons.

When it comes to external innovation, some cultural mindsets are critical. Putting customers first, being willing to fail, embracing diversity, and staying optimistic and confident can create value in a collaboration. In general, the more risk-averse a company is with internal innovation, the more likely it is to turn to external sources.

Wadd and Hughes concluded with a couple of questions from the audience. When asked whether collaboration makes it easier to have a “fast failure” mindset, Wadd noted that sharing expenses can make the sunk-cost trap less difficult to overcome.

Finally, some business leaders see external innovation as a shortcut, but Hughes stressed the need for maintaining realistic expectations.

“Innovation by its nature requires real work,” he said. “There are no shortcuts, but there are ways to manage risk and ways to make it more likely to be successful. Doing it with alliance partners should always be on the table for consideration.”