1. Managing Organizational Competence Professor Rebecca Henderson MIT Sloan School of Management Phone: (617) 253-6618, Email: Rhenders@mit.edu, http://www.mit.edu/people/rhenders/home.html

2. A Pause for Reflection: What was the single most important idea you took away from yesterday’s discussion? What was the single most important idea you took away from yesterday’s discussion? How will it be useful to you when you return to work? How will it be useful to you when you return to work?

3. KODAK Evaluate Kodak’s digital imaging strategy to date Evaluate Kodak’s digital imaging strategy to date –“A”? “B+”? “C”? “F”? How would you evaluate the decision to invest in digital imaging: How would you evaluate the decision to invest in digital imaging: –In the 80s? In the 90s? Now? Given that they made the decision to invest, how would you evaluate their execution? Given that they made the decision to invest, how would you evaluate their execution? What should Kodak do next? What should Kodak do next? –Where should they try to play in the digital value chain? –How should they organize their digital efforts?

4. The last of three key questions... How will we Create value? How will we Capture value? How will we Deliver value?

5. Transitions often challenge existing organizations severely

6. But they also create major opportunity Corning glass Corning glass –Cookware to optical fiber HP HP –Instrumentation to computers IBM IBM –Mainframes to PCs to Services Eli Lilly Eli Lilly –“Random” drug discovery to genetics and genomics

7. The Issue How can one manage the core business and real growth simultaneously?

8. Discontinuous Innovation as a strategic problem Genuine uncertainty Genuine uncertainty –It’s not going to happen – certainly not now Cannibalization Cannibalization –It will compete with our current products Shifts in the customer base Shifts in the customer base –Our current customers don’t want it Margin erosion Margin erosion –It will make less money

9. Discontinuous Innovation as an organizational problem Time horizons & Incentives Time horizons & Incentives Fear of (individual) cannibalization Fear of (individual) cannibalization Overload Overload Competency Traps Competency Traps

10. Discontinuous Innovation as a Strategic Problem

11. New S curves may be hard to spot in advance

13. The new opportunity doesn’t meet our current customer’s needs

14. Managing customers at moments of discontinuity Performance Time Who buys a technology when it is first introduced? New technologies sell to: - New customers - With new needs - Often at lower margins

15. The Innovator’s Dilemma: “Disruptive” technologies may threaten established firms Performance Time Established technology Mainstream customer needs Niche customer needs Invasive Technology Clay Christensen: The Innovator’s Dilemma

16. The new opportunity doesn’t offer nearly the same margins and profit opportunity

17. Uniqueness & Complementary Assets over the Life Cycle: Ferment Takeoff Maturity Uniqueness Complementary Assets

18. Discontinuous Innovation as an Organizational Problem

19. Discontinuous Innovation as an organizational problem Time horizons & Incentives Time horizons & Incentives Fear of (individual) cannibalization Fear of (individual) cannibalization Overload Overload Competency Traps Competency Traps

20. Overload: Is This Your Project Pipeline?

21. Performance Gap Pressure to Fix short term problems Pressure to invest in longer term opportunities Time spent in “next generation” projects Time spent Fire fighting Growth projects available - - DELAY - - + + - - No longer term projects initiated + + DELAY Overload can give you “worse before better”

22. Common expectations Average Performance Time Historical performance Anticipated performance Change

23. The reality of “worse before better” Average Performance Time Historical performance Anticipated performance The Reality

24. Competencies evolve over time, creating “competency traps” Performance Time Ferment Takeoff Maturity Discontinuity

25. Change challenges every aspect of the organization Leadership & Strategy Structure & Process Incentives Culture & Mental Models Individuals become Invested in old approaches Strategic/competitive problems may provide an excuse for inertia Existing incentives often work against significant change, and new incentives take time and work Whole scale changes to structure and process are very disruptive: Two years of lost time? Strong cultures & deeply rooted mental models are extraordinarily resistant to change

26. The Problem of Mental Models

27. Mental models & the evolution of knowledge: The Era of Ferment: The Era of Ferment: – A premium on flexible competence: deep integration across functions and boundaries Dominant design established -- enables… Dominant design established -- enables… An Era of Incremental innovation An Era of Incremental innovation – Allows the fragmentation of knowledge – Component knowledge -- knowledge about the pieces – Architectural knowledge -- knowledge about the relationship between the pieces -- about “what everybody else knows”

28. Architectural knowledge becomes embedded in mental models... Information channels Information channels – “If I have a question about customer needs I can always call Fred..” Communication filters Communication filters – “The only thing I need to worry about in this report is Section 8..” Problem solving strategies Problem solving strategies – “The easiest way to increase speed while reducing noise is to...”

29. And in the Deep Structure of the Organization Leadership Formal Structure/Process Incentives/Political Structure Culture/Mental Models

30. Where it is a source of STRENGTH! It allows the organization to get things done! It allows the organization to get things done! – Minimizes “meeting time” – Allows for clear responsibilities – And quick response Embedded architectural knowledge is a key organizational competence Embedded architectural knowledge is a key organizational competence

31. And of weakness: Problems in recognition: Problems in recognition: – Denial Problems in response: Problems in response: – Panic – Overload & the recreation of old solutions

32. Control & Coordination The Organizational Challenge: Entrepreneurial Drive, Freedom from the “old ways” Successful growth unites entrepreneurial insight with effective coordination Startups B as U

33. In summary: “I see”, he said, “you’re suggesting that we invest millions of dollars in a market that may or may not exist but that is certainly smaller than our existing market, to develop a product that customers may or may not want, using a business model that will almost certainly give us lower margins than our existing product lines. You’re warning us that we’ll run into serious organizational problems as we make this investment, and our current business is screaming for resources. Tell me again just why we should make this investment?” “I see”, he said, “you’re suggesting that we invest millions of dollars in a market that may or may not exist but that is certainly smaller than our existing market, to develop a product that customers may or may not want, using a business model that will almost certainly give us lower margins than our existing product lines. You’re warning us that we’ll run into serious organizational problems as we make this investment, and our current business is screaming for resources. Tell me again just why we should make this investment?” - Divisional Manager, Telecommunications Equipment Provider

34. What can be done?

35. Make sure you’ve fixed (or are at least aware of) the strategic problem

36. How will we create and capture value over time? Performance Time Ferment Takeoff Maturity Discontinuity

37. Address the organizational challenges

38. What can be done? Lead: Lead: – Build the “ambidextrous” senior team, communicate the strategy, allocate resources – grapple with “worse before better” Structure: Structure: –Explore transitional and intermediate forms Incent: Incent: – Explain “just what’s in this for me?” Build: Build: –Lay the foundations for a new culture, new expectations

39. What can be done? Lead: Lead: –Develop a clear strategy –Generate energy –Build an “ambidextrous” senior team –Make decisions: deal with worse before better

40. Develop a clear strategy How will we Create value? How will we Capture value? How will we Deliver value?

41. Generate Energy Position the discontinuity as an urgent threat: Position the discontinuity as an urgent threat: –Flirt with bankruptcy –Make vivid the idea that the firm might flirt with bankruptcy Position the discontinuity as an opportunity Position the discontinuity as an opportunity –Generate some small successes: build enthusiasm and “infect” the organization –Leap boldly into the future

42. Build an Ambidextrous Senior Team Ambidextrous senior teams must manage Ambidextrous senior teams must manage –both more mature, operationally focused businesses –and higher growth, emerging businesses High performing senior teams show: High performing senior teams show: –High conflict, high respect decision making capabilities –High levels of trust and truth telling –The ability to manage divergent incentive systems and career paths Coupled with processes that support the divergent management of quite different business units Coupled with processes that support the divergent management of quite different business units –E.g. Resource allocation processes that allow for different time horizons, milestones, rates of return

43. Average Value-Added Time on Engineering Tasks Number of Projects per Engineer 100% 80% 60% 40% 0% 20% 654312 Source: IBM Development Efficiency Study Make Decisions

44. Deal with “worse before better” Average Performance Time Historical performance Anticipated performance The Reality

45. What can be done? Lead: Lead: Structure: Structure: –Implement appropriately –Choose the right people –Manage linkages

46. Control & Coordination Balance entrepreneurial energy and coordination Entrepreneurial Energy Successful disruptive innovation unites entrepreneurial insight with effective coordination Startups B as U

47. Control & Coordination Choose a structure that fits the firm’s strategic positioning and skills Joint venture/ alliance Entrepreneurial Energy Internal venture Build inside existing unit Acquire/ Partner

48. Control & Coordination Manage it using every lever that you have Acquire/ Partner Build inside existing units Joint venture/ alliance ? Entrepreneurial Drive, Freedom from the “old ways” Internal venture Build inside existing unit

49. Exercise: Best Practice in Building Growth Choose one of the alternative organizational forms with which you have some experience: Choose one of the alternative organizational forms with which you have some experience: –Building growth inside an existing unit –Separate division –Spin off –Joint venture –Acquisition In retrospect, what are the critical factors that needed to be in place to make it successful? In retrospect, what are the critical factors that needed to be in place to make it successful?

50. Acquisitions: Pros and Cons Pros Pros –Brings in a new culture with an established set of skills – a “sure bet”? Cons Cons –Is the market efficient? – Will the shareholders of the acquired firm capture all the value? –Should you worry about the winner’s curse? Will you pay too much? –Once acquired, will the new firm simply be assimilated into the existing firm?

51. What can be done? Lead Lead Structure: Structure: Incent Incent –Explain “just what’s in this for me?” –Manage the balance between: Individual outcomes and team/firm outcomesIndividual outcomes and team/firm outcomes “Objective” and “subjective” measures“Objective” and “subjective” measures

52. Control & Coordination The incentive problem is an inherently difficult one… Entrepreneurial Drive, Freedom from the “old ways” Startups B as U

53. Control & Coordination Using “high powered” incentives may reduce coordination Acquire/ Partner Build inside existing units Joint venture/ alliance Entrepreneurial Drive, Freedom from the “old ways” Internal venture Build inside existing unit ?

54. What can be done? Lead Lead Structure Structure Incent Incent Transform the culture: Transform the culture: –Build on core values –Practice thinking in new ways –Manage from the heart

55. Summary

56. Remember what you’re dealing with: “I see”, he said, “you’re suggesting that we invest millions of dollars in a market that may or may not exist but that is certainly smaller than our existing market, to develop a product that customers may or may not want, using a business model that will almost certainly give us lower margins than our existing product lines. You’re warning us that we’ll run into serious organizational problems as we make this investment, and our current business is screaming for resources. Tell me again just why we should make this investment?” “I see”, he said, “you’re suggesting that we invest millions of dollars in a market that may or may not exist but that is certainly smaller than our existing market, to develop a product that customers may or may not want, using a business model that will almost certainly give us lower margins than our existing product lines. You’re warning us that we’ll run into serious organizational problems as we make this investment, and our current business is screaming for resources. Tell me again just why we should make this investment?” - Divisional Manager, Telecommunications Equipment Provider

57. Make sure you’ve fixed (or are at least aware of) the strategic problem

58. Control & Coordination Manage the organizational issues aggressively Acquire Build inside existing units Joint venture/ alliance ? Entrepreneurial Drive, Freedom from the “old ways” Internal venture Build inside existing unit