Davenport, Leibold, Voelpel: From Closed to Open Innovation

In the old model of closed innovation, firms adhered to the following philosophy: Successful innovation requires control. In other words, companies must generate their own ideas that they would then develop, manufacture, market, distribute and service themselves. This approach calls for self-reliance: If you want something done right, you’ve got to do it yourself.

For years, the logic of closed innovation was tacitly held to be self-evident as the “right way” to bring new ideas to market and successful companies all played by certain implicit rules. They invested more heavily in internal R&D than their competitors and they hired the best and the brightest (to reap the rewards of the industry’s smartest people). Thanks to such investments, they were able to discover the best and greatest number of ideas, which allowed them to get to market first. This, in turn, enabled them to reap most of the profits, which they protected by aggressively controlling their intellectual property (IP) to prevent competitors from exploiting it. They could then reinvest the profits in conducting more R&D, which then led to additional breakthrough discoveries, creating a virtuous cycle of innovation.

For most of the 20th century, the model worked – and it worked well. Thanks to it, Thomas Edison was able to invent a number of landmark devices, including the phonograph and the electric light bulb, which paved the way for the establishment of General Electric’s famed Global Research Center in Niskayuna, New York. In the chemical industry, companies like DuPont established central research labs to identify and commercialize a stunning variety of new products, such as the synthetic fibers Nylon, Kevlar and Lycra. Bell Labs researchers discovered amazing physical phenomena and harnessed those discoveries to create a host of revolutionary products, including transistors and lasers.

Toward the end of the 20th century, though, a number of factors combined to erode the underpinnings of closed innovation in the United States. Perhaps chief among these factors was the dramatic rise in the number and mobility of knowledge workers, making it increasingly difficult for companies to control their proprietary ideas and expertise. Another important factor was the growing availability of private venture capital, which has helped to finance new firms and their efforts to commercialize ideas that have spilled outside the silos of corporate research labs.

Such factors have wreaked havoc with the virtuous cycle that sustained closed innovation. Now, when breakthroughs occur, the scientists and engineers who made them have an outside option that they previously lacked. If a company that funded a discovery doesn’t pursue it in a timely fashion, the people involved could pursue it on their own – in a startup financed by venture capital. If that fledgling firm were to become successful, it could gain additional financing through a stock offering or it could be acquired at an attractive price. In either case, the successful startup would generally not reinvest in new fundamental discoveries, but instead, like Cisco, it would look outside for another technology to commercialize. Thus, the virtuous cycle of innovation was shattered: The company that originally funded a breakthrough did not profit from the investment, and the firm that did reap the benefits did not reinvest its proceeds to finance the next generation of discoveries.

In this new model of open innovation, firms commercialize external (as well as internal) ideas by deploying outside (as well as in-house) pathways to the market. Specifically, companies can commercialize internal ideas through channels outside of their current businesses in order to generate value for the organization. Some vehicles for accomplishing this include startup companies (which might be financed and staffed with some of the company’s own personnel) and licensing agreements. In addition, ideas can also originate outside the firm’s own labs and be brought inside for commercialization.

In other words, the boundary between a firm and its surrounding environment is more porous, enabling innovation to move easily between the two. At its root, open innovation is based on a landscape of abundant knowledge, which must be used readily if it is to provide value for the company that created it. However, an organization should not restrict the knowledge that it uncovers in its research to its internal market pathways, nor should those internal pathways necessarily be constrained to bringing only the company’s internal knowledge to market. This perspective suggests some very different rules. For example, no longer should a company lock up its IP, but instead it should find ways to profit from others’ use of that technology through licensing agreements, joint ventures and other arrangements.

One major difference between closed and open innovation lies in how companies screen their ideas. In any R&D process, researchers and their managers must separate the bad proposals from the good ones so that they can discard the former while pursuing and commercializing the latter. Both the closed and open models are adept at weeding out “false positives” (that is, bad ideas that initially look promising), but open innovation also incorporates the ability to rescue “false negatives” (projects that initially seem to lack promise but turn out to be surprisingly valuable). A company that is focused too internally – that is, a firm with a closed innovation approach – is prone to miss a number of those opportunities because many will fall outside the organization’s current businesses or will need to be combined with external technologies to unlock their potential. This can be especially painful for corporations that have made substantial long-term investments in research, only to discover later that some of the projects they abandoned had tremendous commercial value.

The classic example is Xerox and its Palo Alto Research Center (PARC). Researchers there developed numerous computer hardware and software technologies – Ethernet and the graphical user interface (GUI) are two such examples. However, these inventions were not viewed as promising businesses for Xerox, which was focused on highspeed copiers and printers. In other words, the technologies were false negatives1 and they languished inside Xerox, only to be commercialized by other companies that, in the process, reaped tremendous benefits. Apple Computer, for instance, exploited the GUI in its Macintosh operating system while Microsoft did the same in its Windows operating system.

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