Disruptive Innovation

Outline

• Introduction
• Types of Innovations
• Development Phase of Disruptive Innovation-Literature Review
• Examples of Disruptive Innovation
• MP3 as a Disruptive Technology
• Conclusions
  Disruptive Innovation

Introduction

In order to maintain their competitive edge, product suppliers endeavor to improve their products by improving quality and performance. This includes incorporating new development, adding new models, keeping a watchful eye on their competitors’ products and listening to the expectations of their customers. These sustained innovations maintain and/or expand their market share and improve their profitability.

 Christensen pointed out the existence of another type of innovations which disrupt the existing order by presenting a new technology or by introducing a metamorphosis in providing a service and upsetting the existing providers of services and products, in many cases causing the existing giants to fail or the existing technology to become obsolete [Christensen, 1997]. These innovations are called disruptive innovations. Christensen used the example of steel mini-mills, which instead of using the large blast furnaces being used by steel giants, relied on small electric furnaces to melt iron scrap and initially produced rebar for the construction industry. This was a low profit; low quality end of the market and the steel giants ignored these small-time operators. Gradually as the mini-mills improved their process and product quality, their production cost advantage allowed them to produce structural beams, sheet metal and specialty steels at a cost advantage to take away the market from larger steel mills and resulted in closures of many integrated steel mills worldwide.

[Christensen, 1997] saw disruptive products or services as generally being inferior to the established products which “under perform established products in mainstream markets,–and almost always takes root in a very undemanding application, — and sells for less money”. For example, Digital Equipment and IBM failed to recognize threat posed by personal computers to their business. These novel products or services are often ignored by both competitors and a majority of buyers. The product gradually improves in quality and eventually displaces the large existing producers. The practice of novel products entering the market in the way described by Christensen has always been there but its introduction as disruptive innovation made the business and technology personnel recognize its importance for the very first time.

Disruptive innovations are often not easy to recognize [Chirstensen, 1997]. Most of the new technologies fail and do not acquire the status of disruptive technologies. Recognizing that innovative technologies could become a threat as disruptive technology [Christensen 1997] concept allows major companies to pay attention to these innovations [Leifer et al, 2000]. Companies can invest in these potential technologies to become a stake holder and also consider adopting these innovations in their core area to keep an edge in performance and cost over the new disruptive innovations [Christensen, 1997]. The concept of Innovator’s Dilemma [Christensen, 1997] was later introduced as disruptive innovation by Christensen as Disruptive Innovation [Christenson, 2003]. Disruptive innovations, their types and significance of the concept are the subject of this essay.

Types of Innovations

            Many types of innovations have been suggested. [Doblin, 2006] proposes ten types of innovations for finance, process and offerings as innovation categories.  [TheCiS, 2006] define 3 main types of innovations:

1. Incremental Innovations
2. Radical Innovations and
3. General Purpose Innovations

General Purpose Innovations:

            This term is sometimes used to describe really big innovation that have wide scale uses, complement other technologies and have wide scope of improvements. Technologies such as Internet, electricity, steam power, railways are described as general purpose innovations. In practice these innovations can also be covered under radical and incremental innovations and these two will be considered as the main types of innovation.

Incremental Innovations:

As mentioned in the introduction supplier of existing products introduce minor improvements in their products to attract customers and incorporate newer technology and lessons learnt from the learning curve [Hargadon, 2003]. The product improves only slightly and does not threaten the status quo and represent area of innovation that can safely be predicted. Examples of Incremental innovations include new models of cars, mobile phones and other product, upgrade of software programs. This could be described as the “better mousetrap,” in which an inventor envisions a sea change in something people already use (Schwartz, 2004, p. 20).

Incremental Innovation is improvement in current products, services and processes. Employees working in the organization, development trends of the market, competitor products, customer complaints and suggestions provide the input for incremental innovations and the desire to stay ahead and better than the competing products results in incremental innovation. Most good companies have a policy of incremental innovation but as [Christensen, 1997] points the successful companies having a good share of an existing market product find it difficult to develop an innovation that ‘would threaten the basis of their own success’, that is disruptive innovation.

Radical Innovations:

Incremental evaluations are a normal occurrence but often new technologies or a new service idea that destroys the value and dislodges the present incumbents, and brings a new products or service to the consumer. These innovations are described as radical innovations. Jet engines, compact disc and antibiotics are some examples which radically altered the area of their influence. Disruptive Innovation is thus a radical innovation but they are “different from radical innovations. They have the value-destroying characteristics of radical innovation, but they work much more slowly and methodically through an industry” [Smith, 2006].

Danneels presents a good definition of disruptive technology. According to him, “In my opinion, the core of the definition of a disruptive technology is this: A disruptive technology is a technology that changes the bases of competition by changing the performance metrics along which firms compete [Danneels, 2004].”

Christensen model envisaged disruptive innovations as those which actually provide a worse solution at the start of entering the market. They meet the demand of a small section of low-value market that is not of much interest to the present producers. Thus they do not destroy the existing market leaders rapidly but gradual improvement in disruptive product or service takes away their customers and eventually becomes a real threat or even drive the original incumbent out of the market [Christensen, 1997].

This cycle is often repeated as other disruptive products become available. Thus replacing 8-track player with a higher number of tracks would have been incremental innovation, while a replacement with a walkman was disruptive technology as 8-track player bit the dust. The walkman was soon replaced by CD-player and the CD player was swallowed by MP3 player and now the industry has Apple’s iPOD.  Development of MP3 as a disruptive technology is covered as a case study later in this essay. The disruptive innovations can be divided into two categories:

• Top-down disruptions and
• Bottom-up disruptions

The typical Christensen disruptive innovation is a bottom-up disruption. It start at the bottom of market with low level of an innovative idea or technology and them moves upward as the technology or presentation of the service is refined until it becomes a serious threat to its competitors and even make the original unattractive both in term of technology and costs.

The disruptive innovation as suggested by Christensen has a large share of entrepreneurs. A United Kingdom survey showed that nearly 25% of the innovations were attributable to small enterprises (see figure below). [Tether et al, 1997] argue that until 1984 the trends showed that larger enterprises were contributing a larger proportion of innovations. Tether et al however include both disruptive and incremental innovation in their analysis.

The other types of disruptive innovation do not start at the bottom rung but they start small at the top of the product chain. Thee innovations do not under-perform the existing products but actually outperform the existing product or services. In many cases customers are willing to a premium for a special service and the top-down innovations focus on these price insensitive customers. Wang Laboratories microprocessor based word processor is an example of top-down disruptive innovation. Wang’s microprocessor allowed real file saving, formatting, editing and many other capabilities not available in even the most sophisticated typewriters. The customers were pleased to pay a higher price for this facility. Wang’s word-processing soon failed as victim to Word-star and Microsoft’s Word, which could be considered bottom-up disruptive innovations.

  Another example of top-down innovation is FedEx next day delivery of parcels and packages. FedEx recognized that customers with time sensitive documents and parcels will be willing to pay a premium for a rapid delivery service. The incumbent of parcel and mail delivery services UPS and postal services did not notice this opportunity and FedEx was able to capitalize on this top-down disruption. FedEx success allowed it to expand its urgent delivery services to other areas worldwide.

The top-down approach is less threatening to existing leaders than bottom up disruptions. As the incumbents are well entrenched in the business they can counter the opportunities identified by a top-down business disruption by starting their own services or products. The bottom up disruption is less noticeable in the beginning and is only noted when the damage is done.

Thus we have two main types of innovations; incremental and radical and two type of disruptive innovations; bottom-up and top-down disruptive innovations.  We can now look at Disruptive technology’s operation mechanism in a little more detail.

Development Phase of Disruptive Innovation-Literature Review

Figure-1 shows that a disruptive innovation follows an ‘S-shaped curve’ [TheCiS, 2006].

The early phase has along flat portion where the technology goes through its performance improvement phase. This is the part where the existing market leaders have to analyze if the technology being introduced has the potential of becoming disruptive for their business.  In the middle part of the S-curve, the technology and product hitches have been resolved and the product takes off to challenge the incumbent. In the upper part of the S-Curve, the technology and quality improvement options have been exhausted and the product growth becomes limited providing opportunity for another disruptive innovation [TheCiS, 2006].

A product need can be met by a varied level of quality and price levels. There are always customers who would be willing to meet their low level of performance requirement by buying a product that meets their requirement at a reasonable price. At the other end are very demanding customers who demand high performance and are willing to pay a price for higher quality. There are opportunities at both very high level of quality expectation and low level of quality and price expectations [Smith, 2006].

If these demands are not met by the existing suppliers, entrepreneurs will enter the market to meet unfulfilled demand at both levels. If the suppliers creating a product to meet the low level quality demand succeed in capturing this portion of the market, they can attempt to improve quality of the product to meet the demand of customers who are willing to pay more for a better quality product. This progress due to sustaining technologies is illustrated in Figure-2 [Christensen, 1997]. The line also marks the beginning of new product leaders. As the product improves, it meets the demand of more customers and results in capture of an increasing proportion of the market.

Christensen’s introduction of the term disruptive innovation was a novel idea and it became so popular that everyone began to analyze each product and service in terms of sustained or innovative innovation. The main advantage of this work is the awareness it created for the business executive to pay attention to the new starters to look for innovations that have the potential of disrupting their businesses or products. Not every new alternate product improves sufficiently become a threat to a flourishing product.

[Anthony et al, 2004] proposes a diagnostic procedure for identifying the disruptive potential of a promising product.  This can be helpful for those trying to identify a market for their product. It can also be helpful for existing producers to watch for the new upcoming products as a threat to their business. Anthony et al show how conducting customer, portfolio, and competitor diagnostics can assist in determining the market potential of a new disruptive product. The customer diagnostic identifies if customers of an existing product are being over-served, i.e.  if the existing products are providing facilities not required by the lower end customers. If the existing product has uses that a large number of customers do not make use of, then a simpler and cheaper product has the potential of creating a market for itself. Secondly if there are consumers. Non-consumers of the present products are the next possible target of a product [Bertels, 2006].

This non-use could be because of the complexity or price of the existing product. If these two conditions are met, a cheaper, simpler product perhaps base on new technology has a potential market. “Discount airlines, discount retailers, and index mutual funds all created growth by offering over-served customers “good enough” functionality at lower prices [Anthony et al, 2004]”. Sir Freddy Laker of United Kingdom was able to identify this market to launch first Trans-Atlantic discounted Airline [Taylor, 2006]. The existing air lines took counter steps by launching their own discounted fares to bankrupt Laker Airways. Other more realistically priced discounted airlines continue to operate now.

Portfolio diagnostic is the second part of [Anthony et al, 2004] diagnostic procedure where the innovator appropriately chooses the market he needs to aim his product at. In a number of cases the new product can be aimed at markets that can focus on more than one market segments or instead of starting a promising product as a top-down disruption, choosing a bottom-up approach might be more suited to enter the market. By using this portfolio diagnostic the innovator “can choose the business model that best matches the characteristics of the innovation and the needs of the target customer group”.

The third component, computer diagnostics relates to market analysis of competitor business to assess if the computer is likely to be motivated to counter the disruptive innovation. As [Christensen & Raynor, 2003] point out that disruptive innovations typically take advantage of “asymmetries of motivation” by entering markets that incumbents are motivated to exit or ignore. Incumbents are often pleased to give-up less profitable market to concentrate on products with higher profit-margin.

Innovation management has to become a part of an organization’s integrated approach [Iansiti & West, 1997]. [Tidd et al, 1997] argue that organizations need to take an integrated approach to innovative capabilities, technological paths and market position as a part of organizational process. Success of an innovation management program, considered a learned capability by Tidd et al, requires setting up of process structure and behavior patterns designed to encourage an understanding of innovation strategy that is based on incremental and continuous adjustment in the light of new knowledge and learning.  [Innovation, 2006] also agrees with the need to follow a proven innovation methodology. “Companies that innovate successfully do so using an efficient and repeatable methodology. Success is not dependent upon genius – it emerges from the disciplined application of a proven innovation methodology”.

Christensen concept of disruptive innovation has been so successful and appreciated[1] that criticizing the idea of disruptive innovation [Wolpert, 2002] looks like swimming against the tide. [Tellis, 2006] however points out that for an incumbent successful in the present market, watching out for disruptive innovation is not as important as Christensen proposes. Visionary leadership of the company where it is willing to ‘cannibalize’ the present assets to serve customers with new technologies is important.

The concept of organizational competence, strategic orientation and customer orientation along with the willingness to modernize are what makes or breaks an incumbent. [Tellis, 2006] claim that, “Our findings on technological change challenge unqualified faith in law-like generalizations such as the S-curve of technological evolution. In contrast to that theory, we found that technologies do not evolve along S-curves, do not cross in performance only once, and do not always start below and end above the prior technology’s level of performance. Rather, performance paths of rival technologies follow irregular step functions, may never intersect, or may intersect multiple times. All these results have important implications for strategy.”

[Dvorak, 2004] takes serious exception to the concept of disruptive technology; He contended that in Christensen’s list of disruptive innovation, not one can be regarded as disruptive. He argues that “James Burke’s marvelous PBS TV series ‘Connections’ offers a better explanation for disruption [Burke, 1995]. When there is true disruption, it comes from inventions, regulatory and social change, complementary technologies, coincidence, and demand”.

Dvorak’s style of challenging the theory of disruptive technology is far from satisfactory but the points made are worth considering and similar in argument to [Tellis, 2006]. He argues that many of the factors such as IBM’s management competence and “There is no such thing as a disruptive technology. There are inventions and new ideas, many of which fail while others succeed. That’s it.”

                                             Examples of Disruptive Innovations

When a new disruptive innovation arrives it mostly follows a bottom-up development process, but as mentioned above some innovations begin their journey to take the product market by starting out as a top-down disruptive innovation to influence the market of that product until they displace the existing technology or be displaced themselves by another innovation. In the following tabular presentation some examples of disruptive innovation are presented showing the product the disruptive product or service replaced and why it proved to be a successful disruption.

MP3 as a Disruptive Technology

The development path of MP3 is a good example of disruptive innovation. The music scene had been used to the record player and LP when the high quality magnetic tapes and cassettes captured the market with the disruptive innovation of that time. The cassette technology was soon replaced with much higher quality Compact Disk.  Sony became a major music supplier based on CD music.  In 1987 Fraunhofer Institut, Germany started the foundation of this disruptive innovation by starting research on digital audio broadcasting (DAB) research.

By 1989 Fraunhofer had a patent for MP3 technology [Bellis, 2006]. The Motion Picture Expert Group (MPEG) established as a subgroup of International Standard Organization (ISO) helped in creating a standard for audio and video digitization. MP3 is the MPEG-1’s Audio Layer3 (abbreviated as MP3). MP3 allowed the audio file to be compressed into a very small file without sacrificing the quality. A 33 MB CD song could be compressed to 3 MB in MP3 format [EZ Tracks, 2006]. The success of MP3 format came from its qualities namely [EZ Tracks, 2006]:

• The music can be downloaded in minutes instead of previous downloads lasting hours.
• MP3 recording format allows recording conversion of songs into an MP3 file.
• MP3 files can be downloaded from a variety of sources.
• Large number of songs inMP3 format can be saved on a single CD
• Songs can be downloaded into iPods, MP3, and other portable players [Pentilla, 2005].

MP3 Technology Disrupts Many Businesses

The digital audio technology has been around for many years but the new technology of condensing files into a fraction of previous versions in size has opened the way to disruption of many other businesses. Peer to Peer (P2P), sharing has only been successful as the music files can now be downloaded in minutes or less instead of hours. P2P sharing of MP3 based music files threatened the existence of music industry and raised copyright issues. The legal aspects of P2P sharing will be eventually resolved to compensate the copyright owners and the MP3 technology will be legally able to change the face of music marketing. Podcasts [Podcasts, 2006], another innovation also uses the MP3 format to transmit files for live listening on Internet or as downloads for mobile MP3 players such as iPods.

MP3 has already found use in marketing of songs by small and new music artists. The availability of MP3 format for sending music files over the Internet is threatening the recording companies’ business, as new artists do not have to be discovered and marketed by famous labels anymore.

MP3 as a disruptive innovation has already opened opportunities in audio marketing of all kinds. As in the case of al disruptive innovations, MP3 is developing continuously and benefiting from development in other technologies such as widespread availability of high speed Internet.  It is opening new avenues in the area of training, publication of audio books and promotion of on-line audio libraries. MP3 has proved to be a good example of disruptive innovation. Now that it has come out of the lower flat portion of S-Curve (Figure-1 above), it is progressing rapidly to threaten the incumbents of existing technology products in this area.

As in the case of all technologies, MP3 will continue to follow this curve and eventually be replaced by new technologies that are more powerful. Advanced Audio Coding from the inventors of MPEG-3 Layer (MP3) is already promising to do that [Brandenburg, 2000].

Like the Christensen’s model of disruptive technology, Sony the market leader in portable CD player’s technology ignored the MP3 music technology while Apple’s iPod was able to capitalize on the demand of compact MP3 player.

Apple entered the market top-down with an expensive $400 iPod [Carr, 2005], Cheap availability of flash memory disks and expanded market has allowed iPod to take the bulk share of portable music market and now customers can buy cheaper iPods at around $100 with low price music storage flash drive it is now possible to carry hundreds or thousands of songs with them. MP3 format expansion to take over the music market has lived up to the theory of disruptive innovation.

Conclusions

Christensen concept of disruptive innovation has widely been accepted as a powerful mechanism of entrance of entrepreneurs in an unassuming part of business line of an existing demand of service or product. The disruptive product starts apparently without posing a threat to the market leaders and is often ignored by the major suppliers. The disruptive innovation is often welcomed by the major suppliers as they can allow the small producers to take the low profit end of the market while they can concentrate on the more lucrative profit- making end of the market. Gradually the not so threatening product develops into a major challenge often taking over the market and driving the incumbent out of business. There are many good examples of disruptive innovation.

MP3 has proved to be a good example of disruptive innovation as visualized by Christensen. When it started, it appeared just an attempt to create software for computer use for listening to music in various formats. Established company like Sony thought it to be just an extension of computer software development and continued with its CD sales. When MP3 entered the market, it was record time for CD sales and Sony was so engrossed in focusing on CD market that it missed this disruptive technology, after all digital music had been available for a longtime. Apple recognized the potential of condensed music files made possible by MP3 format and designed and introduced its iPod. Apple entered the market with iPod and gradually took over 80% of the portable music market with its iPoDs and flash memory based iPod Shuffle. This is how Christensen saw a disruptive innovation taking over the market from incumbent.

MP3 has found application in music marketing through the Internet and created new opportunities for music artists, threatening the recording industry and music labels monopoly on introducing new talents. MP3’s compact audio ability with high fidelity is also finding use in all businesses where transmission of good quality sound is important.

MP3 has proved to be a good example of disruptive innovation as its path to success has mirrored the disruptive innovation image advanced by Christensen. It is following the Christensen S-Curve development path, and no doubt, one day will be threatened by other disruptive innovations.

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[1] For example, a search of the term disruptive innovation yields over 150,000 thousand entries on Google, much higher than for rival terms such as radical innovation (58,000) or architectural innovation (16,000) or competence-destroying innovation (55). Danneels (2004) reported that Christensen’s book has sold over 200,000 copies. These are impressive statistics for any theory or concept in strategy. Thus, it is with some hesitation that I attempt to comment on this thesis or to suggest an alternative. [Tellis, 2006]