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strategy and business
 / Summer 2006 / Issue 43(originally published by Booz & Company)


Recent Research

The alternative mental model identified by the authors is the profit-arithmetic (PA) approach, driven by short-term profitability. The exemplar is Chihiro Kanagawa, the current CEO of Shin-Etsu Chemical Company. Mr. Kanagawa is focused solely on identifying those operations and activities that will generate profits. He is concerned with day-to-day operations — controlling costs and prioritizing projects — rather than with long-term design.

Under Mr. Kanagawa, Shin-Etsu competes only in markets where it ranks high. For example, it is number one in the world in vinyl chloride; number two in optical fiber materials; and number three in silicone resins. Mr. Kanagawa also steers clear of businesses he doesn’t understand. This has allowed him to avoid making some big mistakes. At the height of the Japanese property bubble in the early 1990s, for instance, he rejected a proposal to build and manage a hotel in Takefu in Fukui Prefecture. Shin-Etsu had no experience in lodging, so the hotel would have been second-rate at best — and not worth being involved in, Mr. Kanagawa believed. He later calculated that the company would have lost up to $250 million on the deal.

Which of the two approaches — PIF or PA — works best? That depends on the industry, the authors say. Sectors in which the pace of technological change is very rapid, such as consumer electronics, favor PIF, with its long-term outlook and substantial investment in R&D. But in sectors in which technology changes more slowly and products are easily commoditized, such as chemicals, the PA approach is more effective.

The study also offers implications for CEO succession from within the firm. Identifying an internal chief executive candidate who shares the current CEO’s PIF mental model is likely to be simpler than finding someone with the extraordinary, nuts-and-bolts business acumen required of a PA leader. “Though more abstract and conceptual,” the authors write, “the PIF approach can be better codified and made explicit, and accordingly, it could be easier to find a successor inside the firm.”

When Innovation Fails
Nicolaj Siggelkow ([email protected]) and Jan W. Rivkin ([email protected]), “When Exploration Backfires: Unintended Consequences of Multi-Level Organizational Search.” Click here. 

In 1999, the appliance maker Whirlpool announced an initiative to generate innovation “from everywhere and everyone” in the company. Faced with a stagnant market, Whirlpool managers wanted fresh ideas from the company’s 68,000 employees. They got them. Before long there were a host of pilot projects covering innovations as diverse as a line of exercise devices, a household maid service, and modular equipment for tailgate parties. Few employees came up with anything related to the company’s core business. Before long, the company’s executive committee started to rein in the more far-fetched ideas. Later, the CEO restricted projects even further, to existing brands.

Whirlpool’s troubling experience with innovation highlights a phenomenon confirmed in research by Nicolaj Siggelkow, associate professor of management at the Wharton School of Business, and Jan W. Rivkin, associate professor of strategy at Harvard Business School. Simply put, encouraging workers throughout an organization to innovate can backfire. “Greater low-level exploration can suppress firm-level exploration and performance,” conclude the authors.

This does not mean that canvassing employees for innovative inspiration is altogether a bad idea, but it needs to be practiced with a number of caveats. Rather than ask themselves, “Does decentralization boost innovation?” companies should ask, “When does decentralization boost innovation?” The more closely the innovative ideas are related to the manager’s area of expertise, the more likely it is that the innovations will be useful.

The innovation process can be further improved if the organization ensures that department heads are not screening out good ideas for parochial reasons. Too often, lower-level supervisors will champion only concepts that fit the agenda they have been promoting. As a result, these managers increase corporate inertia rather than aid innovation. To change this pattern, the authors say, companies should give department managers incentives to prove that they have taken organization-wide considerations into account when evaluating the innovation ideas of their employees.

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