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The Challenge of Managing Innovation and the Core Business

Three leadership principles turn inherent conflicts into long-term growth.

(originally published by Booz & Company)

Title: Embracing Paradox

Authors: Michael L. Tushman (Harvard Business School), Wendy K. Smith (University of Delaware), and Andy Binns (Change Logic LLC)

Publisher: Harvard Working Paper No. 11-110

Date Published: May 2011

In the fall of 2008, as the scope of the economic crisis was becoming clear, the CEO of Misys PLC, a software and services company focused on healthcare and the financial sector, was facing a quandary: The business was under pressure, and an expensive new initiative to develop an open source system for healthcare software was not yet producing profits. Viewing the new system as a diversion and a drain on cash, senior executives recommended that it be sold and the firm’s US$3 million annual investment in the initiative be diverted to other projects.

The CEO balked, however. Because the system was a key part of his long-term plans for the company, he not only maintained funding, but separated the new business from the core healthcare unit, thus allowing it to compete against the unit’s existing software. To be sure, this competition created tension around the leadership table. Now, every strategic issue involved a give-and-take between the immediate returns of the core business and the more distant gains of the open source system. And fears among senior executives that the new system could be a threat to the existing software business proved well-founded: The initiative’s managers started beating out managers of the core unit for contracts.

Nonetheless, the CEO’s decision to foster competitive tension among his senior executives proved successful. As the open source system took off, revenues in the core business also grew, by more than 30 percent in 2009. Now that the new system has triggered innovation in the company’s financial-services operation as well, senior executives no longer see it as a distracting drain on resources but rather as a high-stakes experiment to secure the company’s future. In June 2009, the executive heading the open source division received an unusual gift from his colleagues: an inflatable shark, indicating he had earned the right to swim with the other big fish at the table.

The lesson of this story — and the main point that the authors of this paper make — is that firms thrive only when senior teams lead paradoxically, by embracing the tension between established and new projects to maintain a state of constant creative conflict at the highest levels of the organization. (See “Jack’s Right Fight,” by Saj-nicole Joni and Damon Beyer, s+b, Spring 2010.)

The researchers conducted in-depth studies of top management teams at Misys and 11 other companies, including Cray Inc., Hewlett-Packard, IBM, LexisNexis, and Zensar Technologies, looking in particular for the factors that distinguished successful from unsuccessful initiatives undertaken by those teams. Their interviews and observations led the authors to articulate three basic leadership principles. These were all present when firms succeeded in boosting profits and market share.

Principle #1: Develop an overarching identity. A broad sense of identity makes a company more resilient and adaptive. That’s because it gives the company permission, the authors say, to pursue paradoxical strategies that set ambitious benchmarks for both the development of innovation and the growth of core businesses. For example, in the late 1990s, Polaroid developed the most advanced digital camera of its time. But the company was wed to its identity as a seller of film, the authors say, “and could not see why consumers would want a camera without a hard copy image.” In staying committed to film, Polaroid wound up on a course that took it to bankruptcy court. By contrast, Kodak, calling itself “the leading imaging company,” had a self-identity that allowed it to adapt to the technology shift. (A reorganized Polaroid now sells digital cameras.) The researchers also point to the Ball Company and its goal to be the “world’s best container company” — for more than 100 years, that overarching identity sparked innovation, as containers shifted from wooden buckets and glass jars to metal cans and plastic bottles.

Principle #2: Hold tension at the top. Successful firms explicitly choose to maintain tension between innovation and core business demands at the highest levels of the company. Otherwise, major decisions about a company’s future are liable to be resolved along parochial lines within individual business units. The researchers identified two “equally successful” ways to ensure that key decisions are made at the top level.

Under the “hub and spoke” approach, the CEO essentially sits at the center of a wheel surrounded by business units, managing each unit separately, often with the assistance of a very small inner circle of senior executives. The semiconductor company Analog Devices has thrived for more than 40 years using this approach, becoming a leader in one chip product after another. While managers of individual units are left to focus on their own products, the CEO and COO make the major decisions about new directions to take. The CEO has even had a soundproof room built for heated discussions with his second-in-command — this is where tensions between what the researchers term exploitative and exploratory initiatives are resolved.

The other approach is a “ring-team” model, in which decisions are made collectively by the senior team, including leaders of the business units. The researchers point to the example of Cray Inc., a company whose legendary supercomputers were performance leaders during the first era of the IT industry, in the 1970s and ’80s. As processing power became a commodity and Cray’s market shrank, a new CEO, Peter Ungaro, and his senior team adopted an overarching identity that shifted the firm’s focus to technology problem solving. The next step was to create a business unit to apply the company’s expertise to solving complex IT problems for specialized businesses. Ungaro’s challenge was to persuade his leaders to make the switch, which would hurt the company’s financial performance in the short term before it paid off. As Ungaro told the researchers: “We had to convince ourselves that spending 50 percent of our time on something that is delivering 5 percent of the company’s revenues was worth the effort.” The move paid off: In 2010, Cray had record revenues of $319.4 million and posted a profit of $15.1 million.

Principle #3: Embrace Inconsistency. Finally, successful companies need to handle multiple and often conflicting agendas. One trap that firms often fall into is holding innovation units to the performance measures of core businesses. Instead, managers should apply different standards to core and innovation units, demanding profit and austerity for some, urging experimentation in others. The key is to look at each unit separately, to see where it is in its growth cycle. This can occasionally make the company’s strategy seem incoherent, because different sections of the business are focusing on different metrics and time horizons. The researchers conclude, however, that “too much consistency in a company’s strategy is a danger signal, indicating that the company has run out of ideas or that it is delegating innovation to lower organizational levels.”

Bottom Line:
The most successful leaders encourage their senior teams to move away from protecting the interests of their individual business units and instead embrace the tension of backing new initiatives. The key to high performance over time is pursuing paradoxical objectives, simultaneously exploring new horizons and exploiting already established markets.

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