The Innovator's Dilemma

"Good management was the most powerful reason they failed to stay atop their industries."

— Clayton Christensen

Christensen was a professor at Harvard Business School and had been an entrepreneur before that. His question was uncomfortable: why do well-run companies, which listen to their customers and invest in technology, lose their leadership to smaller competitors? To answer it he studied the disk-drive industry in depth, where generations changed every few years, and confirmed the pattern in industries as different as excavation and steel.

The central distinction is between two kinds of innovation:

• Sustaining innovation. It improves the product in what the best customers already value: more capacity, more speed, more performance. Here the leader almost always wins, because it has the resources and the customers.
• Disruptive innovation. It arrives with a product that is worse in what the mainstream market values, but simpler, cheaper or more convenient. It is first adopted by a small or low-margin market, and over the years it improves until it reaches the mainstream customer.

Disk drives illustrate the pattern. Each new generation, from 14 to 8 inches, then to 5.25 and 3.5 (and today flash memory, like USB drives), was ignored by the leaders of the previous generation, because their customers didn't want it. Mainframe makers didn't need small drives; the new computers did, and they were still a minor market. When those computers grew, the leaders had already missed the wave.

The counterintuitive part is that the leader ignores the disruption for good reasons:

• Customers control the resources. The company allocates money to what its best customers ask for, and they don't ask for the disruptive product.
• Small markets don't solve the growth needs of a large company. A ten-million business doesn't move the needle at a billion-dollar company.
• Margins push upmarket. It's more profitable to chase the demanding customer than to go down to a low-margin segment.
• Technology advances faster than the market needs. A point arrives where the leader's product offers more than the customer uses, and the disruptive product is already good enough.

The solution Christensen proposes is organizational, not technological. If an established company wants to take advantage of a disruption, it must create an independent organization, sized to match the new market, with its own cost structure and the freedom to make money at margins and volumes the parent would scorn. Putting disruptive innovation inside the main operation almost guarantees that existing processes and priorities will smother it.

How to apply it? If you are the incumbent, identify which simpler, cheaper product is growing at the low end of your market, and assign it a separate team with its own goals. If you are the entrant, which is the normal case for a startup, look precisely for the segment the leader considers unattractive, because that's where it won't defend itself.

As a founder it will serve you on both sides of the story: when starting out, to enter where the big players don't want to compete, and when your company grows, to avoid becoming the leader who stops seeing what's growing below the radar.