Why Enterprises Too Often Ignore the Economic Tradeoffs Between Innovation and Optimization

Measuring what matters is essential. But traditional metrics are often designed to evaluate the past rather than anticipate the future.

Successful organizations and their leaders recognize that the measures on which they rely must be upgraded as frequently - or more so - than the processes and systems they are employed to assess. JL

Greg Satell comments in Inc.:

The single-minded pursuit of efficiency can backfire. If you're not careful, you'll end up getting better and better at things that matter less and less. This is especially true with innovation, because anything that's truly new and different can't be evaluated by conventional metrics. "Optimization is about working within an existing framework, while innovation is focused on developing new frames of reference."
For decades, managers have been focused on efficiency. From Frederick Winslow Taylor and his early 20th century Principles of Scientific Management, to more modern practices like Six Sigma, executives continually honed their operations to achieve maximum productivity at minimal cost.
For the most part, this type of approach can be amazingly effective. Even a relatively small improvement of a few percentage points, if repeated annually, can produce amazingly significant results over the long haul. Multiply that process in multiple areas across your business, and you can build a significant competitive advantage.
Yet sometimes, the single-minded pursuit of efficiency can backfire. If you're not careful, you'll end up getting better and better at things that matter less and less. This is especially true with innovation, because anything that's truly new and different can't be evaluated by conventional metrics. We need learn how to manage the tradeoff between efficiency and innovation.

Unleashing The Unexpected

By 2006, we knew we had a problem. Afisha, our entertainment magazine that had previously been the cash cow whose profits powered our company's growth, was now in a steady decline. The Ukrainian ad market had been growing by leaps and bounds, which had attracted stiff competition from international publishers like Hearst and Hachette, and also significantly increased salary costs.
Over the previous two years, I had been revamping the company's operations. From sales and marketing practices to reporting structures and the way we conducted meeting, our operations had been completely overhauled. That made us vastly more efficient and our other divisions were now printing money.
But Afisha was a different kind of problem. The product still led its category and remained a hit with readers, but because of the increased competition from related categories, as well as the increase in operating costs, we were beginning to have trouble earning a profit even though operations had improved just as significantly as in our other businesses.
In the end, what saved us was not a plan, but something unexpected. We launched a number of initiatives, most of which had limited impact. However, one unlikely idea -- an events calendar tied to our loyalty card -- ended up growing into a significant new revenue stream. If we had stuck to "high percentage moves" or "best practices," all would have been lost.
Sometimes, improving your business model isn't the answer and you have to create an entirely new model.

The Efficiency Paradox

When General Stanley McChrystal took over US military operations in Iraq, he had a problem that was very similar to what we had with Afisha. Although he led some of the most capable teams in the world and was winning every battle, his forces were losing the war. It didn't matter how many terrorists his troops killed or captured, more would pop up somewhere else.
As he described in his book, Team of Teams, the problem was that his forces were organized for efficiency, not interoperability. Commando teams would capture valuable intelligence, but it would often sit for weeks in a closet before an analyst would take a look at it. Or an intelligence officer would locate a terrorist, but by the time the information got through the chain of command, he would be long gone.
McChrystal realized that in order to defeat a network, his forces had to become a network. So he took a number of steps that actually decreased the efficiency of individual teams, like embedding top special forces operators in intelligence units and vice versa. Liaison officer positions--previously neglected--were now only given to top performers.
At first, these moves inspired resistance in the ranks -- nobody wants their team impaired -- but as the plan took shape, it became clear that it was working. The individual teams might have slowed down slightly, but the increased interoperability allowed the army as a whole to move much faster, attacking targets almost as soon as they were identified.

Moving Innovation Off of Financial Statements

When Eric Haller, a former senior vice president at Experian, returned to his old company after seven years working in startups, he saw Experian with new eyes. Although the data giant was incredibly efficient, it seemed to him that the company was missing out on important opportunities simply because there wasn't enough historical data to create reliable predictions.
So he convinced the board to create a new unit, called DataLabs, that would be specifically geared to seeking out new opportunities. Stocked with data scientists, it would be focused on solving customers' problems, with little regard for whether there was a quantifiable business opportunity.
"When we set up DataLabs," Haller told me, "we didn't want to create a profit and loss statement for it, because we wanted to take more risks. We knew going in many projects would fail, but we didn't want that to hinder our ability to swing for the fences. It also allows us to explore more options and try more approaches, even things that have never been tried before."
Six years later, DataLabs has become a growth engine for Experian. It has created about a dozen product lines that are generating at least a million dollars of revenue or an average of about two per year. In a $4 billion company, that may not seem like much, but these are completely new opportunities that will grow for years to come.

Innovation Is Exploration

In researching my upcoming book, Mapping Innovation, I found that the most important thing that great innovators do differently is that they are actively seeking out new problems. In other words, they not only continue to hone their existing processes and practices, they go actively look for areas where they can make an impact.
"Optimization is about working within an existing framework, while innovation is focused on developing new frames of reference," says Experian's Eric Haller. That's the tradeoff between optimization and innovation. It's not enough to continually get better at what you already do well, you also need to charge boldly into the unknown.
The truth is that innovation needs exploration. If we had stuck with the "high percentage moves" at Afisha, we would have never developed our events business. If General McChrystal had stuck to existing military doctrine, he would never have prevailed in Iraq. DataLabs doesn't rely on marketing data to create new businesses, because it wants to do things that are completely new.
So if you want to innovate, forget the metrics and focus on your mission. Investigate an unknown area. Go out and find a problem that needs solving. Take a chance on an unproven approach. You will, of course, fail more frequently, but as long as the risks you take are manageable, you open up far more potential for success.