Benefits and costs of being open for innovation

Benefits and costs of being
open for innovation
Keld Laursen
Department of Innovation and Organizational
Economics, CBS
kl.ino@cbs.dk
Lecture, Haas School of Business, University of
California, Berkeley, 27 February, 2012, 2-3pm.

About me
• MSc, 1994, SPRU, University of Sussex, UK.
• PhD, 1998, Aalborg University, Denmark.
• Professor at Copenhagen Business School (CBS).
• Have been working on Open Innovation Issues
since 2002/2003 (a very early follower with Ammon
Salter! ).
• I’m the co-author of the most cited academic paper
on Open Innovation (Laursen & Salter, SMJ
2006)—but not the most cited publication! (which
is, btw, a book…).
• Is the director a research group at CBS:
Copenhagen Research Unit on open Innovation
Search & Entrepreneurship (CRUISE), funded by
CBS and the Danish Research Council for
Independent Research: Social Sciences.

About our group
Mark Lorenzen
Jens Frøslev Christensen.
Lars Bo Jeppesen (just left for
Bocconi in Milan)
Jing Chen (joined us from
Florida International U.).
Thomas Rønde (joined us from University of Copenhagen).
Toke Reichstein (joined us from Imperial
College London).
Valentina Tartari
(to join us in September
from Imperial College London).
Serden Özcan
Christoph Grimpe (joined us from
ZEW, Mannheim).
Marion Pötz (joined us from
the University of Vienna).
Christina Vaarst Andersen (just
joined from Roskilde University)
Christoph Hienerth (joined us
from the University of Vienna).

The geographical context
• 5.5 mill.
Inhabitants.
• A diversified
economy.
• High labor
mobility between
firms
• Manufacturing
strengths:
• Pharmaceuticals/
biotech
• Specialized
mechanical
engineering
• Service strengths:
• Shipping
• Strong sciencebase

Open Innovation: What is
new?
• The idea of the importance of “distributed”
or “open” innovation processes is not new.
• What is new is (my subjective view!):
• That there are drivers (stronger labor mobility, “software
movements”, increased division of labor & venture
capital; more on next slide) that accelerate the process at
this point in time (Chesbrough, 2003).
• That a firm should think about its degree of openness not
only to specific external sources of innovation, but has to
manage a portfolio of external sources (Chesbrough,
2003, Laursen & Salter, 2006, SMJ).
Henry Chesbrough

What changed? New Division
of Labor related to Innovation
• Erosion factors according Chesbrough:
• Increasing mobility of trained engineers and
scientists.
• Increasing importance of venture capital (at least in
the US).
• Increased “quality” of university research.
• Increased rivalry between companies in their product
markets (EU-market liberalization; competition
policy).
• Greater dissemination of knowledge throughout the
world, facilitated by information and communication
technology (including the rise of markets for
technology).

Open Innovation: Benefits and
Costs
• What advantages does open innovation have?
• Access to a variety of knowledge sources that cannot possibly
be available in-house (or would be prohibitively expensive to
possess). In particular:
• Context specific knowledge from users (f.i. direct collaboration with
users or through internet communities).
• Knowledge produced in other specialized firms (obtained, for
instance through collaboration, labor mobility of knowledge personnel
or through licensing-in).
• Problem-solutions from people with a different perspective on the
issue (f.i. InnoCentive; cf. Jeppesen/Lakhani work).
• Access to the science-base (formal or informal collaboration with
universities).
• However, despite the advantages, open innovation
has significant costs (Laursen and Salter, 2006).
Ammon Salter

Examples of trade-offs in open
innovation processes
Generic costs
and benefits
Benefits of open innovation
- Variety of inputs in the search and knowledge production
process
Costs of open innovation
- High coordination costs, given cognitive and resource
limitations of agents (absorptive capacity). Appropriabiltity
Open innovation
mechanism
search using several
sources of innovation
2. Working with users
of innovations
3. Innovations around a
technological platform:
Attracting unpaid
contributors
problems. 1Open innovation
Specific benefits Specific costs
- External sources of innovation
increase the breadth of search
-Investment in appropriability
mechanisms (partly) prevents
copying.
- Obtain knowledge that can
only be obtained through the use
of a product.
- Contributors supply free
content to a platform technology.
4. In-licensing - Complementarities between inlicensed
and own technologies.
5. Labor mobility - Labor mobility can ensure an
inflow of new knowledge to the
firm.
- Disclosure, imitation
- Very strong emphasis on
appropriability hinders
collaboration.
- Since users are often
conservative, investments in
identifying lead users is needed.
- Costs of facilitating contributor
development to platform via
improvement of tools and
infrastructure
- Necessary investments in
absorptive capacity, costs
related to cognition, opportunity
costs in alternative R&D
investment.
- Competitive advantage may be
undermined by employees
leaving for competitors.

Two examples of benefits and costs
• Open Innovation practices can potentially
provide the vital knowledge for future products
and services, but require (expensive) attention
to internal organizational practices.
• Inward mobility of university researchers into
industrial firms has great potential, but there are
non-trivial costs associated with integrating
these researchers in the focal firm.

Example #1: Internal
organizational practices

Changing Business Models
P&G established connect + develop in order to react to the open
innovation challenge.
Objective: 50% of Innovation
should be developed outside
of own R&D labs
(CEO Alan G. Lafley)

-- Chris Thoen, Manager,
P&Gs open innovationinitiative.
IM: So what is your system of internal
responsiveness?
CT: This is still a journey, even for us. We
are further along than some companies. And
every step you take you learn more. We see
it as very fluid. Two things that are important
in setting up an innovation system that is
effective and works well are that even before
looking externally you need good
innovation processes internally. Open
innovation will not make you a good
innovator if you don’t have the processes to
deal with innovation – you will only overload.
If the processes are not smooth and well
oiled, don’t focus on open innovation.
http://www.innovationmanagement.se/2011/04/21/procter-and-gambles-chris-thoen-on-open-innovation/

Firm-internal organization
• Burns and Stalker (1961) distinguish the
“mechanistic” from the “organic”
organization.
• An organic organization implies that activities
are organized in a flexible, decentralized,
informal and highly integrated organizational
structure.
• Burns and Stalker concluded that the organic
form is conducive to innovation.
• However, the idea of the “organic” form is not
overly precise.
• And the relation to open innovation is not clear.

Firm-internal organization
• Modern management research is in
agreement with Burns and Stalker:
Organization matters:
• Innovation is uncertain activity.
• It is difficult for management to take correct decisions
because the management do not have the appropriate
information on which to base decisions.
• The knowledge needed to produce and innovation
resides in many places in the organization (marketing,
production, R&D, accounting).

Firm-internal organization
• So work practices for Delegation
and Lateral communication within
the firm is needed.
• However, employees also need to
be motivated and they need to be
Compensated for the delegation of
responsibility.

Firm-internal organization
• Research indentifies four sets of
organizational practices are
conducive to innovation output:
• Delegation of responsibility
• Practices that furthers (lateral) communication
• Practices involving knowledge incentives
• (Recruitment and training)
• There may also be
complementarities between these
practices (when increasing the use
of one practice increases the
return of the other). Example.

The Foss, Laursen & Pedersenmodel,
2011 Organization Science
Interaction with
costumers
H 1
+
H 2
+
Delegation of
responsibility
H 3
+
H 4
+
Knowledge
incentives
Internal
Communication
H 5
+
H 6
+
Innovation
performance

Foss, Laursen & Pedersen
• 2001: 1000 largest Danish firms (in
2000) received a questionnaire (DK
context: LM firms).
• After two reminders, a total of 207 firms
responded to the survey, providing a
response rate of 21 percent.
• 169 responses were usable for statistical
analysis. Had an average of 1,811
employees (down to 350 employees).
• Respondent: CEO (in some cases the
HRM-manager or other managers have
responded).
• Structural equation modeling.

The Foss, Laursen & Pedersenmodel,
2011 Organization science
Interaction with
costumers
H 1
+
H 2
+
Delegation of
responsibility
Knowledge
incentives
Internal
Communication
• Conclusion: The relationship is fully
mediated by internal organizational
practices (that imposes costs).
H 3
+
H 4
+
H 5
+
H 6
+
Innovation
performance

Some firms are aware of the importance of
internal organization when sourcing
external knowledge…
• Dougherty (2001, p. 625) cites a marketing manager at
“Texco”:
• I came to this business seven years ago. It had a traditional
organization with director of development [technology] and a bunch
of engineers, and a marketing manager and salesmen. The
salesmen would go and find customers and get a quote on a
product, and bring it back and drop it in a box, and the engineers
would pick them up and do them. The salesman would go back to
the customer and show it to them and say “is this OK?” We were
doing hundreds of these costings, and very few of them would get to
the sample stage, and of those, very few succeeded. Our hit rate
was very low…. Everything the engineers worked on was screened
through the sales people, and they never heard the voice of the
customer… Now the new ventures team develops new markets and
innovations, and pulls in people from across the organization…
[Consider] the weaving, dyeing, and finishing plants. We help them
understand the needs and the wants, do the QFDs [quality function
deployments], have the manufacturing people help with the QFDs,
and the development engineers take the process engineers to
several customers.

Example #2: Inward mobility of
university researchers

Inward mobility of university
researchers
• Starting point: “One erosion factor that has led to
the demise of the Closed Paradigm is the
increasing availability and mobility of skilled
workers. This factor has many causes.[…]. The
supply of well trained, knowledgeable people
expanded tremendously during the post-war
period. This represented a large increase in the
raw material able to produce useful knowledge.”
(Chesbrough, 2003, p.34)
Henry Chesbrough

Inward mobility of university
researchers
• On the New Role of Research:
• “Beyond Knowledge Generation to Connection Open
Innovation thinking changes the role of the research
function. It expands the role of internal researchers to
include not just knowledge generation, but also
Henry Chesbrough
knowledge brokering. Previously, researchers simply
added to the knowledge sitting in the silos. Today,
they are also charged with moving knowledge into and
out of the silos. In this new role, knowledge located
from outside may be just as useful as knowledge
created from within — and it should be similarly
rewarded.” (Chesbrough, 2003).

Inward mobility of university
researchers
• Open innovation as a way of exploiting the division of
labor:
• “Merck accounts for about 1% of the biomedical research in the
world. To tap into the remaining 99 percent, we must actively
reach out to universities, research institutions and companies
worldwide to bring the best of technology and potential products
into Merck. The cascade of knowledge flowing from
biotechnology and the unraveling of the human genome- to
name only two recent developments - is far too complex for any
one company to handle alone.” (citation from Chesbrough,
2003, p. 53).
• One was of “tapping into research” is through labor
mobility from universities.
• In a recent research paper we look at how the inflow
of researchers from other organizations into for-profit,
private firms affect the innovative outcome: New
graduates, from other firms and from (public)
universities (benchmark: “Stayers”).

Misaligned incentives
• Scientific and technological the search for knowledge is
fundamentally different because (Dasguta & David, 1994),
due to differences in:
• The nature of the goals accepted as legitimate within the two
communities of researchers.
• The norms of behavior especially in regard to the disclosure of
knowledge.
• The reward systems.
• Academically trained scientists tend to have a strong
“taste for science” — preferences for basic research, for
the freedom in choosing research projects, and for
disclosure of research results (Stern, 2004; Roach and
Sauermann, 2010).
• Industry often need scientific insights, but firms do not
directly gain from contributing to important scientific
questions (Gittelman and Kogut, 2003; Lacetera, 2009).
• These observations suggest that employing university
scientists in industrial settings is challenging (and
expensive!) for profit-oriented business firms.

Data
EPO
data
FIDA
data
IDA data

EPO data
• All “Danish” patent applications 1978-2004.
• Applicants linked to CVR number (95 percent
matched).
• 16,531 firm-year observations.
• 5,714 firms.
• 292 unique firms patented 2000-2004.
• 2,535 citation-unweighted patents.
• 4,867 citation-weighted patents.

Inward mobility of university
researchers
• Findings:
• Firm “joiners” from any other organization contribute more to
innovative activity than those who stayed within the focal firm
(“stayers”).
• Among the joiners, newly hired university researchers give a
stronger contribution to innovative activity than newly hired
recent graduates or joiners from firms, but only when firms
have recent experience in hiring university researchers.
• Moreover, we find that firms’ recent experience in hiring
university researchers enhances the effect of newly hired
recent graduates’ contribution to innovation.
• Overall conclusion: University researchers potentially
help firms become (more) innovative, but these
researchers are costly to integrate in the research
process of for-profit private firms.

Practical trade-offs
Open Innovation Mechanism Specific advantages Specific costs
Working with users of innovation (fi. direct
collaboration or internet communities).
Knowledge produced by other firms (in-licensing,
research collaboration, learning-by-hiring).
Problem-solution via ”innovation contests” (á la
InnoCentive)
? ?
? ?
? ?
Collaboration with university scientists ? ?
Other mechanisms ? ?