Why big ideas evade big businesses – An Analysis

18 07 2011

Big companies usually sell many products – and this collection of products is in constant flux – new ones come, poor ones are chopped and the population may grow or shrink accordingly.

The sheer number of products is however not directly correlated to the revenues or profits though, this is determined by the quality of each product. The main benefit of having a large family of products is that allows diversification (thinks eggs in baskets) – but the down side of having many products is all the additional overhead.

The real health of a product portfolio is not the number of products but an aggregate of the health of the individual products – for each product we consider the margins, the security of those margins, the revenue, the trends in revenues and the prospects of the target market.

Thus a large company should be constantly nurturing and pruning its portfolio, adding products with good margins, and killing off products that do not give the target ROI.

The process, if done well, can result in a company slowly morphing as its follows the money. A company that fails to follow the money is doomed to either die or settle at a marginal profitability protected only by their slim margins and depreciated assets.

It is in this sense that new products make you future proof – the first player in the game gets to makes the rules while new technologies can often be patented to block competition – leading to higher margins. The first entrant may also corner the market  and then benefit from an economy of scale that makes competition for the scraps pointless.

Of course, launching new products requires investment – you need to spend money to make money. And big business has the money entrepreneurs can only dream of.

So the question is this: why is it that small start-ups keep upsetting the apple cart?  Why can’t big business with all its money, all its brainy MBA’s and all those shiny laboratories corner all the good ideas?

Allow me to hazard a guess as to why this is.

Firstly, because of risk:

  1. Once you have a lot of money, it’s no longer a good strategy to “bet the farm”. You have too much to lose.
  2. Once you have money, a better strategy is to spend some of it on risk analysis, and find ideas that are a surer bet – this leads you to products whose success you can predict – which are more likely to be those similar to your existing products.

The problem is, that in the population of all ideas, the game changers are probably at the risky end. See my illustration:

As you can see, big business is stuck in the white sector. The problem is there will always be a risky idea – that big business will pass up – that will turn out to be pure gold.

Now let’s think about the competition. The competition is the world of entrepreneurs – all those people out there itching to start something up.

What we have to realise is that while big business is, on average, smarter than the entrepreneur, it does not have the monopoly on thinking, and though the ideas that come from the general populace may on average be lower in quality, the sheer volume of thinking that gets done and the sheer number of things that are tried out, mean that great ideas will happen. And we won’t hear much about the hundreds that don’t.

My next drawing shows the frequency of idea birth for the two communities – the little curve shows the ideas born and investigated  by big business while the big curve shows the ideas pursued by the wider public. Although big business only pursue nice valuable ideas, the sheer size of the public idea base, combined with their access to riskier options, means the wider community still has the lion’s share of the truly game changing ideas!

So this is my theory about why big business is less innovative than small business. Small business benefits from darwinian selection – it is really a multitude, most of which die – whereas big business cannot afford to die, so its strategy is always to hedge.

So what to do about it? Clearly this should give heart to the entrepreneur – yes, you have an advantage, yes, you will win! Alas, reading more deeply, your advantage is your dispensability – so the trick is to see its a game of numbers, so the real key is to keep trying. You can keep failing and rise to try again, but big business can’t take that risk.

But what if you are big business?   In this case, watch out for promising start-ups and buy them! Connect with the entrepreneurial community by getting involved with things like “open-innovation“, where you publicize what you have and what you need and work with inventors and other companies to solve market needs. Otherwise take your business where entrepreneurs can’t follow – where money is still a huge barrier to entry – land management, mining or pharmaceuticals spring to mind.

And what if you’re an big $ investor? Well in that case, get in touch with The Provincial Scientist 🙂

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Disclaimer: it may be the era of micro-electronics and software that is to blame. When the fuss about these has died down, maybe big business will rule securely as the aristocracy once did.

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