The business models of large corporations are being disrupted faster than ever before, e.g., Netflix is disrupting the video distribution industry, while new lucrative markets being created by innovative startups, e.g., Uber, Nest, and SpaceX. As a result of these developments, corporations are starting to realize they will need to re-invent their disruptive innovation model. We have proposed a new model that brings together corporate venturing, intrapreneurship, corporate development and business development. In order to determine whether they can successfully achieve their disruptive innovation goals, corporations will also need to find a way to measure their track record under this model. For this reason they must identify the right Key Performance Indicators (KPIs), which I call innovation-KPIs, to distinguish them from execution-KPIs. Silicon Valley’s ecosystem, particularly VCs, can play a key role in the innovation model’s re-invention and offer best practices for relevant innovation-KPIs.
Large corporations are in a bind because they need to address two conflicting sets of goals. They need to continue to execute on their existing business model. But they also realize that they would not be able to achieve big gains by just tackling efficiencies and productivity improvements. To achieve such gains they need to improve their ability to disrupt. Corporations must establish two distinct types of KPIs in order to track their performance: execution-KPIs, which we associate with the performance of existing business models, and innovation-KPIs, which we associate with the achievement of disruptive innovation-related goals.
Execution-KPIs are precise, with well-understood roles and responsibilities for the organizations being measured, easier to define, and have been studied extensively. For example, IBM continues to build its big data analytics business. For this business it may use “percent of professional services-only big data analytics contracts completed during the past 4 quarters that will convert to analytics software and services contracts over the next 2 quarters” as an execution-KPI in order to measure the effectiveness of its big data professional services and software sales teams.
Innovation-KPIs, particularly those that are associated with disruptive innovation, measure long-term, less precise and therefore more conceptual goals, with less-understood organizational roles and responsibilities for achieving them. They measure the performance of businesses, or projects, with unknown paths to success (in fact as any VC who invests in early stage companies will attest, most of such efforts fail), undefined or poorly understood technologies, unspecified business models, underdeveloped markets, and oftentimes all of the above. As a result, corporations have a hard time defining innovation-KPIs or even establishing a culture of measuring the impact of their disruptive innovation efforts. For example, IBM’s CEO recently stated her hope that by 2018 the Watson business will be producing $1B in annual revenue and $10B by 2024. Creating a new business that can grow from $0 to at least $1B annually is the most frequently stated innovation-KPI and has all the characteristics mentioned above. Google’s, Amazon’s and Apple’s CEOs have also used this innovation-KPI around their YouTube, Kindle, and iPhone efforts respectively.
In my experience most corporations that attempt to measure the ROI of their innovation efforts tend to only track the performance of their R&D organizations with KPIs such as “number of patents issued per year,” or “annual revenue generated through the licensing of IP ,” or “number of ideas brought forward by employees.” They do so because they can easily measure the achievement of short-term, concrete goals such as those associated with the issuance of filed patent applications or the revenue generated from the licensing of patents. The graph below shows the results of a survey conducted by PwC.
To better assess the performance of their disruptive innovation efforts, companies will need innovation-KPIs that measure the ROI generated from the integrated and collaborative efforts among the four organizations participating in the proposed disruptive innovation model (corporate venturing, intrapreneur development, corporate development and business development) and relate them to corporate or business unit goals. Based on my experience, some example innovation-KPIs could include:
- Percent of corporate employees working on projects outside their main project and amount of time they are allowed to spend on such projects. For example, Google allows its employees to spend a day per week on something other than their main project. Several other companies are starting to adopt the 70:20:10 rule.
- Percent of non R&D employees submitting project incubation ideas, or hackathon ideas, and percent of these ideas that are actually pursued through a corporate incubation process. This is relevant particularly now that many companies are establishing incubators and accelerators.
- Monetary value of the portfolios created after the incubation process, i.e., the value of the portfolio of projects that will be pursued beyond the initial incubation phase. Such value, for example, can be established by institutional VCs.
- Sales resulting from each incubated idea that has allowed to mature. For example, Amazon can measure the sales generated by AWS, IBM can measure the sales generated by Watson.
As they try to establish KPIs that effectively measure the ROI of their disruptive innovation efforts, corporations should seek the input of Silicon Valley’s VCs. VCs are exposed to a very large number of startups that generate innovations that change the face of industries or create brand new markets. In fact, according to the latest Booz & Co innovation study, four of the top 10 innovative companies are Silicon Valley-based and six of the 10 were venture-backed prior to going public. VCs know how:
- Identify and invest in innovative startups and their visionary teams.
- Prune away (by shutting down or selling) portfolio companies with low probability of generating significant value during the time horizons they set, while increasing the investment in the companies that are emerging as winners.
- Manage businesses with unknown paths to success, undefined or poorly understood technologies, unspecified business models, and underdeveloped markets in the process mitigating a variety of risks and driving to high-value exits.
These are precisely the activities that corporate venturing, corporate incubators and accelerators, business development and corporate development groups must be involved in. Around these activities VCs set their own innovation-KPIs. They assess their performance on: a) the value/ROI they generate (to their investors and the employees of their portfolio companies) through their investments, b) the capital and time efficiency with which this value is generated, and c) the level of risk they underwrite while creating this value/ROI. The generated value can be measured in terms of returns from exits, year over year portfolio revenue and profitability growth, and the valuations resulting from new financings of existing portfolio companies. VCs use their networks to forge new partnerships for their portfolio companies, help them acquire new customers and recruit employees. In other words, today’s successful Silicon Valley VCs combine financial, business development, corporate development and entrepreneur selection and development skills in order to achieve their goals. The KPIs VCs use are uniquely appropriate for becoming the basis for innovation-KPIs corporations can establish to measure the performance of their own disruptive innovation efforts.
With that in mind let us now revisit the Watson case, the stated $1B annual revenue by 2018 innovation-KPI and how IBM’s groups can collaborate to achieve it, measuring their performance in the process. I should point out that in addition to the new business unit IBM launched around Watson, which includes business development and corporate development groups, the company has formed a Venture Fund to invest in innovative startups and create an ecosystem, and continues to expand the activities of its Silicon Valley-based venture capital group. With these resources IBM should:
- Use its Watson venture fund to invest in both external startups (working with entrepreneurs) and internal startups (working with its intrapreneurs) that address problems the business unit doesn’t want to or can’t address. These startups must be viewed as having 7-10 year horizons to success. The investments should be meaningful ($0.2-1M in seed stage companies, $2-5M in early stage companies, $10-20M in later stage companies); similar in size and scope to the investments Google Ventures or Salesforce are making. Startups that are not creating value (according to some or all of the VC measures listed above) to Watson’s overall goal should be pruned away, whereas investment in the ones that continue to demonstrate promise and value should increase.
- Use the corporate development group to acquire a) companies with $30-100M in annual revenue that can provide to the Watson unit ROI in 3-4 years by adding to the revenue it generates organically, improving the management talent, expanding its overall solution, b) the fastest growing and maturing of the startups funded through the Watson fund. This is similar to what Google has done with Nest (investment by Google Ventures followed by acquisition).
- Use the business development group to establish partnerships among the startups in the Watson Fund portfolio thus increasing their probability of success, as well as between each portfolio company and the business unit. If the acquired companies are left to operate independently for some period after the acquisition, then use the business development group to set up partnerships between the Watson Fund portfolio companies and each of the acquired companies again in order to mitigate the risks associated with the funded startups, as well as improve the ROI derived from the acquired companies.
Innovation KPIs should be recognized as a separate type of KPI. Their definition is hard but necessary, if companies are to become better at understanding the impact of innovation to their business. VCs can provide best practices for innovation-KPIs and work with corporate innovation groups to define them.