Open Versus Closed Innovation

A Critical Look at the Effects of Open Versus Closed Innovation In the Innovative Firms of the Twenty-first Century June 17, 2010 Abstract In today’s fast paced business world, which innovation method should companies adopt, open or closed innovation? In this paper we will explore the methods of closed and open innovation. Then we will explore the pros and cons of both innovation methods and discuss which method works better in the business world of the twenty-first century.

After reviewing the results this paper explores the particle implications that innovative firms should be aware of regarding Open and Closed innovation and recommendations will be made for future research in this area. Introduction Background Looking back even a few decades companies viewed innovation strategies very differently then they do today. It was believed that successful innovation needed internal control and secrecy from others in the market.

Large corporations used to dominate the field of innovation because they were the only ones who could afford to invest it large scale R&D. Any company that tried to enter the market would have to find large amounts of resources to be able to even attempt to compete with the R&D of the large corporations (Chesbrough, 2003; Herzog , 2008; Aylen, 2010; Kodama, 2005; Trott & Hartmann, 2009). In the current economy start-up companies have found ways to bypass the large R&D investments of the past.

Instead of doing their own research these new entrance are getting their knowledge and technology from outside their company by either investing in relevant startup companies, or partnering with other companies up, down or horizontally on the value chain (Chesbrough, 2003). With the expanding options on how to obtain innovative ideas, processes, and products the big question remains should companies used a closed or open approach to innovation? And does the open and closed methods work for all companies? (Almirall & Casadesus-Masanell, 2010)

In this paper we take a critical look at what closed and open innovation is, what the pros and cons are to both options, and try to determine if one method is better then the other in this current economy. Closed Innovation The main theory behind Closed Innovation is the belief that “successful innovation requires control” (Chesbrough, 2003). Companies that follow the Closed Innovation (CI) model (see Figure 1) believe in self-reliance and that they should follow these rules to succeed: • “A firm should hire the best and smartest people Profiting from innovative efforts requires a firm to discover, develop, and market everything itself • Being first to market requires that research discoveries originate within the firm • Being first to market also ensures that the firm will win the competition • Leading the industry in R&D investments results in coming up with the best and most ideas and eventually in winning the competition • Restrictive IP management must prevent other firms from profiting from the firm’s ideas and technologies” (Herzog, 2008)

CI companies attempt to do everything on their own from innovative ideas, development, manufacturing, advertising, promotion, distribution, service and even financing. If the innovative ideas or projects are not pursued or are discarded part way they are stored internally and will not be profitable to the company or useful to the rest of the world unless they are used internally at a later date. This creates a great loss of many potentially reat innovative ideas, products, services, and processes. If a company chooses CI it can be expect that many innovations will be lost as companies do not have the ability or resources to turn every idea or technology into a successful innovation the market can use. The main reason a company would choose CI would be because they are scared of having their intellectual investments stolen by their competitors (Herzog , 2008; Chesbrough, 2003). [pic] Open Innovation

Companies have reached the understanding that not all innovations have to originate internally and that if they do have an internal innovation and do not have the ability to act upon it they can still profit from it by partnering, joint ventures, licensing or selling the innovation to another company. In Open Innovation (OI) companies must find a balance between keeping important internal secrets and still working with other companies to gain and produce valuable ideas, processes, resources, finances and support (Herzog , 2008). Companies that follow the OI model (see Figure 2) believe in the following principals: “Not all of the smart people work for us, so we must find and tap into the knowledge and expertise of bright individuals outside our company • External R&D can create significant value; internal R&D is needed to claim some portion of that value • We don’t have to originate the research in order to profit from it • Building a better business model is better than getting to market first • If we make the best use of internal and external ideas, we will win • We should profit from others’ use of our intellectual property, and we should buy others intellectual property whenever it advances our own business model” (Chesbrough, 2003) OI encourages the joining of resources from firms across all aspects of the value chain. Companies now realize that innovations they can’t use or can be used further by other companies can lead to additional profits that they could have never obtained on their own (Almirall, & Casadesus-Masanell, 2010). Kodama, (2005) expands OI even further to talk about creating strategic communities (See Appendix 1), a convenient process of speeding up a firms innovation.

To be able to quickly acquire a variety of knowledge of great use, managers from different areas, from inside and outside the firm, can make a strategic community with internal and external members, which could involve customers. A huge benefit is that strategic communities are not bound by the same limitations as the official organization. Now that we have explored what CI and OI is we will now go on to look at why one of the methods might be better then the other for companies competing in the twenty-first century and why companies decide to choose one either CI or OI. Open versus Closed Innovation OI involves risk such as knowledge and sensitive information leakage and the risks must be weighed against the benefits that would be gained from participating in OI.

One more trouble with OI is that well some areas open up to help the flow of knowledge it has been found that to keep sensitive information secure there has actually been a reduction in the amount of information being share between internal departments which could effect the companies internal innovation (Trott & Hartmann, 2009). It has been found that OI is especially needed in fields such as knowledge-intensive industries where competition is strong and companies need to work together to be able to gain a competitive advantage in the field (Trott & Hartmann, 2009). Almirall & Casadesus-Masanell, (2010) study showed that OI works better then CI for partnerships that are fixed and have low to medium complexity levels but they also found that when there is high complexity involved that CI is the best method to follow. Another discovery was that the benefits can be greater in flexible partnerships over fixed partnerships. “The model of flexible partnerships ffectively says, If you can’t figure out how to put the pieces together internally (configure two subsystems optimally), it is critical to have lots of different pieces (complementary subsystems) to choose from and know how to put them together externally. ” (Almirall & Casadesus-Masanell, 2010) Chesbrough and Crowther (2006; as sited in Aylen, 2010) said that OI is a useful concept for innovation “beyond high technology and is appropriate for traditional and mature industries”. A big contrast between OI and CI is how they go through their idea lists. CI managers go through and proceed with the ideas they see as beneficial to their company and discard what they see as bad ideas or ideas they know their firm does not have the resources to accomplish.

Whereas a OI manager would go through their idea list and sort them into three categories, innovations their company can pursue internally, ideas they can approach other companies about, and ideas that will not work at all. Therefore the OI model gets to profit from the ideas that the CI model would have otherwise discarded or stored for a later date (Chesbrough, 2003). Even though OI has been adapted by many organizations as the best way to be successfully innovative the theory is not perfect. Trott & Hartmann, (2009) point out that OI is very linear and does not suggest any “feedback or feed-forward mechanisms” unlike the newer innovation models such as the “Cyclic Innovation Model” (Berkhout, AJ, Patrick van der Duin, Dap Hartmann & Roland Ortt, (2007), cited in Trott & Hartmann, 2009).

This newer model suggest feedback and feed-forward techniques and also that the innovation process is cyclic, meaning new innovations grow from older innovations. CI has been very successful for some companies such as Apple they swept the market with the iPod and this strategy and product put them back into the playing field after have been struggling for years to catch up with the innovations of other major players. Another example of CI is the Wii by Nintendo which was extremely innovative with their new product features (Almirall & Casadesus-Masanell, 2010). Some very large companies have tried CI techniques and had some devastating effects as a result, such as IBM and Xerox but both these examples were able to overcome these problems with the help of OI techniques.

Procter and Gamble and Philips have successfully adapted OI and have gone so far as to hold conferences on the topic and even published their own reports on the subject. Trott & Hartmann, (2009) provide a list of companies and the reasons they choose to become part of a strategic alliance (See Appendix 2). It has been noted by Chesbrough, (2003) that near the end of the 20th century a number of things happened that caused CI to be taken into question by many firms. Firstly, knowledge workers were starting to move easily from company to company as well leaving to start their own firms and this put the original firms innovation secrets in jeopardy and companies realized that if they wanted to profit from their work they had to find ways outside their company to do so and in a timely fashion.

Private venture capital companies also had major growth in this period and they were benefiting in large scales from the spill over knowledge of the large corporations that were just trying to store their unused innovative knowledge. So the question still remains what is the best technique for companies to adopt? Form all the literature reviewed it seems that a fully CI company does not exist any more but instead there are different levels that companies can be at between CI and OI (Teresko, 2004). It seems companies must look at their goals and the different ways they can achieve them and then evaluate the pros and cons of the two methods and then decide whether or not they should choose CI, OI and some combination of both (Trott & Hartmann, 2009). Practical Implications

The following are benefits that Vanhaverbeke, Van de Vrande, & Chesbrough, (2008) suggest can come from participating in OI although they stress that companies have to work at obtaining them by acquiring new techniques and skills and learning how to work with other companies so that both parties fairly benefit from the OI method. i) “Benefits from early involvement in new technologies or business opportunities ii) Delayed financial commitment iii) Early exits reducing the downward losses iv) Delayed exit in case it spins off a venture” If management decides to follow an OI strategy they must realize there are costs to this choice. Firstly, companies lose some measure of control whereas in CI they would have full control.

Secondly, profits and credit must be shared but it also must be remembered that with CI losses would have to be fully covered by the sole firm involved (Almirall & Casadesus-Masanell, 2010). OI gets rid of many barriers that used to block innovation such as technology limitations, corporate limitations, and geography boundaries. OI allows companies access to innovation that would have otherwise been impossible for them to reach because of the time it would take and the money it would cost to produce. What many people forget is it is not just new products that are the main benefits of OI but a huge benefit is the enhancement to the companies production processes due to knowledge obtained through OI (Teresko, 2004).

Many new products only exist today because of OI, as today’s products span many different industries that would have otherwise never connected (Kodama, 2005). Kodama, (2005) covers some important implication for managers to be aware of when using OI in strategic communities (see figure 3). Management will not only have to be able to deal with issues internally but they will now have to have the skills to deal with other companies both locally and internationally. They must have skills to negotiate and understand the implications of partnerships even in industries they may not be familiar with. Future Research It was suggested by Trott & Hartmann, (2009) that there tends to be less information sharing between internal departments when participating in OI, o help keep sensitive information from leaking, further research should be done to find out how much this effects the internal innovation of a company and if the internal secrecy is worth while in light of what is being obtained from OI practices. Future research is also need on when OI is not good for companies and in which instances would it cause more damage then good (Vanhaverbeke, Van de Vrande, & Chesbrough, 2008). Chiaroni, Chiesa, & Frattini, (2010) have recommended a study into whether or not OI is as effective in government run businesses as privately run businesses. Other scholars are invited to research further on the management styles that best work with obtaining the full benefits from OI innovation.

It would be helpful for companies to know what type of manager they should put in charge of coordinating OI efforts so benefits are not lost. Research would also be recommended in the area of how OI and CI can work in the same firm and how this would effect the internal culture of the company. This could help managers understand what they will be facing if they implement a combination OI and CI strategy (Broring & Herzog, 2008). We have reviewed what CI and OI is, the practical implications and the future research opportunities we will now wrap up the critical review with an overview about whether CI or OI is better for the company of the twenty-first centery. Conclusion

Many companies follow OI because it helps with the risk of financial loss as well as creating great opportunities to absorb new knowledge, ideas, skills, techniques, and processes (Vanhaverbeke, Van de Vrande, & Chesbrough, 2008). One of the greatest reasons OI seems to work is that different companies have the ability to look at problems and innovative ideas from completely different ways, this creates new innovations that would have otherwise never existed if OI practices had not been in place. This allows companies to profit from innovations that they would have otherwise never pursued either because of resources, knowledge, skill or industry type (Almirall & Casadesus-Masanell, 2010). Teresko, (2004) cleared up any confusion about OI very well by saying “ Open innovation does not mean outsourcing R&D, nor does it mean closing down internal R&D.

It is a strategy of finding and bringing in new ideas that are complementary to existing R&D projects”. It was stated by Trott & Hartmann, (2009) that even companies labelled CI often have some aspects of OI to them and that in this day and age except for a few niche and extremely specialized fields most follow at least to some degree a belief in OI. Companies must remember that they will not succeed if they get comfortable and just remain satisfied with there current products, processes, and customers, the business world is in constant change and companies must keep up or they will soon lose their market share to a company that is more innovative (Broring & Herzog, 2008).

Broring & Herzog, (2008) further go on to mention that firms need to be “ambidextrous” they need to be able to figure out which areas should be CI and which should be OI. Many innovations these days are so complex and have so many aspects that there is no other way to make them then by using an interdisciplinary approach. So to attempt to answer the question what is the best innovative model for the innovative company of the twenty-first century? Well, most of the research reviewed for this paper seems in common agreement that a fully CI company no longer exists and that most companies do best somewhere in-between the reams of CI and OI and the type of industry their in will help them decide which end of the spectrum they are at.

It seems companies must look at their objectives and the variety of ways they can achieve them and then evaluate the pros and cons of the two methods and from there decide whether or not they should choose CI, OI and some combination of both (Trott & Hartmann, 2009). Appendix 1 Strategic Communities (Kodama, 2005) Appendix 2 Compilation of reasons for entering a strategic alliance. (Trott & Hartmann, 2009) References ALMIRALL , ESTEVE, & CASADESUS-MASANELL, RAMON. (2010). Open versus closed innovation: a model of discovery and divergence. Academy of Management Review, 35(1), Retrieved from https://web. ebscohost. com. proxy. ufv. ca:2048/ehost/detail? id=5&hid=11&sid=af6c67d1-ada3-422e-9c05-8e629026d49b%40sessionmgr13&bdata=JnNpdGU9ZWhvc3QtbGl2ZQ%3d%3d#db=buh&AN=45577790 Aylen, J. (2010). Open versus closed innovation: development of the wide strip mill for steel in the united states during the 1920s. R&D Management, 40(1), Retrieved from https://www3. interscience. wiley. com. proxy. ufv. ca:2048/search/allsearch? mode=quicksearch&products=journal&WISsearch2=1467-9310&WISindexid2=issn&contentTitle=R%26amp;D+Management&contextLink=blah&contentOID=118510592&WISsearch1=open+versus+closed+innovation&WISindexid1=WISall&articleGo. x=14&articleGo. y=14 Berkhout, AJ, Patrick van der Duin, Dap Hartmann & Roland Ortt, (2007), The Cyclic Nature of Innovation: Connecting Hard Sciences with Soft Values.

Advances in the Study of Entrepreneurship, Innovation and Economic Growth, Vol. 17, Elsevier, Amsterdam. Broring, S. & Herzog, P. (2008). Organising new business development: open innovation at Deguss. European Journal of Innovation Management, 11(3), Retrieved from https://www. emeraldinsight. com/Insight/viewContentItem. do;jsessionid=4A4348BE11DE94C824D6C71C26907070? contentType=Article&contentId=1736787 Chesbrough, H. (2003). The Era of open innovation. MIT Sloan Management Review, 44(3), Retrieved from https://proxy. ufv. ca:2048/login? url=https://search. ebscohost. com. proxy. ufv. ca:2048/login. aspx? direct=true&db=buh&AN=9547972&site=ehost-live Chiaroni, D, Chiesa, V, & Frattini, F. (2010).

Unravelling the process from closed to open innovation: evidence from mature, asset-intensive industries. R&D Management, 40(3), Retrieved from https://proxy. ufv. ca:2048/login? url=https://search. ebscohost. com. proxy. ufv. ca:2048/login. aspx? direct=true&db=buh&AN=50315551&site=ehost-live Herzog , Philipp . (2008). Open and closed innovation . Retrieved from https://books. google. ca/books? id=JgD4Kn8k2BcC&printsec=frontcover&source=gbs_ge_summary_r&cad=0#v=onepage&q&f=false Kodama, M. (2005). How Two japanese high-tech companies achieved rapid innovation via strategic community networks. Strategy & Leadership, 33(6), Retrieved from https://www. emeraldinsight. com/Insight/viewContentItem. o;jsessionid=4A4348BE11DE94C824D6C71C26907070? contentType=Article&contentId=1524443 Teresko, J. (2004). Open innovation?. Industry Week/IW,253(6), Retrieved from https://proxy. ufv. ca:2048/login? url=https://search. ebscohost. com. proxy. ufv. ca:2048/login. aspx? direct=true&db=buh&AN=13637415&site=ehost-live TROTT, P, & HARTMANN, D. (2009). Why ‘open innovation’ is old wine in new bottles. International Journal of Innovation Management, 13(4), Retrieved from https://www. swetswise. com. proxy. ufv. ca:2048/FullTextProxy/swproxy? url=https://www. worldscinet. com/150/13/preserved-docs/1304/S1363919609002509. pdf&ts=1275843853701&cs=1612915441&userName=8900000. ipdirect&emCondId=890000

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