In December 2009 a student team from MIT won the Red Balloon Challenge organized by the Defense Advanced Research Projects Agency (DARPA), the U.S. Department of Defense agency responsible for developing technology for military use1. The team took just nine hours to track down the locations of 10 red weather balloons hidden across the U.S, exceeding even DARPA’s wildest expectations. The students’ innovative reverse-Ponzi reward system, which encouraged knowledge owners to participate in its social network, will be studied and replicated by many.

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MX: Open for Business

However, even more impressive is that this “pay-it-forward” approach enabled the team to design, plan, and launch the entire system in just one week.2This team’s success is a landmark example of the power of open innovation—both in terms of the productivity of a well-organized network and the swiftness with which such a network becomes operational.

The success of the MIT Red Balloon Challenge team highlights open innovation as a maturing and potentially powerful management practice that’s especially applicable for entrepreneurial businesses without rigid organizational lines and ingrained business processes. Innovation pioneers are also successfully employing two other management practices, namely experimentation-driven discovery and future-back migration mapping, with both techniques being widely discussed and written about by management experts in recent years3. Used together in one integrated management system, all three practices—open innovation, experimentation-driven discovery, and future-back migration mapping—could help dramatically reduce the risks of nascent businesses, essentially unlocking their value.

The resultant unlocked value creates a bigger pie that gives both businesses and their investors the chance for a bigger slice.

Understanding Entrepreneurial Risk
Although every company operates in a unique business situation, there are four types of risks common to virtually all entrepreneurial businesses, whether they are venture-backed startups or new businesses within established companies. These risks involve customer demand, product or technology development, profitability of the business model, and competitor response or product obsolescence.

Let’s examine each one in turn:

•    Customer-demand risk. Does the business offer products or services, or both, that address a customer problem or need? Will customers be willing to pay (with money or time) for the product or service? Because many innovative new products or services address unmet needs that most customers do not even know they have, it is often extremely difficult to determine the level of customer demand for them. For example, before the introduction of the Apple iPod, consumers could not take their entire collection of entertainment content with them. Therefore, market data to gauge the potential size of the market for the iPod did not exist.

•    Product/technology development risk. Many great inventions start with a big promise but never develop into successful commercial endeavors. Business innovators must assess and manage the risk of developing the invention from concept to commercial product. In parallel, they need to figure out how to scale up the business and if the end-product or technology can withstand the wear and tear of daily use. Twenty years ago, many software companies were working on word processors that would allow dispersed team members to collaboratively edit the same document in real time. Despite the potential benefit, this capability still eludes corporate productivity software even now.

•    Profitability (business model) risk. Ultimately, all businesses need to generate sufficient profits to be sustainable. Looking deeper at a business model will reveal issues that range from customer awareness and delivery to complementary revenue sources and specific pricing schemes. Many startups like Netflix are centered on innovation in the business model, not just the fruits of technological invention. Innovators must understand and manage the risks associated with the novel aspects of their particular business model.

•    Competitor/market/product obsolescence risk. Assuming that the entrepreneur can successfully launch the product or service, competitors will inevitably respond. Because the distinct advantage of any product or service will ultimately be overtaken by newer products and services, every product and service faces the threat of obsolescence.

Mitigating Risk through Open Innovation
The MIT Red Balloon Challenge Team is just one recent example of unlocking value through open innovation. Add Linux and Wikipedia to this list, and it is clear that the practice has demonstrated its power to dramatically improve the productivity of massive development projects and solve complex problems. It should come as no surprise that open innovation can help reduce the risks of startups and entrepreneurial ventures. Experimentation-driven discovery and future-back migration mapping have also helped both established and nascent companies mitigate the risks of innovative businesses.

Let’s look at how innovators can use these three management practices to reduce entrepreneurial business risks and unlock value.

Crowd-Sourcing in Practice
Crowd-sourcing, or open innovation, allows a group of people—often volunteers or self-nominated members—to jointly work on a complex problem or project, with little or no prespecified group hierarchy. How does this work in practice?

A prime example is the Pool for Open Innovation against Neglected Tropical Diseases that has recently formed partnerships with GlaxoSmithKline, MIT, and UC Berkeley.4The mission of the pool is to allow researchers access to intellectual property and technologies that will increase the efficiency of research on a number of neglected diseases. Hundreds of patents and associated knowledge have been made available to researchers that are working on new drugs for these diseases, allowing scientists the ability to utilize millions of dollars of value created by separate companies and universities. Several thousand patents have been shared and new patents have been generated in the fight against these diseases that affect up to a billion people every year.

In another example, Kaiser, in its quest to improve and revolutionize healthcare services, identified issues during nurse shift change.5By first instituting round-the-clock observation methods and then inviting nurses, doctors, and administrators to contribute to prototypes, Kaiser was able to prioritize potential issues in staffing, bed management, transportation, and communications. The subsequent Nurse Knowledge Exchange program allowed key stakeholders to develop a system that was uniquely suited for their environment. The program helped reduce operational inefficiencies and maximize communication between staff. It has since been rolled out to every ward in 35 hospitals and recognized within the industry for its best-practice innovation.

Inventing novel techniques for solving complex problems is potentially the best strength of crowd-sourcing. One example is the Archon X Prize for Genomics6, an open competition to "the first Team that can build a device and use it to sequence 100 human genomes within 10 days or less, with an accuracy of no more than one error in every 100,000 bases sequenced, with sequences accurately covering at least 98% of the genome, and at a recurring cost of no more than $10,000 (U.S.) per genome." There is a grand prize of $10 million still to be awarded with several registered teams. In comparison, it has taken several groups years and billions of dollars to complete a map of the human genome.

Experimentation-Driven Discovery
Experimentation-driven discovery is a practice where elements of a new business concept are tested and then refined in real or simulated market conditions. Many companies have applied a wide range of experiments and tests to gauge customer demand. One example is the Mayo Clinic’s SPARC lab that is enabling physicians to think more like designers.7The lab specializes in the “patient experience” and allows a space for medical staff to observe and interact with patients. Ideas are tested out in rough form by placing an early version of prototypes (even if it’s a kiosk with a piece of paper) in front of patients to observe the intended or implied effects. This approach has allowed the Mayo Clinic to develop a better understanding of customer needs and evolve projects to best fit the need.

Another example of experimentation-driven discovery is 3M’s Lead User Center, which targets lead customers to assess their needs and seek their contributions.8 Lead users are different from normal users in that they are self-prescribed experts and early adopters of products in their field. The purpose of tapping into these lead users is for 3M to identify and resolve issues early in the development process. Indeed, many of the issues and ideas generated may lead to quite different products that consumers are seeking. 3M reports that sales projections are eight times higher for lead-user tested products than for traditional products, and the company finds that the method is well suited to developing completely new products and breakthrough innovations.

Future-Back Migration Mapping
Future-back migration mapping is a practice that organizes a group of similar ideas and delivers a game-changing benefit to the customer in logical sequential paths. Instead of relying on a single breakthrough product, innovators think of a collection of products that together greatly transform the value that the company delivers to the customer. They then construct a map that tracks the migration from the transformative end-result back to a set of lower-risk early-stage products. Essentially, a company starts with its vision of the future, and then maps a path back to this vision from its current state.

A good example of the use of future-back migration mapping is the development of the Apple iPod. Imagine that you were a top executive at Apple at the turn of the millennium, and that you were presented with the opportunity to develop a Macintosh-only digital music player. Would you have devoted your company’s top engineers and designers to this project? If you say ‘‘no,’’ you are not alone. On the surface, a Mac-only anything seemed to be a small opportunity, and MP3 players were simply not a core business for computer makers. Most seasoned managers would also have said ‘‘no.’’

Fortunately for Apple, that is not the whole story. The initial iPod product and iTunes service were just the first steps in Apple’s ambitious ‘‘digital hub’’ strategy, where the ultimate goal was to allow users to have all their entertainment content accessible to them whenever and wherever they want it. From this strategic perspective, the Macintosh-only digital music player was a low-risk entry point, where Apple could refine its business model while getting major music labels and other partners to collaborate. The migration map approach helped Apple identify a starting point that mitigated many of the business model risks.

GE has also used future-back migration mapping. Its investment of $6 billion in 2009 in conjunction with the Obama administration’s healthcare changes has led to a commitment to deliver better patient care at a lower cost. An integral step in the migration map is to institute a robust electronic medical records (EMR) system. GE’s current system serves over 33,000 physicians and 900 hospitals, and the EMR market size has doubled in 2009 from 2008. As a provider of cutting edge medical equipment, GE recognizes that EMR is part of a strategy to continue as a leading platform provider and to keep a long-term competitive edge as healthcare becomes increasingly digital in nature.

Less Risk, More Riches
The experiences of successful startups and innovative ventures within established device companies show us that open innovation, experimentation-driven discovery, and future-back migration mapping can form the foundation of a systematic toolset for assessing and mitigating the basic risks—and therefore unlocking the value—of entrepreneurial businesses.

Although these practices offer no guarantee that all new business ideas will grow and prosper, they will help management and funding providers in both VC and corporate environments weed out unviable ideas while nurturing promising opportunities that evolve into successful businesses. The end result will be that, as challenges are met, more good ideas will get funded. This approach will create greater returns for both capital providers and opportunity managers.

References
1. DARPA; https://networkchallenge.darpa.mil/default.aspx: ‘‘To mark the 40th anniversary of the Internet, DARPA has announced the DARPA Network Challenge, a competition that will explore the roles the Internet and social networking play in the timely communication, wide-area team-building, and urgent mobilization required to solve broad-scope, time-critical problems. The challenge is to be the first to submit the locations of 10 moored, 8-ft, red, weather balloons at 10 fixed locations in the continental U.S. The balloons will be in readily accessible locations and visible from nearby roads.’’
2. While the MIT Red Balloon Challenge Team used the open innovation approach, Google’s internal team applied number-crunching and image-recognition techniques, (e.g. looking for images and posting of red balloon locations on the Web). While the MIT Red Balloon Challenge Team successfully identified all 10 balloons, the Google team found nine. https://networkchallenge.darpa.mil/Default.aspx; http://socialcapital.wordpress.com/2009/12/11/behind-mits-darpa-weather-balloonchallenge-win/; www.networkworld.com/news/2009/120509-layer8-darpa-mit-red-balloon.html?fsrc¼ netflash-rss; http://news.cnet.com/8301-1023_3-10411211-93.html
3. See Rita McGrath and Ian MacMillan, Discovery-Driven Growth: A Breakthrough Process to Reduce Risk and Seize Opportunity (Harvard Business School Press, 2009); Nancy Tennant Snyder and Deborah Duarte, Unleashing Innovation: How Whirlpool Transformed an Industry (Jossey-Bass, 2008); and Peter Skarzynski and Rowan Gibson, Innovation to the Core: A Blueprint for Transforming the Way Your Company Innovates (Harvard Business School Press, 2008).
4. “Massachusetts Institute of Technology (MIT) Joins Pool for Open,” Bloomberg, May 5, 2010, http://www.bloomberg.com/apps/news?pid=conewsstory&tkr=GSK:LN&sid=ay606w6B7t7M.
5. “Nurse Knowledge Exchange for Kaiser Permanente,” IDEO, 2005, http://www.ideo.com/work/item/nurse-knowledge-exchange/.
6. “Archon X Prize,” Wikipedia, http://en.wikipedia.org/wiki/Archon_X_Prize.
7. “A Prescription for Innovation,” Fast Company, April 1, 2006, http://www.fastcompany.com/magazine/104/sparc.html.
8. “Enabling Systems, Practices, And Tools: The Art Of Innovating,” Cog Project, http://www.cogproject.org/art-of-innovating.html.
9. “GE's New Healthymagination Campaign Will Boost EMR Sales,” Fast Company, May 21, 2009, http://www.fastcompany.com/blog/david-york/emr-software-and-electronic-medical-records-blog/ges-new-healthymagination-campaign-.

Skarzynski_MX.jpgPeter Skarzynski is a senior managing director and founder of Strategos (Chicago), a global strategy and innovation consulting firm and a strategic innovation consulting division of Innovaro.

Moosa-Headshot_MX.jpgNaveed Moosa is principal of Strategos. The authors can be reached at [email protected] and [email protected].

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