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Business Strategy ReviewRacing to be second Winter 2004 25

Many ideas have been developed in the lastfifty years on how big establishedcompanies could create entirely new

markets. This advice has been hungrily consumed bylarge, established corporations as well as smaller firms.After all, which company does not want to becomemore innovative and which CEO does not dreamabout leading their organisation into virgin territories,discovering in the process exciting new markets?

Yet despite all this advice and good intentions, it is very rare to find a big, established companyamong the innovators that create radical newmarkets. Why not?

The simple answer is that the advice given iseither inadequate or plainly wrong. What peopleoften forget is that “innovation” is not one entity.There are different kinds of innovations, withdifferent competitive effects. For example, what afirm needs to do to achieve product innovation maybe entirely different from what it needs to do toachieve process innovation. Lumping the two kindsof innovation together is like mixing oil with water.

What this implies is that the generic question,“How can the modern corporation be moreinnovative and create new markets?” only gets usgeneric answers – and these answers may or maynot help the company achieve the kind ofinnovation that creates radical new markets. Inother words, prescriptions to help a firm become

more “innovative” may or may not be the ones thatlead to radical new market creation.

It’s virtually impossible to offer proper advice on howto create or colonise radical new markets withoutfirst understanding where these kinds of marketscome from, what they look like and what it takes tosucceed in them. A better opening question is, “Wheredo radical new markets come from, what are theirstructural characteristics, and what skills are neededto create and compete effectively in them?” Thishelps us identify the skills and competences needed– and the strategies that must be adopted – if a firmis to be a successful coloniser of radical new markets.

In fact, as we show in our book Fast Second: HowSmart Companies Bypass Radical Innovation toEnter and Dominate New Markets, the full extent ofwhat established companies need to change to besuccessful pioneers is such a formidable challengethat many of them are better off not even trying.

Where do radical new markets comefrom?Radical new markets get created through radicalinnovation. It’s important to appreciate this pointbecause it is only by promoting this specific type ofinnovation inside a firm that the company can hopeto create radical new markets.

Innovations are considered radical if they meettwo conditions: first, they introduce major new value

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RadicalInnovation

MajorInnovation

StrategicInnovation

IncrementalInnovation

Effect of innovations on consumer habits

and behaviours

Major

Enhances Destroys

Minor

Effect of innovation on established firms'competences and complementary assets

It’s virtually impossible to offer proper advice on how tocreate or colonise radical new markets without firstunderstanding where these kinds of markets come from.

Figure 1 Different types of innovation

propositions that disrupt existing consumer habitsand behaviours – what on earth did our ancestors doin the evenings without television? – and second,the markets they create undermine the competences and complementary assets on whichexisting competitors have built their success.

Not all innovations are radical. When we classifyinnovations along the two dimensions mentionedabove – disrupting customers’ activities andundermining competitors – we get four types ofinnovation, as shown in Figure 1. The dividingpoints in the matrix are subjective and our intention is not to defend the boundaries of aparticular definition. Rather, our goal is to simplysuggest that innovation can mean different things to different people, that different types ofinnovation exist and that one particular innovationmay be more or less radical than another.

We focus on radical innovations here becausethese are the kind of innovations that give rise tobrand new markets. They are innovations thatdisrupt both customers and producers. They arebased on a different set of scientific principles from the prevailing set, create radical new markets,demand new consumer behaviours and presentmajor challenges to the existing competitors. The

introduction of the car at the end of the 19thcentury is an example of radical innovation.

Academic researchers have been studying radicalinnovation for the past fifty years. As a result, weknow many things about this kind of innovation.

Specifically, we have learned the following aboutradical innovation over the years:

� radical innovations that create new-to-the-worldmarkets are disruptive for both customers andproducers;

� as a result, these kinds of innovations are rarelydriven by demand or immediate customer needs.Instead, they result from a supply-push processthat originates from those responsible fordeveloping the new technology;

� such innovations typically lack champions, eitherin the form of lead consumers or existing market leaders;

� supply-push innovations share certaincharacteristics: they are developed in a haphazardmanner without a clear customer need driving them;they emerge from the efforts of a large number ofscientists working independently on totally unrelatedresearch projects who devise the technology fortheir own uses; and they go through a long gestationprocess when seemingly nothing happens untilthey suddenly explode onto the market.

� these kinds of innovation create small niches onthe periphery of well established markets. Thismakes them unattractive to established firms.

The fact that radical innovations result from ahaphazard supply-push process has a seriousimplication for the modern corporation. Specifically,since this process cannot be easily replicated in theR&D facility of a single firm, it is highly unlikely

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New markets created throughradical innovation

Television

Personal Computers

Personal Digital Assistants (PDAs)

Cars

Supercomputers

Semiconductors

Mobile Phones

Video Cassette Recorders (VCRs)

Medical Diagnostic Imaging

Computer Operating System

New markets created throughstrategic innovation

Internet Banking

Low-Cost Flights

Private Label Consumer Goods

Screen-Based Electronic Trading Systems

Generic Drugs

Online Distribution of Groceries

Catalogue Retailing

Department Stores

Steel Minimills

Online Universities

Not all innovations are radical. We classify innovationsalong two dimensions: disrupting customers’ activities andundermining competitors.

Figure 2 New markets created through innovation

that brand-new markets will be created by asingle firm.

Consider the development of the Internet over thelast forty years. The associated technology, bothhardware and software, was developed in ahaphazard way without a clear customer needdriving it. No one involved with the technology inthe early days had any idea that things would endup where they are today; there was no master planlinking the development of new client serverrelations between users and mainframe computersto the possibility of booking a hotel room bycomputer from a mobile phone.

This unplanned, unsystematic development of the underlying technology seems to have largelybeen a consequence of how the work was done,

and by whom – scientists and engineers in research institutes and universities in this case.Even the major early user, the US Department ofDefense, took a remarkably hands-off attitudetowards the research work sponsored by DARPA,rarely insisting that it be linked explicitly to defence needs but instead, giving it a blue skiesmandate. Furthermore, the research efforts that“suddenly” culminated in the Internet wereundertaken by a host of scientists from a number ofinstitutions and government agencies over a verylong period of time. Such a process can hardly beplanned or co-ordinated.

Supply push and the emergence of new marketsDifferent innovations produce different kinds ofmarkets. Figure 2 lists a number of markets thathave been created through innovation. Those on theleft came about through radical innovation, whilethose on the right came about through strategicinnovation. Our interest here is with the marketsthat are created through the supply-push process of radical innovation–how and when they emerge and how firms ought to compete in these markets.

So what kind of markets do supply-pushinnovation processes produce? What are theirstructural characteristics and what skills andcompetences are needed to compete effectively?

Supply-push innovation processes have one veryimportant property and this property has a profoundimpact on how new markets develop. Since theultimate consumers of the new products or serviceswhich embody a new radical technology typicallyhave very little knowledge of what the products have

to offer them and how they would feel about them,the race to bring the fruits of the new technologyto market is wide open.

No one knows what consumers really want and noone knows just what new technology can do; norhow to produce economically whatever it is thatresults from the innovation. Your guess is, therefore,as good as ours. Since there are no real barriers toentry into the (as yet) underdeveloped new market,there will not in principle be any shortage ofentrepreneurs who are willing to try out their ownparticular vision of what the new technology has tooffer. Anyone who understands the new technologyis a potential entrant; anyone sufficiently enthusedby what the new technology might ultimately offerwill try to become an actual entrant.

This is what happens in all new markets createdby radical innovation. Consider the televisionmarket. Thirty firms were producing television setsin the US in 1947, 40 more entered the followingyear and another 71 entered between 1949 and1953. The peak population of television producersin the US was 71 in 1951, a number larger than theentire number of TV manufacturers that exist today.This massive wave of entry is a phenomenon thatalways happens in the early days of new markets.Since all of these entrants bring their own productvariants to the market, the massive swelling in thepopulation of producers is usually matched by awidening in the range of product variety which iswholly unmatched by anything that happens later on.

Eventually the wave of entry subsides and is inturn followed by what is sometimes a sharp, suddenand very sizeable shakeout that leads to the deathof most of the early pioneers. The shakeout isassociated with the emergence of a dominantdesign in the market; this is an event that signalsthe beginning of growth in the industry.

The dominant design is a basic template or coreproduct that defines what the product is and what itdoes. It is a consensus good that commands thesupport of a wide range of early consumers (even ifit is not their first preference). It is a productstandard that sends signals to suppliers upstream,retailers downstream and producers of complementarygoods everywhere. Finally, it is a platform good thatallows different manufacturers to offer differentiatedversions of the product without destroying theconsensus or requiring new complementary goods.

The emergence of a dominant design is thedecisive step in establishing a new market.

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These kinds of innovation create small niches on theperiphery of well established markets. This makes themunattractive to established firms.

It signals the emergence of a standard product thatis capable of forming the basis of a mass market.For the many potential consumers who have yet toenter and make a choice, it signals the end of choiceand therefore reduces their risk. A successful dominantdesign almost always triggers massive entry byconsumers into the market, and ushers in the earlyheavy growth phase that most markets undergo.

The emergence of a dominant design is importantfor a second reason. The hundreds of early pioneerswho entered the new market on the basis of differentproduct designs die soon after the dominant designemerges. On the other hand, the champion whoseproduct forms the basis of the dominant designoften develops substantial and very long lived firstmover advantages from being the productchampion. Notice that most of these so-called “firstmovers” were not, in fact, the first into the market.All of them were preceded by many, now forgotten,entrepreneurial start-ups whose work formed thefoundation upon which these slightly later entrantsbuilt. These “first movers” were first only in thesense that they were the first to champion theparticular product variant that became thedominant design. They were first when the market,not the product, emerged – and this is why theyended up with most of the profits.

It is important to emphasise three points thatemerge from this.

� Very few of the original entrants (the pioneers)survive the consolidation of the market. Mostdisappear, never to be heard of again.

� The consolidators who ultimately win are rarelythe first in the new market. Their success isbased precisely on not moving fast – but bychoosing the right time to move.

� Consolidators’ activities – entering at the righttime, standardising the product, cutting prices,scaling up production, creating distributionnetworks, segmenting the market, investing inadvertising and marketing – are the activities thatcreate what we somewhat inaccurately call “firstmover advantages.” Consolidators’ shrewdmovements create buyer loyalty, obtain pre-emptive control of scarce assets, go down thelearning curve, create brands and reputation andenjoy economies of scale benefits – all of which

give them advantages that potential new entrantsdon’t have. Thus, even though pioneers arechronologically first to market, consolidators arethe “real” first-movers. They are the first to themarket that counts – the mass market!

The upshot of all this is that the companies thatend up capturing and dominating the new-to-the-world markets are almost never the ones thatcreated these markets. Henry Ford did not createthe car market, but his company ended upcapturing most of the value in that market in itsfirst century of existence. Procter & Gamble did notcreate the market for disposable nappies, but itharvested most of the value from the mass market.And General Electric did not create the CAT scannermarket, yet it was GE that made most of the money.

It turns out that when it comes to radical newmarkets, this is more the norm than the exception.So – given this fact – why would any company wantto create a new market? Surely, the advice weshould be giving companies is how to scale up andconsolidate new markets, not how to create them.

How to “create” the industries of the futureAll this has serious implications for big establishedcompanies. Specifically:

� the innovation process that creates radical newmarkets cannot be replicated inside the moderncorporation;

� the companies that create brand-new markets arealmost never the ones that end up consolidatingand dominating these markets.

These two facts suggest to us that big, establishedfirms should leave the task of creation to “themarket” – the thousands of small, start-up firmsaround the world that have the requisite skills andattitudes to succeed at this game. Established firmsshould, instead, concentrate on what they are good at – which is to consolidate young markets into big mass markets.

They could do this by creating a network of feeder firms – young, entrepreneurial companiesthat are busy colonising new niches. Through itsbusiness development function, the establishedcompany could serve as a venture capitalist to

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Notice that most of these so-called “first movers” were not,in fact, the first into the market. All of them were precededby many, now forgotten, entrepreneurial start-ups whosework formed the foundation upon which these slightly laterentrants built.

these feeder firms. It may also help them withtheir own R&D, more to keep close to technologicaldevelopments than for any other reason. Then, when itis time to consolidate the market, it could build a newmass-market business on the platform that these feeder

firms have provided. Since the younger firms do nothave the resources, power, marketing and distributionto scale up their creations, they should – in principle– be happy to subcontract this activity to the biggerfirms, subject to a fair division of the spoils.

What we are proposing here is for the moderncorporation to subcontract the creation of radical newproducts to the market and for start-up firms tosubcontract the consolidation of these products tobig established firms. This will strike some people astoo radical an idea, but it is in fact a business modelthat is widely accepted in industries where companieslive and die on their ability to bring creative newproducts continuously to the market. We are talkingabout creative industries such as movies, plays, artgalleries, book publishing and music publishing.

Think about it. A major book publisher does not try to create any of its “new products” (thebooks) internally. It could, of course, attempt to doso. It would involve hiring thousands of employees,giving them an office and a computer and askingthem to produce new books in return for a fixedsalary. But how silly does that sound? Anorganisational structure like that would be the

fastest way to destroy the very creativity andinnovation it seeks to generate!

Instead of attempting to do everything internally,a major book publisher goes out in the market,identifies potential product creators (authors) andsigns them up to deliver their product. Once theproduct is created (outside the bureaucracy of thebig firm), the author subcontracts the marketing,promotion and distribution of their creation to thebook publisher. Just as it would be silly for the bigpublisher to attempt to create the new productsinternally, it would be a similar act of folly for anindividual author to attempt to sell and promotetheir book on their own. The division of labour

builds upon the strengths of each participant and isa solution that maximises the welfare of everyoneinvolved. There may be disagreements and problemsbetween publisher and author, but that’s whatmanagement is there for.

Professor Richard Caves is to be thanked for thisinsight. Caves alerted us to the striking similaritybetween what we are proposing (division of labourbetween young and established firms) and what hewas observing in his study of creative industries.This is an arrangement which appears to be thenorm in several creative industries. How many artgalleries do you know that create their own“products” (paintings) every year? Equally, howmany famous painters do you know who used to befull-time employees of major art houses? The imageof Picasso or van Gogh labouring away in the R&Dlab of a major gallery, straining to create their nextmasterpiece is so laughable, that no one would takeit seriously. Yet this is exactly how we have organisedthe modern corporation to deliver new radical products.

As a final example, consider the record industry.It would be hard to imagine any famous singersactually working as full-time employees of the bigrecord companies. Professor Caves’ research on thesubject has shown that there is a very clear divisionof labour in this market: “Large and small firms playdifferent roles in the recruitment of performers andpromotion of their albums. The large companies’

distinctive competence lies in promotion and recorddistribution on a large – increasingly international –scale. The small or independent company performsthe gatekeeping function of recruiting new artistsand, particularly, identifies and promotes new stylesof music and types of performers. The distinctionclosely parallels that between contemporary artgalleries that focus on identifying and developingartists with promise and those devoted to promotingsuccessful artists.”

A similar proposition to ours was developed byReid McRae Watts. In The Slingshot Syndrome, hemakes the same link between creative industriesand the creation of new radical products, showing

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Established firms should, concentrate on what they aregood at – which is to consolidate young markets into bigmass markets.

What we are proposing here is for the modern corporationto subcontract the creation of radical new products to themarket and for start-up firms to subcontract theconsolidation of these products to big established firms.

how the modern corporation could structure itselfalong the lines that one sees in creative industries.The interested reader is directed to both books.

Some people might object that the division oflabour between creators and promoters that we seein creative industries is easy to achieve because thecreators of the product are mostly individuals(authors, singers, painters). Therefore, the argumentgoes, it is easy to allow them to operate as freeagents and simply sign them up whenever they havesomething to offer. By contrast, the creation of anew radical product often requires many scientiststo work together, usually in the same laboratory,building upon the knowledge and expertise of theorganisation. This requires some co-ordination andsupervision of the work.

Although this is a valid concern, we only have tolook at the film industry to understand how the divisionof labour that we are advocating here could beachieved even when there are many people involvedin the creation of the product and co-ordination isnecessary. In the film business, a new product (amovie) starts with a screenplay, often written by an

independent agent (the writer). The writer approachesseveral producers to seek financing. The producersmay be independent or employed by distributioncompanies such as Disney, Sony, or Time-Warner.Once a producer acquires the rights to the screenplay,it is their job to provide the financing as well as thedirector and the actors to make the movie.

Once again, these are all independent agents,willing to offer their services to a specific project fora specific fee. It is only when the product is finallycreated that the big established firm – the studio –moves into action. The studio acquires the rights to

distribute the new product and uses its massivemarketing power and existing distributioninfrastructure to sell, promote and distribute the film.

Therefore, in several creative industries we see aclear separation between those who create the productand those who promote, distribute and sell it. Needlessto say, the “promoters” must be knowledgeableabout the latest technology and products so thatthey can make an intelligent assessment of whethera painting, book or record is good enough for themto promote. But they do not have to be activelyinvolved in its creation. If this organisation of workfunctions well in creative industries, shouldn’t we atleast attempt to import it into other industries thataspire to become more creative?

In fact, when we compare the basic economicproperties of creative industries with the featuresthat characterise new radical markets, the two typesof market are amazingly similar. Given this fact, wewould be surprised if the organisational structurethat characterises creative industries cannot bereadily imported into any industry that aspires tocreate radical new markets. �

Resources

Markides, Costas, and Geroski, Paul A. (2004), FastSecond: How Smart Companies Bypass RadicalInnovation to Enter and Dominate New Markets,Jossey Bass.Caves, Richard (2000), Creative Industries:Contracts between Art and Commerce, HarvardUniversity Press.Watts, Reid McRae (2000), The SlingshotSyndrome: Why America’s Leading TechnologyFirms Fail at Innovation, Writers Club Press.

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The image of Picasso or van Gogh labouring away in theR&D lab of a major gallery, straining to create their nextmasterpiece is so laughable, no one would take it seriously.Yet this is exactly how we have organised the moderncorporation to deliver new radical products.

Costas Markides (cmarkides@london.edu) is Robert P Bauman Professor of Strategic Leadership atLondon Business School.

Paul A. Geroski (pgeroski@london.edu) is chairman of the Competition Commission and a professor ofeconomics at London Business School.

Costas Markides and Paul Geroski are the authors of Fast Second: How Smart Companies BypassRadical Innovation to Enter and Dominate New Markets (Jossey Bass, 2004).

London Business School Regent’s ParkLondon NW1 4SAUnited KingdomTel +44 (0)20 7262 5050Fax +44 (0)20 7724 7875www.london.eduA Graduate School of the University of London