Digital innovation strategy: Framework for diagnosing and improving digital product and service innovation
The perils and promises of the digital world. Digital technology has become increasingly important as companies seek to achieve their business goals. However, recent research has highlighted difficulties in evaluating the value generated by digital technology investments. In the 1990s, the first generation of IT applications enabled companies to streamline their internal operations while providing opportunities for process innovation. More recently, digital technology expanded beyond internal dimensions, penetrating companies’ product and service offerings.
The unique properties of digital technology enable new types of innovation processes that are particularly rapid and difficult to control and predict. Therefore, companies need dynamic tools to support them in managing their digital innovation efforts. To this end, the framework identified five key areas to be measured and evaluated in seeking to manage digital product and service innovation:
- Digital products and services must not only be efficient to use and easy to learn, but also provide a rich user experience. Such user experience can be measured on its levels of usability, aesthetics and engagement.
- Companies need to clearly articulate the value proposition of each digital product and service: How do they create value for the users? The quality of such value propositions is assessed on the dynamics of customer segmentation, product and service bundling, and commissions to channel owners.
- Digital evolution scanning involves gathering intelligence on new devices; digital channels such as web services, mobile operating systems, and social media; and app stores – as well as standards and APIs – in order to identify and exploit opportunities for innovation across emerging use contexts and new user behaviours.
- As digital innovation requires new skills, companies need to evaluate their mechanisms for supporting continuous learning of the unique properties of digital technologies in order to set up dynamic innovation teams.
- As digital innovation processes are often ignited when organisational members extemporise with digital technology in a learning-by-doing fashion, assessing the available space and time for improvisation and the mechanisms for co-ordinating such efforts is key.
The process of implementing the framework presented involved making informed decisions that cut across three dimensions:
- the company’s products,
- its digital environment, and
- its organisational properties.
Digital innovation strategy: Framework for digital innovation
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By obtaining composite measures for each area, the framework enables companies to effectively manage their digital product and service portfolio over time. While implementing the framework enables companies to harness an expanded scope of digital innovation benefits, such an effort requires planning and preparation. Sufficient time must be allocated for the process, and because it involves change throughout the organisation, unintended consequences are likely to occur along the way. To support the first step of the implementation process, Nylen and Holmstrom presented a diagnostic tool that allows organisational members to score their current operations. This enables the firm to get started in evaluating and measuring its digital innovation efforts. The outcome of implementing the framework is a readiness for digital innovation whereby companies continuously adjust their operations in order to harness the benefits of digital innovation.
Digital innovation: What’s new?
As information is increasingly digitised and mobile devices accelerate in pervasiveness and processing power, an arena and architecture for innovation are opened up – one in which physical and digital components are combined. The unique properties of digital technology enable new types of innovation processes that are distinctively different from the analogue innovation processes of the Industrial Era.
Can digital innovation be managed?
Digital technology generates highly complex innovation challenges. Therefore, the question arises: How can digital innovation be managed? Or, rather, can it be managed at all?
A rich body of management research has investigated the relationship between technological innovation and radical change. New technologies can profoundly challenge existing markets. However, the competencies of established companies actually stand in the way of innovations. Scholars have elaborated on macro-level strategic models that can enable companies to overcome this dilemma. For example, companies can learn how to deal with radical and incremental innovation simultaneously by building ambidextrous structures and accumulating dynamic capabilities. While these established strategic models for technological innovation management are useful, recent studies use new digital technologies, such as digital cameras, as objects of research. Still, the distinct and unique characteristics of digital technology tend to fade into the background. To this end, extant research on digital technology and organisations suffers from two limitations:
- It tends to not fully open up the black box of technology. When working towards managing digital innovation, this is an important first step to take; companies that seek to innovate their product and service offerings with digital technology need managers well-versed in the specific nature of digital technology.
- Research on technological innovation tends to adopt a macro-level perspective on its object of study, often resulting in high-level descriptions of strategic recommendations. To address this gap, Nylen and Holmstrom turned their attention to the key areas to be addressed when managing digital innovation processes as they unfold in practice.
Digital innovation processes
While digital innovation is a means for new entrants to leverage digital technology in order to challenge incumbent companies – ultimately causing radical industry-level transformation – it also provides opportunities for incumbent companies to enhance and expand their product and service portfolios. However, a key challenge for any business seeking to manage digital innovation entails understanding the unique properties of digital innovation processes.
When engaging in digital innovation, incumbents and new entrants face challenges and opportunities that showcase an exceptional complexity. One key aspect of this complexity is the rapid pace of digital innovation processes. Ultimately, this rapid pace is enabled by the malleability (the ease with which something can be reconfigured) of digital technologies. The rapid pace of digital innovation processes is particularly challenging as companies engage in the design of ‘hybrid’ or ‘smart’ products, via which digital components are embedded in traditional products. An example can be found in the ways in which a major car manufacturer faced complex challenges when embedding GPS systems while separate analogue and digital innovation processes unfolded simultaneously at a radically different pace.
One of the reasons why digital innovation processes are particularly difficult to control and predict is the ‘generativity’ of digital technology. When users leverage digital technologies as components or platforms to create new products and services beyond the original design intent, it can result in cascades of innovation, whereby each innovation provides a platform for the next cascade. Finally, digital technologies constantly evolve towards higher processing capacity and lower cost. As digital technology becomes increasingly ubiquitous and affordable, hindrances are removed for engaging in digital innovation, thus enabling new constellations of actors to generate, develop, and fund novel digital products and services.
When exploring how companies can address the complexities associated with digital innovation, the characteristics of digital technology need to be put in the foreground. These unique properties of digital innovation processes call for companies to challenge established views and assumptions about the role and configuration of their product and service portfolio, their relationships to the digital environment, and how organisational properties are configured to support innovation work.
Digital innovation strategy: Framework for digital innovation
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Digital innovation in context
The first online shopping websites were often poor translations of printed mail-order catalogues. E-commerce has since evolved, expanding the frontiers of digital service innovation. Now, online retailers such as Amazon offer more than convenience and cheaper products – by offering recommender systems as well as products at the far end of the long tail, they provide truly novel retail goods consumption. Online digital service innovation investments have also enabled traditional companies to gain strategic competitive advantage.
A new family of products is currently emerging as digital components are embedded in traditional products such as toothbrushes and heat pumps. Frequently referred to as ‘smart products,’ the embedded digital components enable companies to complement physical goods with online and mobile services that use the data generated. While the promises of smart products and ‘the internet of things’ is hotly contested, it is predominantly discussed in the context of home appliances. However, smart products are also emerging in the context of industrial manufacturing equipment. Here, embedded digital capabilities enable real-time monitoring and service forecasting instead of scheduled servicing.
The effects of digital innovation are particularly pervasive for companies that engage in information-based products that can be fully digitised. While the mainstream media industry is in the midst of such a restructuring process, it seems the music industry has somewhat stabilised after a transformation that was ignited at the turn of the millennium. Record labels had optimised their operations by selling one product – vinyl albums (and later CDs) – and then distributing copies. It was an efficient means of delivering music artists’ recorded work to the public from the 1940s onward. In the late 1990s, the emergence of peer-to-peer networks such as Napster confronted the music industry with unexpected challenges. When the audience wanted to listen to new music in novel ways, the industry’s somewhat closed approach to innovation was exposed. Although customers were moving in another direction, many major record labels continued to consider their core business the production and sale of music CDs. Historically, labels controlled their own value chain from end to end: from signing new artists to distributing his or her music to record stores. Unwillingness to challenge this definition, along with certain insensitivity towards customers’ interest in MP3 files, hampered digital innovation.
The music industry failed to manage digital innovation. As did Kodak, which failed to re-orient its business as digital cameras emerged. We have, however, also seen how digital innovation can enable established companies to move into new domains. A classic case of such digital portfolio expansion is IBM’s shift in focus from hardware to software and services as PC diffusion accelerated in the early 1990s. Another example of such digital portfolio expansion is Apple effectively becoming a music distributor with iTunes. Along with new entrant Spotify, Apple contributed to energising the business ecosystem in the music industry through digital service innovation. Although the internet once seemed hopeless as an arena for paid content, Netflix rebutted such notions while invigorating the film and television industries. Netflix took digital service innovation a step further by not only distributing digital content but also producing it. Going back to the music industry, additional links in the value chain were eventually reconfigured due to digital innovation. For example, software such as Garageband enables cheaper and highly mobile music production, while free-of-charge alternatives such as Soundcloud illustrate that iTunes and Spotify are not the only gateways.
As companies engage in digital innovation, they face a number of uncertainties. For example, questions arise about what factors govern the adoption of digital products and services. In addition to defining the boundaries between different products and services, companies need to consider how each product and service can generate revenue in different ways through balancing free and premium components. Companies are also challenged to keep constantly up-to-date with how new digital technologies relate to their business and to identify new opportunities for innovation. In organising their digital innovation efforts, companies need to cultivate and source new skills both internally and externally while co-ordinating improvisational efforts in multiple digital innovation projects.
A managerial framework for digital innovation strategy
In seeking to manage digital product and service innovation, there is uncertainty occurs across three dimensions:
- the company’s products,
- its digital environment, and
- its organisational properties.
Therefore, companies need a holistic view of digital innovation when navigating the rapidly changing digital innovation landscape. The framework presented by Nylen and Holmstrom enables companies to gain such a holistic view of digital innovation, helping them to motivate and keep track of their digital innovation efforts. The five key areas included in the framework are:
- user experience
- value proposition
- digital evolution scanning
- skills
- improvisation.
Digital innovation strategy: Framework for digital innovation
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Digital innovation strategy: User experience
Since the late 1990s, consumer goods and services such as home appliances and air travel have been increasingly purchased via e-commerce websites, which compete on more than just price. Here, website navigation has to be smooth, while based on filtering functionalities that allow users to seamlessly navigate massive product databases and arrive at the desired product in a few clicks. Measuring efficient browsing and usability is, however, not enough – the customers’ experience of interacting with these sites is key. While the user experience design is a central differentiator and competitive force, most websites have a substandard user experience design. In digital innovation, measuring the user experience involves not only usability issues, but also the aesthetic properties of digital products and services. Users are affected by appearance, so these aspects need to be carefully leveraged and aimed at evoking a positive emotional response from the user.
It could be argued that the consistent aesthetics of Apple’s hardware and software under the reign of head designer Jonathan Ive contributed to raising the user experience high above competitors, thereby contributing to Apple’s market dominance.
The user experience can be measured by the way the company’s digital products and services evoke engagement. When seeking a way to create digital products and services that are engaging, companies need to explore and tap into values that can make the experience of their digital products and services meaningful to users. Creating an integrated user experience that evokes engagement is particularly important when moving beyond websites and desktop applications. The smartphone application Foursquare is a successful example of the role of engagement in the user experience design. While supporting location-based check-ins, Foursquare rewards the user with both virtual badges and titles while showing the user how she is doing compared with friends. User experience is the first key area that companies need to measure in order to motivate and keep track of their digital innovation efforts. This is done through obtaining a composite measure of the levels of usability, aesthetics, and engagement in companies’ digital products and services.
Digital innovation strategy: Value proposition
In the Industrial Era, dominant designs provided a structure that enabled benchmarking and unified pricing. In the digital age, however, companies increasingly innovate on malleable intangibles that can be rapidly reconfigured. Therefore, while digital product categories are fragile and negotiable, the ongoing reconfiguration of the firm’s business model has been highlighted as critical in a context of digital innovation. In this context, the business model defines the ‘architecture of the revenue’ while addressing the processes of value creation involving the value network around the firm, including suppliers, customers and third parties.
Indeed, digital innovation has contributed to demolishing several established Industrial Era business models. Digital innovation is associated with new logic and configuration of revenue streams. In Nylen and Holmstrom’s framework, the value proposition of digital products and services is evaluated by assessing three elements, beginning with customer segmentation. This involves analysing the customer base in order to make strategic decisions about how to reach different groups of customers with the products and services in the firm’s digital portfolio. Customer segmentation enables companies to start reflecting on the pricing and positioning of their digital products and services.
Having segmented the customer base, companies need to decide how the products and services in their digital portfolio can be differentiated and bundled. This includes the specific configuration of the balancing of premium and free, and the role of advertising in each of the firm’s digital products and services. iTunes, for example, challenged the music industry’s established bundling model by pricing tracks instead of albums.
In contrast to traditional product licensing models, companies engaging in digital innovation are faced with commissions of channel owners. For example, the Apple Store and Google Play both take a 30 per cent commission on sales, while e-commerce storefront services vary in their commissions. Therefore, companies need to consider how the commission of channel owners can be negotiated.
Digital innovation strategy: Digital evolution scanning
Digital technology seems to evolve out of itself, starting with a few simple hardware and software components, combined in several rounds over time into more and more sophisticated and integrated ones, forming systems of increasing complexity.
During the past decade we have seen how this evolutionary process is constantly speeding up. This is not only manifested in ever-shorter release cycles of digital devices, but also in the explosion of social media and communication services and applications. Companies need to monitor these developments in order to ensure compatibility by implementing timely upgrades of their digital products and services. However, this monitoring moves beyond compatibility concerns when companies seek to harness the full scope of digital innovation.
Digital evolution scanning involves identifying new opportunities for innovation. As digital innovation emerges in these acts of recombination, companies need to continuously consider how they can be active participants. That is, how can they exploit these opportunities and generate an aggregated value through creating digital products and services that use existing components?
In doing so, companies need to keep up-to-date with and analyse the progress of digital technology and associated usage patterns. This is done through gathering intelligence on which new hardware devices are on their way to market, including components such as memory, processors and chips, and devices such as PCs, smartphones, and tablets. Companies need to expect this evolution to continue and assess how it relates to their business.
Furthermore, digital technology has enabled a reinvention of sales and distribution channels. Companies can now position and integrate their products and services with an abundance of mobile operating systems, social media sites, and app stores. Facebook is currently a key actor for many companies that use the platform to a varying degree, ranging from small businesses that push information out to their customers, to large players that use Facebook to pull new customers in through formalised partnerships. Finally, digital evolution scanning involves observing new user behaviours. To this end, new markets can emerge as users sometimes unexpectedly adopt a digital technology into a new use context.
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Digital innovation strategy: Skills
Skills
The core competencies of incumbent companies can actually stand in the way of innovating when entering new markets. This is also a challenge in digital innovation, but as production of quality products and content remains key, digital innovation requires new skills without making all existing skills obsolete.
Industrial Era companies should seek to leverage and translate skills obtained from developing analogue products. Measuring this key area involves taking stock of the ways in which learning is supported and promoted throughout the organisation. Digital innovation involves continuous learning whereby new digital technologies are explored in order to create an understanding of their unique properties. This can involve establishing conditions for retraining and incentives for existing staff to acquire digital skills. Companies should be alert and identify organisational members that are drifting from their established roles towards improvising with digital technologies. Such talent is important to pick up in order to secure the appropriate skillsets for future projects, ultimately achieving sustainable digital innovation management.
While new roles can emerge from within the organisation, companies may recruit externally for specialised digital staff that complement existing staff. In combining such roles, it is a key challenge for managers to assess the current status of organisational members’ skills, ensuring that they can be fruitfully assembled in dynamic innovation teams with the right combination of skills for each project.
While managers may engage consultants to achieve quality digital service designs in individual projects, developing in-house skills ensures the agility needed to handle the rapid pace of digital innovation processes.
Digital innovation strategy: Improvisation
In the Industrial Era, product development was a slow and costly procedure. Trained organisational members in formal engineering and designer roles exclusively handled this activity. In contrast, digital technologies are ubiquitous in contemporary companies. By promoting improvisation throughout the organisation rather than trying to impose central control on all digital innovation processes, contemporary companies can harness complexity through combinatorial innovation.
In the digital realm, an improvisation is often an act of reconfiguration. The malleability of digital technologies affords a higher degree of improvisation than their analogue counterparts. Improvisation involves risk-taking, and the low cost of digital technology also means a lower cost of failure. Therefore, managers need to ensure they provide staff with an improvisational space in which structure and flexibility are balanced in such a way that the constraints maximise creativity while evoking ‘generativity’. Google, for example, allocates 20% of employees’ working hours to individually initiated projects.
It is critical for companies to establish mechanisms for capturing the successful outcomes of such efforts. Meanwhile, in order to deal with overlaps and waste, co-ordination is a key measure.
Digital innovation strategy: Delivering digital innovation
When successfully implemented, Nylen and Holmstrom’s framework enables companies to continuously adjust their operations in order to optimise digital innovation efforts. It should be noted, however, that because each company is unique, the ways in which each measure is operationalised and deployed may differ substantially. Tailoring the framework involves deciding whether to use quantitative or qualitative measures. Indeed, digital technology opens up multiple ways of capturing data. For example, in the product dimension, companies can negotiate with customers to share their data in order to gain insight regarding usage and purchasing patterns. In terms of the environment, companies need to investigate how they can capture or ‘scrape’ web data from technology blogs and similar venues to obtain intelligence on developments in digital technology that complements their existing business intelligence practices.
Many factors influence companies’ digital innovation efforts. While factors such as political policies and regulations were always important in a context of innovation, this is also the case in digital innovation. Nylen and Holmstrom’s framework, however, focuses on the new key areas to be prioritised due to the unique properties of digital technology. Another limitation of the framework is that it does not cover internal process innovation enabled by digital technology.
While being able to deal with the rapid change associated with digital innovation processes is key in contemporary companies, this is clearly still unchartered territory for many businesses. This fact underlines the importance for all companies to have in place appropriate tools for managing digital innovation. And while Nylen and Holmstrom’s framework is informed by recent research and industry developments, the academics hope to inspire additional managerial accounts and further scholarly study in this exciting domain.
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