Tuesday, May 15, 2012

Live from Front End of Innovation 2012: Scott Mathews on Creating Valuable Innovation Portfolios

How is it possible to quantify concept value?


One of the difficulties to consider in the financial evaluation of projects is to determine the financial feasibility and profitability of potential innovations.  Mathews suggests that companies start moving from tactics to broader strategy.

One way to start is by taking on a strategic innovation framework:

1) Strategic intent (What do you want to do?  Grow the strategy throughout the innovation process, and then execute it)
2) Idea generation
3) Innovation portfolio
4) Project portfolio -- starts with a demonstrated technology and execution of strategy

The optimal strategy is to select ideas that require minimal R&D investment and produce maximal value.

As simple as this sounds, however, there are a number of key dilemmas that innovation portfolios face:
  • Effective management of many small-dollar concepts
  • Unclear strategies make executives uncomfortable, especially because is hard to determine for certain how valuable a given investment will turn out to be
  • "Kissing frogs" => investing in many failures
  • Quantifying value in early-stage concepts -- how do we do it while keeping costs low?
  • Handling unpredictability

One way for companies to be more effective in managing so many small-dollar innovation ideas and concepts is to use clustering and aggregation.  They can figure out the strategies that underlie groups of ideas, and group them into higher-order clusters of ideas that each fall under the rubric of a strategic area.  As such, they can use simple rules that reflect the emergent behavior of complex systems.  Another important piece of the valuation process is to use strategy emergence.  This starts with the recognition that current strategy isn't actionable; it's indeterminate.  From there, companies can let the strategy mature as certain clusters come into focus as being of more immediate importance.  Firms can then start with small investments tied to success prospects (option and momentum investing).  After all, there may be any number of unforeseen factors, which is why small experiments are so important.

There are multiple phases to the development and valuation process, which should coincide with the evolution of strategy and product design:

PHASE 0
-Course screening: use qualitative measures that give broad categories to the ideas that enter the portfolio, which helps to make quick choices. (see also: fast and frugal heuristics)
PHASE 1
-Consider costs and revenues (keep a low threshold for qualification so that people are more willing to come forward with ideas)
PHASE 2
-What potential do ideas have based on best and worst case assumptions?
-Scenario value ranges (use subject-matter experts): risks, opportunities, assumptions, contingencies
PHASE 3
-Reveal hidden assumptions so that they can be tested
-Consider the actual cash flows of each idea
-Mitigate risks (start using gates), and consider aspects like market, customers, competition
GATE A Ready
-Business case and development plans

There are often questions as to whether selection criteria should be quantitative or qualitative.  Despite the potential value of qualitative assessments in initial phases, their subjectivity, frequent lack of consensus, and large uncertainty around rating assessments makes them unwieldy for use in real options valuation.  Thus, Mathews recommends using 5-8 quantitative selection criteria that are independent and mutually exclusive, and which can be combined to compute additional value metrics.  Optimally, these would be applicable at all of the phases noted above.

Critical aspects of the portfolio valuation system:
  • Decision support systems
  • Comprehensiveness
  • Transparency
  • Analytics
  • Access to data, expert opinions
  • Quick, insightful analysis
  • Innovation teams
  • Cross-enterprise/industry
  • Agility

Ultimately, a company that wants to innovate should develop "a portfolio of portfolios," which allows for diversifying risk and innovation at a number of levels, and enable organizations to innovate across the board, from the micro to the macro.


Orin C. Davis is the first person to earn a doctorate in positive psychology.  His research focuses on flow, creativity, hypnosis, and mentoring, and it spans both the workplace and daily life.  He is the principal investigator of the Quality of Life Laboratory and a freelance consultant who helps companies maximize their human capital and become better places to work.


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