Part 3 of a series
Read Part 1: A Portfolio Approach to Strategic Planning
Read Part 2: Plotting the Growth Vectors of Your Strategy
Constructing your innovation portfolio is similar to constructing an investment portfolio. Your innovation portfolio is comprised of assets (innovation projects), each of which individually serve different goals and have different risk and return expectations, which are then combined to achieve the highest total return for a given level of risk. Some of the component assets are designed to provide stability and wealth preservation (what we previously described as “extending the line” of your current results, or defending and extending today’s core business), while some are designed to provide incrementally increased returns (“bending the line”) and yet others are big bets that swing for the fences (“transcending the line”).
Just like an investment portfolio, along with these increasing expectations of return come commensurately greater risk. Although that may be inherently obvious, let’s take a moment to understand why that is. Extending the line of your current results usually involves selling more of your current products and services to your current customers in your current markets. As a result, you have less upside potential, but you are also taking less risk because you are dealing with known knowns.
There is greater opportunity to bend the line beyond your current results by either selling additional products and services to your existing customers or selling more of your existing products and services to new customers, but you are also dealing with greater uncertainty which increases the risks. The risks and return potential increase further as you stretch in either direction; with increasingly new and innovative products, or to customers or markets much different than what you already understand well.
The return potential also increases as you move from the lower left towards the upper right because you may be moving away from a crowded and competitive space in the market and towards uncontested white space where you can truly differentiate yourself. Keep this in mind when you are tempted to move more bets to the seemingly “safe” realm of the known knowns, most of the new growth will come from doing truly new things. The whole objective is to balance defending and extending your existing business while creating viable options for the future
Unless your core business is tanking rapidly, and you need to bet the farm on a radical Hail Mary to survive, this will almost always involve some investment in core business. On the other hand, allocating too much of your portfolio there is ironically a risky proposition in itself because you aren’t investing enough in the future. This can work for a while, but eventually you will fall too far behind and will be unable to catch up.
Optimal Portfolio Allocation
There is no singular optimal portfolio mix of risk and return across the industry, it really depends on your current situation, your objectives, and your risk appetite. As a starting point though, we tend to agree with the research done by the Monitor Group, which suggests starting with an initial mix of:
Roughly 70% of your innovation budget (including hard costs and soft costs like labor and managerial attention) in those activities that can defend and extend your existing core business (sometimes referred to as ‘core’ or ‘incremental’ innovation)
Approximately 20% may then be allocated into the adjacent middle space, pushing the envelope, but not extending too far into the complete unknown (adjacent innovation)
The remaining 10% can be used to make small bets that can potentially make a transformational impact, but have much greater uncertainty (radical or transformational innovation)
These are by no means certain or static allocations. Different situations in different parts of the business may call for dramatically different allocations, and they should be periodically reviewed and adjusted as needed
We call our version of this the Results Horizon Map, and it builds on the Growth Vectors Map we discussed previously to help you visualize this allocation. It also to give you a measure of how much you are playing defense (extending the line through incremental innovation) versus playing offense (bending or transcending the line through more radical innovation).
It can also give you a rough idea on where your ideas might fit across time horizons. There is not a perfect 1:1 correlation for this map to a firm timeline, but as a very rough guide:
Most incremental innovations (Extending the Line) can be completed and start achieving results in 0-18 months, sometimes at the very short end of that range
Many adjacent innovations (Bending the Line) can be completed and start achieving results in 18-36 months, although it could be shorter or longer
Many more radical innovations (Transcending the Line) can be completed and start achieving results in 36 months, sometimes even longer. Shorter is also possible, but we should plan on game-changing results to take some time
We can apply this map discretely against each quadrant, or across the entire portfolio
We find this map useful in at least two ways—first as a blank canvas to help boards and leadership teams articulate their innovation ambition and their risk tolerance. We believe that organizations need to create a Declaration of Innovation, that articulates the who, what, when, where, why, and how of an innovation strategy. Without a clear innovation strategy and a framework for measuring success, it's all too easy to get caught on an endless treadmill of chasing the latest cool technology.
This map can also serves as bit of a reality check. We often ask those that profess a relatively high tolerance for risk if they are truly prepared to have some of their most ambitious efforts go to zero value. This is a very real possibility for more transformational innovation projects, and it is a far cry from the way many bankers are used to managing risk in their existing credit or investment portfolios.
The second way to use this map is to plot organizations’ current project list to see how it aligns with the portfolio preferences they expressed in the abstract. Often there is a significant mismatch between what they hope to accomplish and the activities they are already undertaking. Engaging the team to proactively consider how to fill these gaps can help build a more complete innovation portfolio and start to generate results more in line with their ambitions.
In Part 4, Prioritizing Your Innovation Portfolio, we will discuss some tools and frameworks to help prioritize a long list of projects competing for limited resources within the portfolio.
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