In this post we'll first have a look at R&D spending in large companies over the past years to understand what type of innovations they focus on. That will help us understand which type of risk they predominantly manage. Then we'll show why and how to extend that focus to managing market (customer) risk as well.

Over the past 10 years Strategy& (formerly Booz & Company) has been tracking the R&D spending of some of the largest public companies. In a recent report they found that the top 20 R&D spenders did not directly correlate with the top 20 innovators.

In another instance, Strategy& identifies three innovation models and the pros and cons to each. The models discussed are "need seekers" (focus on customer needs), "market readers" (focus on competitors), and "technology drivers" (focus on technology). Unfortunately, the majority of companies spend the lion's share of their budgets on market reading and technology driving activities. The net result is a substantially higher percentage of incremental and sustaining innovations at the detriment of radical and disruptive innovations.

Perhaps of greater importance than if a company produces 'incremental' versus 'radical' or 'sustaining' versus 'disruptive' innovation is whether or not a company is actually minimizing its risk to the fullest as a result of its chosen innovation model.

Technology risk - can it be built?

Companies following "market reader" or "technology driver" models primarily address technology risk. The question is essentially whether or not the technology/product can be built with "sustainable competitive advantages" or whether or not it can actually even be built at all.

If it is in fact theoretically and functionally possible to build the new technology or product , the next questions that follow for a company are things like, "Can we build it? Do we have the proper resources and capabilities? If not, how and where will we acquire them?"

Assuming that the above questions can be resolved, the company might make plans setting forth exactly how the responsible team will prove the viability of the technology through proper simulation and prototyping. The proof of viability will lie in whether or not the team is actually successful in producing a working technical solution.  

Usually at this point the company will determine whether or not to actually bring the new innovation to market. Unfortunately, by now so much time, energy, and resources have been plowed into the technical research and development process that companies experience an escalation of commitment to the new innovation and tend to brush over and sprint through the appropriate market research in order to bring it to market as fast as possible. 

Addressing these types of questions in the face of technical risk may seem obvious. What is not so obvious though is that only a very small number of companies really even actually need to address this type of risk. Eric Ries, author of The Lean Startup says, "We're entering an era where the dominant question that innovators face is not 'can something be built' but 'should it be built'." Despite this reality, from our own experience many companies still tend to take a very strong product stance focusing mainly on technical components when what they really ought to be focusing on is market risk.

Market risk - should it be built?

Companies that are "needs seekers" set out primarily to address market risk. While very few companies actually need to focus on technology risk, virtually all new ventures must deal with market risk. The primary question of market risk is, as Eric Ries stated, whether or not something should even be built.

In order to determine this we need to figure out first and foremost whether or not there is even a customer segment that is willing and able to pay for it. We can set out to prove this by using Customer Development and Lean Startup methodologies. It will require you to take some risk and experiment on your business hypotheses with customers by showing them early concepts, prototypes, and minimum viable products.

Often times in the process, as a team you will learn that the original assumptions surrounding the technology will oftentimes need to be adjusted to meet the needs and demands of the customer segment that is most willing and able to pay.

Upon producing evidence with market data that you have customers willing to pay, you and your team might think you've completely diminished all market risk and that you can go back to focusing on building the new technology. However, you will need to continue taking risks and experimenting with customers and other external and internal stakeholders to help you address a whole separate set of questions.

For example:

• Can we build an appropriate business model to sustainably and profitably create and deliver real value to customers with our new innovation?
• Does our team/company have the necessary resources and capabilities to execute to that model? To that end, which key partners and stakeholders will we work with?
• Based on the size of the market that we can feasibly capture is the opportunity big enough to be worth our effort?
• Is it a good strategic fit for our organization and does it maintain our company's established mission, vision, and values? 
• Do we have the passion and interest to continue in this business?

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Though some of these questions may not seem like they are directly related to market risk, they will have a large impact on your company's ability to satisfy the needs of customers long term.

How to proceed

If you and your team are faced with the exhilarating opportunity of bringing a new innovation to market, determine first whether or not you must even deal with technology risk. If not, then proceed to decrease market risk to the fullest extent possible. If however technology risk is inherent to your new venture then seek to balance your efforts to mitigate this risk while at the same time minimizing market risk. Allow market learnings to filter back into and influence the direction of the technology. After all, as Eric Ries says, "If we're building something that nobody wants, what does it matter if we do it on time, on budget, and with high quality?" 

How does your team/company deal with balancing technology and market risk?

_{*Technology risk and market risk as pertaining to new ventures was introduced by Steve Blank in The Startup Owner's Manual.}