Sorry for the gap in postings, but I have finally escaped to my first vacation in three years. While on vacation, I came across the special August 22-29 Business Week double issue focusing on “China and India: What You Need to Know Now” (the online edition has a lot of material not available in the print edition). It is full of interesting articles on these two emerging economies and reflects growing interest in the business impact of these two countries – the focus of The Only Sustainable Edge.
Unfortunately, though, the articles reflect the weaknesses of much Western coverage of China and India. This coverage tends to veer from eye-opening macro-economic statistics to interesting stories about individual companies. From a strategist’s viewpoint, though, what I miss in such coverage is any deep analysis of the patterns of business innovation that might help to explain the explosive growth in both economies or the implications for Western companies.
Open distribution - the first pattern of innovation
In this respect, Business Week does a better job on the India front. Manjeet Kripalani has a particularly good article, “Asking the Right Questions” on innovation among Indian companies. She tells interesting stories about Indian companies like ICICI Bank, Indian Tobacco Company (ITC) and Tata Motors. (For more detail on the efforts of ICICI Bank and ITC in particular, see the case studies included in C.K. Prahalad’s The Fortune at the Bottom of the Pyramid.) If you step back from these stories an interesting pattern emerges across three very different industries in India – let’s call it “open distribution” innovation. In our article on innovation blowback, JSB and I discussed the experience of a U.S. company, Cummins Inc., which has successfully pursued a similar pattern of innovation in India.
These companies are extraordinarily innovative in re-conceiving the economics of distribution. They are focused on the enormous challenge of reaching the mass domestic market. Their target customers are distributed in rural areas with very limited physical infrastructures and the customers are far less affluent than the typical customers in Western economies. They need to deliver more value at lower cost than they could with the traditional business approaches of Western companies.
What have the companies done to address these challenges? They have innovated both in terms of products and processes. The innovations cover a number of dimensions:
- increased modularity (both in products and processes)
- aggressive leveraging of existing third party (and often non-commercial) institutions in rural areas to more effectively reach target customers
- creative use of information technology carefully integrated with social institutions to encourage usage and deliver even greater value.
These innovations are quite different from the innovations in U.S. retail distribution pioneered by such companies as Wal-Mart and Dell. These U.S. companies developed completely self-contained and highly standardized customer-facing facilities and services. The open architecture approach pioneered by Indian companies may offer much greater opportunity to deliver more tailored value to customers than the closed architecture U.S. approach. In this respect, the techniques initially developed to reach poor and rural customers may have even greater potential when used to reach highly demanding affluent and urban customers in Western economies.
Lean process management - the second pattern of innovation
This pattern of open distribution innovation in India is quite different from the innovation of the IT enabled services companies clustered in Bangalore and other high tech outposts in India. These companies largely serve the export market – especially large Western companies who are increasingly offshoring both software development activities and a growing variety of administrative business processes like human resources management and finance and accounting.
Steve Hamm, in his article “Taking a Page From Toyota’s Playbook”, describes how companies like Wipro and Infosys have been heavily inspired by Toyota’s disciplined focus on rapid process improvement and are applying Toyota’s methodology to their business process outsourcing businesses. These companies have become so sophisticated in their use of process innovation techniques that they are now offering consulting services to help their clients in Western companies apply similar techniques in their own operations.
So, here we have a second pattern of innovation – let’s call it “lean process management” - quite different from the “open distribution” innovations pioneered by Indian companies focused on the domestic market. Lean process management as applied by the Indian IT companies focuses on activities within a single enterprise while open distribution innovation seeks to reach out and mobilize specialized institutions already in place in rural areas to deliver more value to customers.
Open production - the third pattern of innovation
Now, what about China? This is where the Business Week coverage is most disappointing. In fact, one of the articles makes the observation that “China is surprisingly weak in innovation.” I beg to differ. In fact, I would argue that China, along with India, is rapidly becoming the global center of management innovation.
What explains this divergence of views? First, at least in its coverage of China, Business Week seems to equate innovation with product innovation, while I give at least as much emphasis to the importance of process innovation. Second, Business Week seems to ignore the fact that there are three Chinas: rural China, the state-owned enterprises (SOEs) and the private, entrepreneurial sector. Much of Business Week’s coverage concentrates on the state-owned enterprises which still account for the bulk of China’s industrial production and are usually the partners that Western companies choose to affiliate with when they enter China. But, the state-owned enterprises, favored with massive subsidies from the government and low-cost loans from the state-owned banking system, have almost no incentive to innovate. In this arena, it is not surprising that Business Week finds little innovation.
The cauldron of management innovation is in the third China – the growing array of privately-held companies emerging on the edge of the Chinese economy. These companies rarely receive much attention from the Western press, in part because they have developed a culture of keeping a low profile. JSB and I have written extensively about the management innovations being pioneered by these companies in The Only Sustainable Edge.
The contrast with the patterns of innovation among Indian companies is intriguing. These entrepreneurial Chinese companies (which also include a number of high tech Chinese companies in Taiwan) are focused primarily on competing in global markets in product categories like electronics hardware, textiles and motorcycles where product lives are compressed and demand is highly uncertain. These companies are pursuing a third pattern of business innovation focused on re-conceiving the economics of production in order to more effectively mobilize distributed expertise for both product development and manufacturing – let’s call this the “open production” pattern of innovation. The process innovations in this case include:
- modular design of products and processes
- management techniques to flexibly configure highly customized business processes encompassing hundreds, if not thousands, of specialized business partners
- management techniques to encourage business partners to work together in ways that enable them to get better faster than they could on their own.
These are innovations in their own right, but their real power comes from the fact that these management techniques establish the conditions for even more rapid incremental innovation in products and processes. Think of it as meta-innovation - management innovations that spawn a continuing series of innovations.
Comparing the three patterns of innovation
So, what is the bottom line here? We are seeing three powerful forms of business innovation propelling the economic growth of India and China. The second form – lean process management – is heavily inspired by Toyota’s management innovations, but Indian companies are applying these management techniques to rapidly improve the performance of a broad range of administrative business processes. If Western companies do not master these techniques in their administrative business processes, they had better be prepared to outsource and offshore these business processes to Indian companies who are mastering these techniques.
The two other forms of business innovation emerging in India and China – open distribution and open production - are largely being pioneered within these countries - they are not inspired by management practices in other countries. Open distribution innovation focuses on customer facing business operations while open production concentrates on product development and manufacturing activities. These innovations are not mutually exclusive – in fact, their real power may only be realized when they are combined. Both forms of innovation share some basic principles:
- focus on rapid incremental innovation – both in products and processes
- design both products and processes in modular fashion so that flexibility and innovation can be maximized
- use this modularity to aggressively mobilize the resources of third parties to add more value to your own companies products and services.
Western companies would do well to study, understand and, wherever possible, adopt these business innovations in their own companies. To some extent, these management techniques can be accessed through outsourcing relationships, but these innovations span the full scope of a company’s operations. Outsourcing is not a panacea – ultimately, Western companies will need to master these management techniques in at least some areas of their operations or they will find their businesses rapidly eroding through a combination of outsourcing and intensifying competition from companies which were quicker to recognize and adopt these management innovations.