«Differences in Strategies and Performance of Different Types of Innovators»

John R. Baldwin and Joanne Johnson. Analytical Studies Branch – Micro-Economic Analysis Division – Research Paper Series – Statistics Canada No. 11F0019MPE No. 102


»Utilizing a taxonomic approach that classifies firms by innovation type improves our understanding of the nature of innovation and its relationship to such measures of success as profitability, market-share growth and productivity gain. While there are some similarities in that all innovation groups are successful, there are many differences in terms of strategic emphases. Product innovators represent firms operating in the first stage of the product life cycle. In this stage, the product is still new, and its characteristics and production techniques are unlikely to be settled. This is an inherently risky stage of the life cycle. This probably accounts for the fact that these firms are, on average, the least successful of all the innovators, especially when success is measured, as it is here, by market-share gains.

»Training is undertaken to impart the skills required to develop new or improved products. The inherent risk of product innovation requires attention to financing. These firms rely significantly more on equity and foreign financing. Finally, as is the case with other innovators, attention to management strategies is greater than is the case in non-innovating firms. Their emphasis on product differentiation generates superior profit gains for them. However, the lack of attention to production efficiencies is accompanied by lagging profit/sales performance relative to process innovators and weaker market-share gains than comprehensive innovators.

»The second stage in the product life cycle may be characterized by one in which there is both product and process innovation. This stage is represented by comprehensive innovators. Continuous change in this group requires ongoing investment spending and training to upgrade both equipment and worker skills. The frequent introduction of new products requires emphasis on marketing strategies. The inherent risk involved in innovative activity demands attention to financing, in particular, long-term financing that allows firms to compensate for their relatively small size, while surviving a volatile environment. These firms, unlike product innovators, typically rely more on debt financing. One can argue that this is because firms operating in the first stage are typically more risky, or because comprehensive innovators are typically more successful.

»Finally, the inherent instability caused by these ongoing changes requires superior management capabilities. Comprehensive innovators tend to outperform other firms in each of these areas, and are rewarded with stronger growth in sales, market share, and employment size.

»Process innovators focus on developing new technologies and improving their input use, while placing little value on developing new products or seeking out new markets. As such, they tend to invest more heavily in new equipment, value their human resources more than non-innovators and concentrate their marketing strategy solely on maintaining their current products in current markets. While their activities are subject to changes associated with process innovation, the degree of change is less than in comprehensive innovators. Consequently, they place more emphasis on management strategies than non-innovative firms, but less than comprehensive innovators. These firms are typically rewarded with stronger growth in sales, assets and profit/sales ratios than those in all but the comprehensive-innovator group.

»The last group of firms, the non-innovators, place little value on strategies related to either product or process innovation. As they are not undergoing change, they are less likely to incur investment expenditures and they are less likely to devote resources to upgrading either their equipment or human resources. Similarly, the lack of change in this group requires less attention to marketing and management strategies. This group of firms lags the others in virtually all performance areas.

»The innovator typologies tell two stories—that innovation is more successful than lack of innovation, and that comprehensive (product/process) innovation is more successful than either product or process innovation alone. The latter may simply occur because firms engaging in comprehensive innovation are always more successful than firms that master only half the innovation process—either just product or just process innovation. However, this interpretation of the survey’s findings ignores the substantial literature that suggests the appropriate innovation strategy varies across the product life cycle and the empirical evidence that each of these innovation types is appropriate to a particular phase in the life cycle. If the product, product/process and process innovative groups are taken to represent the successive stages in the product life cycle, differences in strategies simply reflect differences in the required strategies at different points in the life cycle.

»Perhaps the most interesting evidence on differences across the life cycle occurs in the financial strategies that are pursued. The three innovative stages demonstrate an evolution of the financial structure of the firm. In the first stage, which is quite risky, product innovators emphasize two strategies, which have in common a heavy reliance on share capital. Both also rely heavily on innovative sources of financing.

»In the next phase of the product life cycle, comprehensive innovators continue to stress the lowdebt strategy using innovative financing that was pursued by the previous product innovator stage. However, a new strategy emerges that reflects higher debt/asset ratios, as the nature of firms’ activities in this stage becomes less risky and firms become more successful. Moreover, firms move from being highly reliant on just innovative sources of financing to using both innovative and more traditional sources of financing.

»In the third stage of the product life cycle, process innovators no longer pursue innovative sources of financing. Their stage in the life cycle has enabled them to build retained earnings and this now becomes the most important financing instrument. They also move back to lower debt/asset ratios and increase their use of bank financing.

»The final implication of the analysis pertains to the patterns of success that have been observed across firms by innovation type. While one index of success is used throughout, firms in the three innovative stages are each characterized by different aspects of success. Profit growth is highest for product innovators but these firms gain market share relatively slowly. Firms in the second stage—comprehensive innovators—show both profit growth and market-share growth, but they do not exhibit increases in productivity. Firms in the third stage show market-share growth and growth in profit/sales margins. Firms are, therefore, not only heterogeneous in terms of strategy but also in terms of outcomes. They provide different bundles of characteristics to investors who have different preferences for growth as opposed to profitability.»

Innovation Typologies
Thematic Readings

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