I have written about the idea of the innovator's dilemma many times in the past. For instance, the excerpt I used as a case study later in this piece comes from a previous article where I attributed the relative failure of Rocket and bank-led MFS players to their inability to navigate the innovator’s dilemma. I used the same framework to explain why Grameenphone failed to build a second business line such as ecommerce or online video streaming, and why local conglomerates failed to build successful ecommerce operations. Additionally, I used the same concept to explain why Symphony failed to sustain its success, and finally, why consumer AI innovations are coming from newer players than the old tech giants.
This is a phenomenon that the late Harvard Professor Clayton Christensen explained in his industry-shaping 1997 book "The Innovator’s Dilemma: When New Technologies Cause Great Firms to Fail". Christensen is one of my favorite management theorists and authors. His other book "How to Measure Your Life" is one of my all-time favorite books.
Reading The Innovator’s Dilemma was a path-altering experience for my business writing journey. It has fundamentally changed how I understand and write about business.
I’m currently re-reading the book. I believe more founders and operators should read it. To that end, I have decided to write a running commentary on the book as I re-read it, partly because it will help deepen my understanding of various concepts in the book while also helping further spread its ideas, particularly in the business and tech community in Bangladesh.
This is the first installment of that commentary.
In this piece, I write about The Failure Framework, a framework Christensen uses to explain why successful and well-managed companies often fail to innovate and lose market leadership despite making sound business decisions.
It explains the challenges disruptive technologies pose and the limitations established firms face in responding to new market dynamics as a result.
The framework has three components:
1) Sustaining technologies and disruptive technologies have strategically important differences and implications for a firm. Doing better at one doesn't guarantee success at the other. In fact, the opposite is more likely.
Doing better at sustaining and disruptive technologies needs different skills, different organizational values and processes, and different orientations.
2) The speed of technological progress can and often does surpass the market's needs. This means relentless investment in sustaining technologies eventually reaches a diminishing marginal return. More importantly, disruptive technologies follow a similar trajectory. Disruptive technologies often start by serving smaller niche markets. But disruptive technologies often follow the same trajectory of technology development and thus close the gap with the mainstream products in a shorter time frame than expected, creating new competitive dynamics for an established firm that initially overlooked disruptive technology.
3) Finally, customers, financial structure, and values of successful companies usually dictate the investment decisions of a successful firm. Contrarily, a new entrant can make these decisions with greater flexibility and openness.
Let's take a closer look at each of these components.
Sustaining vs. Disruptive Technologies
The difference between sustaining and disruptive technology bears important strategic implications for companies in any given market.
The Pace of Technology Improvement Matures Disruptive Technologies Faster Than Market Expectations
“The second element of the failure framework, the observation that technologies can progress faster than market demand, means that in their efforts to provide better products than their competitors and earn higher prices and margins, suppliers often overshoot their market: They give customers more than they need or ultimately are willing to pay for,” explains Christensen.
Rational investments and resource dependence
According to Christensen, “The last element of the failure framework, the conclusion by the established companies that investing aggressively in disruptive technologies is not a rational financial decision for them to make, has three bases.”
The existence of the failure framework’s components makes it challenging for an established successful firm to invest in disruptive technologies. The interesting thing is that if you pay closer attention, you will see this framework at work in almost every instance where a successful established firm failed to innovate.
To understand the phenomenon, I used the framework to understand what caused the failure of bank-led MFS players in Bangladesh.
From The Real Challenge of Bank-led MFS Players, Innovator's Dilemma, and Corporate Innovation:
In March 2011, Dutch-Bangla Bank Ltd launched the country's first mobile financial service (MFS) DBBL Mobile Money (it has since been rebranded to Rocket). bKash, a subsidiary of Brac Bank, followed suit three months later. The same year 27 banks took the approval from the central bank to launch MFS. 19 firms rolled out a service by 2016. Today, some 13 MFS entities are operating in the market.
In the following years, bKash would surpass every other player including Rocket by miles in terms of number of users and become the largest MFS player in Bangladesh. bKash and controversial player Nagad dominate the sector with more than 85% market share between them in terms of transactions. Despite having regulatory advantages, bank-run MFS services have largely failed to build a meaningful position in the market.
You can explain the failure of bank-led MFS players using the common management tropes: reluctance to invest, steep competition in the market, strategic mistakes, and so on. But these are merely symptoms of a bigger problem.
The real reason for the failure of most bank-led MFS services is that they are bank-led and are not independently run companies. Although some of these companies are independent subsidiaries, they depend on their parent companies for not only resources but also for critical decisions. More importantly, in many instances, these parent banks are highly successful and well-run companies.
MFS is not something you can make happen overnight. Initially, the growth can be slow. The size of the business can look insignificant compared to the balance sheet of a well-run bank. The whole thing might look like a bad idea and a bad investment to the CFO and business-savvy board members of a bank.
While my core business, which is a bank, generates this huge return, why should I invest in something that is struggling and doesn’t show equal potential? Why should I not instead invest in growing my core business—which is banking?
This is a legitimate business question to ask for any well-run company. A dichotomy that many well-run companies encounter and why many well-run companies fail to innovate.
Let me explain it differently.
Imagine you are a successful company. You have two products. One product generates all your revenue. It is profitable and growing consistently. You have a strong market position in that product segment and more investment can generate more revenue.
You see a second opportunity in the market. A new product category that doesn’t have a large market but has the potential to go big in the near future. You decide to invest in the second product. After a while, you see the new product is not growing as fast. The market opportunity doesn’t look as lucrative as your first product, which is killing in the market and has significant short-term growth opportunities if you invest. As a successful and thoughtful executive, what would you do? Naturally, you would choose to divert your investment to the first product and deprioritize your second product.
In our case, you decide not to invest in the MFS company. You decide to focus on your banking business.
However, a few years later, the MFS service that you overlooked has become a huge success. It disrupts the banking industry and forces your bank to change its business model.
This is a classic example of the innovator's dilemma. Your existing business is so successful that you don't feel like investing in a new product that is not bringing large enough success in a short enough time.
Clearly, this is the position bank-led MFS players find themselves in. When a board of a bank finds that investing in its banking business is more profitable for the bank than investing in an MFS service in the short term at least, because that's all we can see, they make the logical decision that any astute business executive would make.
This is what has happened with almost all the bank-led MFS players. Many of these players started with high hopes. Some of them even made meaningful investments in the early few years. There are still bank-led players who are making meaningful investments these days. But none of these players operate with enough independence. The parent banks still call all the major shots.
In most of these instances, if a bank decides not to invest heavily in its MFS business, it is a perfectly logical and healthy short-term business decision. Why should you invest in a losing project instead of the one that is winning? This is the core challenge of the bank-led MFS players.
Decisions for a bank-led MFS are often viewed and made through the lens of the parent bank's business. The bank's own interest precedes the interest of the MFS itself. The question is rarely whether this decision would benefit the MFS to get to the next stage. Instead, the question is always whether the decision to invest more money in the MFS makes sense for the bank.
In the book, Christensen offers this compelling argument as to why successful incumbents fail to innovate:
“The reason [for why great companies failed] is that good management itself was the root cause. Managers played the game the way it’s supposed to be played. The very decision-making and resource allocation processes that are key to the success of established companies are the very processes that reject disruptive technologies: listening to customers; tracking competitors actions carefully; and investing resources to design and build higher-performance, higher-quality products that will yield greater profit. These are the reasons why great firms stumbled or failed when confronted with disruptive technology change.
Successful companies want their resources to be focused on activities that address customers’ needs, that promise higher profits, that are technologically feasible, and that help them play in substantial markets. Yet, to expect the processes that accomplish those things also to do something like nurturing disruptive technologies – to focus resources on proposals that customers reject, that offer lower profit, that underperform existing technologies and can only be sold in insignificant markets– is akin to flapping one’s arms with wings strapped to them in an attempt to fly. Such expectations involve fighting some fundamental tendencies about the way successful organizations work and about how their performance is evaluated.”
Now, you can say that bKash has done it, and it is a BRAC Bank subsidiary. The reality is that bKash is a different story. bKash. bKash is a subsidiary of BRAC Bank, but that relationship ends there.
The different part of the story is that bKash is a founder-led organization. Kamal Quadir founded bKash, and he continues to run it to this day. bKash operates independently. While bKash has people from BRAC and BRAC Bank on its board, the decisions don't come from BRAC Bank and are never viewed through the BRAC Bank’s lens.
Although BRAC Bank is the largest shareholder, albeit partly for regulatory reasons, bKash has been on its own journey. Not only does bKash operate with complete independence, but it has also charted its own path throughout its existence. It has raised strategic investments from investors like the Bill and Melinda Gates Foundation, Alibaba, and SoftBank, among others. bKash has been operating like a startup since its inception, not as a subsidiary of some bank but as part of a larger organization.
This is exactly what Christensen suggests in the book. If a highly successful and well-managed company wants to innovate successfully, it should create an independent business unit that will look after the new business without interference from the established company.
bKash has achieved this level of success because it operated as a separate business from Brac Bank.
Contrarily, other bank-led MFS companies failed to achieve similar success precisely because they took the opposite path, which Christensen illustrates in the failure framework.
The failure framework clearly explains that successful companies fail to innovate partly because they are so successful. They are always focused on protecting and maximizing their current success. By focusing too heavily on sustaining technologies and existing customer needs, they risk overlooking new opportunities that could redefine their industries.
To navigate this challenge, Christensen suggests companies should establish independent entities that can explore and develop disruptive technologies without the constraints of their established business models.
As we discussed, bKash has certainly benefited from being an independently run entity.
This reminds me of a conversation I had with a prominent CEO of a private bank a few years ago. I asked him why they didn’t invest in MFS. His response was quite straightforward: “It is an investment heavy vertical and we don’t know how long it would take to give back a return.” This is a classic innovator’s dilemma trap. Today, bKash has become a highly profitable and dominant alternative financial empire.
