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Wrinkling the Chasm: How the Innovator’s Dilemma can guide the strategy of entrepreneurial businesses

The Innovator’s Dilemma by Clayton Christensen (1997) and Crossing the Chasm by Geoffrey Moore (1995) are two of the most influential business textbooks published in the last decade. Scores of large businesses talk about the challenge of the Innovator’s Dilemma and how to recognize and adapt to discontinuous innovation in the face of customer demands for sustaining improvements on existing technology and customer aversion to new discontinuous technology. Every start-up in Silicon Valley uses Moore’s technology adoption life cycle as a model for understanding their business.

To date, there has been minimal analysis of the interaction between these two theories. In The Innovator’s Dilemma, Mr. Christensen mentions Geoffrey Moore’s work, but only to point out that there are many models for segmenting technology markets. Mr. Moore cites Mr. Christensen’s work several times in Living on the Fault Line (2000), but only in the context of that book, which concerns itself with the lessons big companies can take from Chasm theory. Mr. Moore uses the Innovator’s Dilemma to demonstrate that large companies need to understand the Chasm also. Finally, in Donald Norman’s The Invisible Computer (1999), Mr. Norman indicates that the Innovator’s Dilemma shows that products only need a limited amount of performance to be successful in the market before they need to focus on issues such as human-centered design. He then goes on to say that this human centered design is exactly what a business needs in the tornado phase of the Chasm theory, as businesses push to simplify their product and distribute it to the mass market. Norman sees an interaction between the two theories but only sees this as further justification for his theories of human centered design being critical to serving mass markets. He does not acknowledge broader possible synergies between the two theorems.

Determining the path by which a firm can navigate to a critical mass of customers and achieve mainstream market acceptance is the single most important task facing an entrepreneurial firm. There has been essentially no work looking at how entrepreneurial businesses can apply the concepts of the Innovator’s Dilemma to help them more effectively cross the chasm. This article will serve as an overview of a fruitful new area of exploration in the science of start-up marketing and management. It will attempt to look at approaches to crossing the chasm and introduce concepts that demonstrate how the rigorous principles of the Innovator’s Dilemma can provide a sturdy framework for an entrepreneur’s decision-making process.

 

Figure 1: Norman‘s perspective on interaction

Innovator and Chasm Interaction

The Innovator’s Dilemma and the challenge of crossing the chasm are two sides of the same coin. The Innovator’s Dilemma defines disruptive technology as technology that has a low level of performance in the area that is the primary criteria for measurement by customers in a market yet excels in a different performance area, including aspects such as less expensive architecture. In the Innovator’s Dilemma, large, smart, visionary companies fail to successfully exploit disruptive and discontinuous technology change because they are so busy making steady, sustaining improvements in their products for their most challenging, largest, and most profitable customers. These customers receive no value from disruptive products that perform poorly in areas key to their value proposition. Smaller start-ups selling “imperfect” technology are forced to find under-served, tiny markets that allow them to grow their business and mature their technology until, at a certain point, the technology is “good enough” for the larger markets and more profitable customers, who recognize that the product is now good enough and with no warning to their long-time suppliers switch to the new technology.

One of the many examples that Christensen identifies is the transition from 5.25 inch disk drives to 3.5 inch disk drives. The companies providing 5.25 inch drives developed 3.5 inch drives but were told by their best customers that what were needed were faster, larger disk drives that fit the designs they had already established for computers, namely 5.25 inch drive slots. The customers had no need for smaller, slower drives. 5.25 inch drive makers ceased development of smaller drives and redoubled their efforts to provide improved 5.25 inch products. When new companies that produced only 3.5 inch drives started-up, they were forced to find new markets to sell these products too. They found a customer in the then emerging start-up Compaq and its laptop computers. Laptops were willing to sacrifice all the power that the current 5.25 inch drives offered for the smaller size of a 3.5 inch drive.

This is how 3.5 inch disk drive makers and Compaq crossed the chasm. Large computer manufacturers and hence 5.25 inch disk drive manufacturers were unsure of the laptop computer market opportunity and did not pursue this market.

Figure 3: Moore‘s Technology Adoption Lifecycle

Geoffrey Moore’s theory about how to cross the chasm is that start-ups must find tiny under-served markets they can leverage to “bowl” through a set of niche markets, hide in while they perfect their technology, and build a set of relationships with pragmatic, value-based customers. Moore hypothesizes that once a certain amount of under-served niche markets are captured the market will spontaneously shift to the new (disruptive) architecture, putting the start-up in the center of a technology “tornado”.

In the disk drive market, the 3.5 inch disk drive makers, fortified by the profits they generated and the relationships they developed were able to rapidly improve the performance of their products, overtake 5.25 inch disk drives and eventually drive the 5.25 inch drive producers out of the market. 5.25 inch disk drive customers, once 3.5 inch disk drive performance was acceptable, rapidly changed to the less expensive 3.5 inch architecture, with only the most demanding 5.25 inch drive customers not making the switch.

The synergy between these two theories, long overlooked, becomes plain. Christensen’s book describes a dozen industries and how the established incumbent was pushed out of their markets. In each example he focuses on why the incumbent failed to target the new markets exploited by the disruptor. What Christensen fails to observe was that each of these stories was also a tale of how a small company crossed the chasm to dominate an industry. Moore’s book is considerably less rigorous from a research perspective, but each story of how a company crossed the chasm is also the story of how another large, entrenched competitor let them. Exploiting the Innovator’s Dilemma is a critical strategy to effectively crossing the chasm.

How to Wrinkle the Chasm

Moore’s breakthrough was recognizing that the chasm exists and that a start-up that fails to cross the chasm and build relationships with pragmatic customers eventually runs out of early adopters and dies a slow, painful death. He also recognized that the best tactic for crossing the chasm is to pick a very small market that you can deliver a complete “whole product” to and dominate that market. This is because pragmatic buyers, the vast majority of the technology market, only want products from the undisputed market leader. The only hope a small business has for establishing a position as undisputed market leader of a market segment is to choose a segment that is small enough that it will not be targeted by competitors. What Moore lacks in his concept of crossing the chasm is a model for how one should identify the initial market segments/applications that the business attempts to build around. The only advice he gives regarding choosing a segment is to pick an underserved market where you deliver extraordinary value. To most entrepreneurs every market looks like this!

In Christensen’s work he articulates an “after the fact” perspective of how many start-ups crossed the chasm by building what he called “value networks”. He defines value networks as the context within which a firm identifies and responds to customers needs, solves problems, reacts to competitors & strives for profit.

Building value network models sheds insight into market needs and reveals the key aspects of any given industries “whole product”. Defining value networks is effectively an exercise in accurate B-to-B segmentation. Christensen broadly segments a market into industry known criteria (PC’s, processors, laptops, etc.). Within each broad market segment he identifies key companies serving that market and the value proposition they offer. This exercise is only somewhat interesting in a historical context. In hindsight, it is easy to see notebook computers have different needs then PC’s and mainframe computers. What is not clear is how to identify the characteristics of a new market with brand new needs when you are an entrepreneur crossing the chasm.

We have developed a model called Value Network Analysis to address this challenge and offer hope for emerging businesses identifying new markets to pursue. Value Network Analysis is a lightweight model designed to be easily implemented by entrepreneurs and emerging companies. We have chosen not to develop more rigorous models because the very firms that would use this information cannot afford to substantially invest in making this decision. This is the very nature of the chasm. The most important decision that the company will make will be made when the business is at its weakest and involves markets that are small, under-researched, and not well understood.

Value Network Analysis is a three-step process designed to build “before the fact” analysis of market opportunities. The first step is Market Analysis. Market Analysis, in this model, begins with ideation around the key markets that the entrepreneur could target. The primary characteristic of these markets is that a vision for a whole product exists. This is usually based on the fact that the company already has a “visionary” client in the space that could act as a reference and provide industry insight. Associated with each market in the analysis is information about key benefits the market values and key competitors serving (or under serving) the market today. The focus on benefits as being distinct from features is a key aspect of this process. Features exist to provide certain benefits that a market values. Other features in other products may serve the same purpose and new features and new technology in the future may also have an effect on the nature of the benefits the client receives. Conceptually, benefits are the performance aspect that a client seeks in Christensen’s Disruptive Innovation Model and features are the sustained growth path that continues to provide that benefit in ever increasing amounts.

Once the Market Analysis is complete, we begin the Competitor Analysis. Competitor Analysis attempts to identify based on the Market Analysis and original research, which benefits in the market today are targeted by each competitor in the marketplace as their key Product Performance aspects.

This is critical information because The Innovator’s Dilemma tells us that if we focus on providing higher performance in an area that competitors are also focused on providing high performance in the victor of that battle is always the established firm. They use their tremendous market power and cash flow to invest in R&D that enables constant improvement in these sustained performance factors. The markets they are targeting are asking for ever higher performance in their key benefit area. In a market where there is no undisputed market leader, most pragmatic customers will simply delay purchasing. The few who do purchase are likely to choose the larger, more stable company as the most likely survivor of the competition. Start-ups must seek out new benefits that are not viewed as key to the market by competitors, but are viewed as key by a set of potential customers that are currently undervalued. This allows the start-up to focus on the most disruptive aspects of their new technology and maximize the likelihood that competitors would not try to mimic the entrepreneur’s strategy.

Now that we have information about what our competitors value and what the market values, we can complete the final step of our process and develop the Opportunity Analysis. Here we plot our knowledge of what markets competitors’ value based on the benefits they are most aggressively pursuing. Then, recognizing that our ability to execute and deliver varies from market to market, we add an axis that correlates with our ability to develop whole products that serve any given market. Finally, we overlay on that model information about how we value that market across a number of dimensions:

  • Market size: Is this market big enough to provide revenue and small enough to not attract attention from competitors?
  • References: Do we have strong references in the market
  • Lead generation: Will we be able to identify target customers quickly in this market?

All of these are essentially a proxy for revenue and profit potential in a market segment. The result is a model that might look like this:

In this example, Market 4 and Market 2 are the opportunities that this firm has to cross the chasm. Market 4 is the least attractive to competitors and the firm is able to build the most complete whole product for it. Market 2 is slightly more difficult for us to attack and slightly more attractive to competitors but it has certain features from a sales perspective and market opportunity that may appeal to the firm and make it worth choosing.

Our model represents Value Network Analysis as a circle because this data can now be fed back into the model to choose additional markets to target as “bowling pins”. The new whole product and new sales generated will drive the creation of a new Value Network Analysis model that suggests further market segments and applications for the entrepreneur’s products, enabling the bowling alley concept that Moore describes. Each market success creates new market opportunities which the start-up can conquer one niche at a time. This process continues until enough markets have been entered and bowling pins knocked down that critical mass is achieved and the company enters the “Tornado” phase of the technology adoption life cycle.

Case Study: How Not to Cross the Chasm

Transmeta was a company that technologists believed was sure to successd. With $100 million in capital raised from George Soros and Paul Allen, among others; a team led by David Ditzel, who invented the Sun SPARC microprocessor and Linus Torvalds, the inventor of Linux; and an IPO that doubled on it’s first day, Transmeta was one of the best known companies in Silicon Valley. In the fall of 1999, after 5 years of super secret research Transmeta announced its first product, an ultra low-power computer chip for powering computers, capable of doubling battery life in products such as notebook computers.

Simultaneous with their launch, Transmeta announced their plan to initially target the notebook computer market, a $5 billion market, and compete directly with Intel in Intel’s fastest growing market segment. Intel immediately announced plans to re-focus on low-power designs.

The error that Transmeta made was choosing to “Evil Kneivel” the chasm, assuming that computer manufacturers would choose their product over Intel instantly, without taking the time to build credibility with the market. Because their products were slower than Intel chips, their utility was limited. Each time Transmeta released a faster processor, Intel released a lower-power processor. The $100 million that Transmeta invested in its first product was easily matched and surpassed by Intel, which could not afford to lose the notebook market.

Even customers that might purchase Transmeta’s product and sacrifice speed for a lower power processor have been paralyzed by Intel’s competitive response. They have taken a wait-and-see approach to the market. This has had the effect of starving Transmeta to death. 2002 completed Transmeta’s third year of sales. Its revenue was less than $25 million, down from $35 million in 2001 and $16 million in 2000. Linus Torvalds left the company. Losses exceeded $100 million for the third year. Transmeta’s cash is slowly draining away.

Transmeta should have identified a less competitive smaller market that it could own. By targeting an enormous market, Transmeta could never hope to establish itself as the market leader. Transmeta needed to capture loyal customers to survive, but chose to attempt to pry companies like Compaq and IBM away from Intel. Those are Intel’s biggest, most valuable customers. Intel was responsive to their customer’s needs and prepared to dramatically outspend Transmeta to effectively serve these customers.

Market

Competitor

Benefit

Desktop

Intel

AMD

Speed

Cost

Laptop

Intel

AMD

Speed

Battery Life

Weight

Handheld

Motorola

ARM

Speed

Battery Life

Weight

Appliance

Motorola

ARM

Sun Microsystems

Speed

Battery Life

Weight

Figure 7: Simple Market Analysis

Competitor

Benefit

Market

Intel

Speed

Price

Desktop

Laptop

Server

AMD

Speed

Price

Desktop

Laptop

Server

Motorola

Battery Life

Size/Weight

Handheld

Appliance

Figure 8: Simple Competitor Analysis

This Value Network Model demonstrates the challenge of targeting the notebook market. While Transmeta was best suited to attack the laptop market segment, it was also the market that Transmeta’s most dangerous competitors were targeting.

Figure 9: Simple Value Network Analysis

Transmeta would have been more successful if the company had attempted to “cross the chasm” in a market that was related but less competitive than notebook PCs. For example, Transmeta could have targeted the personal data assistant (PDA) segment. By targeting a less competitive, yet relatively compatible segment, Transmeta could have improved its opportunities to cultivate a dominant, industry leading position, allowing them to possibly have more of an impact on the early adopters. The PDA market is filled with companies both large and small using non-standard processors because Intel was not optimized for their product needs. By building relationships with customers in this space it could have developed revenue, profit, and partners that would allow it to target larger markets in the future. Unfortunately, because Transmeta directly challenged the market leaders in its targeted segment, the company provoked strong defensive reactions from the competition.

This reaction prevented Transmeta from establishing the relationships that would provide a sustainable foothold in the market. Their failure to cross the chasm and develop pragmatic relations has doomed a company funded and run by some of the brightest technology minds in the world.

Case Study: How to effectively Cross the Chasm

As Transmeta continues to struggle to cross the chasm, Salesforce.com stands as an example of a company clearly focused on gaining pragmatic customer acceptance. Salesforce.com is currently the global leader in the web-based customer-relationship management software (CRMS) market. The company appears to be reaping the benefits of careful and successful market segmentation as well as the competition’s inability to exploit disruptive and discontinuous technological changes.

Salesforce.com is offering what its larger competitors such as Seibel, Oracle and SAP cannot—effective and affordable CRMS applications for small and medium size companies. It gives its customers the ability to manage their accounts, track leads, and evaluate marketing campaigns for thousands rather than millions of dollars. This segment has been largely ignored by large CRMS companies as they fall victim to the Innovator’s Dilemma.

Before Salesforce.com, smaller firms did not view CRMS systems as a practical option. The CRMS systems offered by companies, such as Seibel, required the installation of customized hardware and software applications, extensive transition assistance, and continuous system maintenance. These systems were very complicated, expensive and completely unsuited for smaller companies. However, because Salesforce.com hosts all of its CRMS applications on its own servers, the company has minimized the associated hardware and IT labor costs. Accordingly, clients only pay as they use the application. All product upgrades and improvements are included in their service fee. Before Saleforce.com, the industry only focused on companies that could afford to purchase and maintain an expensive CRMS systems onsite. Now smaller companies can outsource and leverage Salesforce.com’s expertise and operational efficiencies at drastically lower costs.

The larger CRMS leaders such as Siebel found themselves unable to focus on the market for a number of reasons. First, Siebel and its competitors had developed large direct sales forces that were designed to sell their products to the Global 2000. These sales forces were compensated primarily based on dollar volume and were never interested in speaking to smaller customers who might be just as hard to sell to but realize much smaller revenues. Smaller companies tend to value their few dollars just as much as larger companies value their incrementally higher ability to spend. Second, their best engineers were continually asked to focus on and address the needs of their largest and most profitable customers. This is the essence of the Innovator’s Dilemma. They were never able to focus product development or sales on the needs of this smaller market. Finally, cost structures inhibited competitor’s response. When Siebel considered how to respond, they were continually forced to ask themselves “what features can we take out of our products?” because if they offered their current products at a much lower price their customer base would revolt. Instead they stripped out as much as they could to keep their current customers happy, but each feature removed made their competitive offering that much less interesting to potential new customers. Meanwhile, each feature Salesforce.com adds to their product further enhances the value proposition for the entire customer base. This is possible because their business model and cost structure is already designed to support profits at this price point. The result is a customer base that is happy to see improvements in this area and supports Salesforce.com as they move upstream in the market.

In February 2000, when the company was officially launched, it had 150 small customers. As of September 2003, Saleforce.com boasts service to over 7000 companies and nearly 100,000 users, positive earnings, and an increasing presence with larger companies seeking Saleforce.com’s inexpensive, efficient and effective CRMS services.

Salesforce.com is now scaling up their product to address the needs of larger customers. Siebel and other companies are attempting to refocus their business on the smaller market that Salesforce.com is attacking from, but the cost structure they are saddled with has inhibited these efforts. It is likely that they will instead abandon the low-end of the market and increasingly focus on the largest and most profitable customers they serve, such as the Fortune 100.

Saleforce.com has crossed the chasm, achieved a foothold with the early majority, and proven itself a threat worthy of continued attention from the competition.

Conclusion

Strategies for market selection for entrepreneurial businesses will be increasingly scrutinized in the future. Firms recognize that the “Evil Knievel” approach that so many start-ups attempted in the dot.com era rarely succeeds in gaining widespread market penetration. Technology companies will only be successful by effectively penetrating pragmatic markets with complete products that have compelling value propositions for that market. This requires effective analysis to determine what markets to target and what strategies and tactics are most likely to effectively exploit these markets. Hypotheses must be developed, tested and validated to allow us to continue to evolve management theories that will guide companies to success in the market.

Value Network Analysis allows a start-up business to develop a “back of the envelope” model for selecting an approach to cross the chasm that recognizes that competitor product strategy is just as critical as your product strategy and market. When crossing the chasm, if your product strategy is not effectively differentiated on a unique dimension from competitors then the competitors have historically been able to effectively defend the market segments that value that product strategy. This application of the Innovator’s Dilemma just scratches the surface of the how our understanding of technology markets will influence the approach entrepreneurial firms take to growing their business.

Bibliography

Christensen, Clayton. The Innovator’s Dilemma. Harvard, MA: Harvard Business School Publishing Corporation, 1997

Christensen, Clayton. The Innovator’s Solution. Harvard, MA: Harvard Business School Publishing Corporation, 2003

Gray, Douglas, F. “Transmeta Confident Under Intel Pressure”

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Leyden, John “Intel reacts to Transmeta threat” VNUNET.com 2000 <http://www.vnunet.com/News/1106738> (14 Jul. 2000)

Moore, Geoffrey. Crossing the Chasm. New York, NY: HarperCollins Publishers Inc., 1991

Moore, Geoffrey. Inside the Tornado. New York, NY: HarperCollins Publishers Inc., 1995

Moore, Geoffrey. Living on the Fault Line. New York, NY: HarperCollins Publishers Inc., 2000

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