When In-House Research Isn’t Enough

Big companies have long relied on their own internal R&D efforts to help build new products and services. But Professor Henry Chesbrough says corporate research has to broaden its vision and incorporate external resources to support new initiatives. Here's why.
by Jim Aisner

For many decades, corporate research and development has been pretty much an "inside job." The road to innovative new products and services began and ended with a company's internal R&D. But according to HBS assistant professor and Class of 1961 Fellow Henry Chesbrough, there's a new paradigm to consider that takes into account both internal and external research and development efforts to create what he calls a "company innovation system."

"What I hope this term will convey," he told HBS alumni, "is what I'm seeing in industry. Companies doing internal research must be much more thoughtful about accessing external resources. What I'm advocating is an expanded view of R&D, blending the external with the internal."

Exemplifying one of Chesbrough's outward-looking approaches was panelist Les Vadasz; a graduate of Harvard Business School's Advanced Management Program and a founding member of Intel. Now executive vice president of that corporation, he is also president of Intel Capital, a corporate venture capital unit investing in companies in this country and companies abroad whose new products and technology have helped complement, advance, and sustain Intel's prominent position in the marketplace.

What I'm advocating is an expanded view of R&D, blending the external with the internal
—Henry Chesbrough

The Intels of the world notwithstanding, however, traditional, only-in-our-labs R&D habits die hard. And why not, noted Chesbrough, since companies believe there are payoffs worth waiting for at the end of the pipeline. Do your basic research in-house and follow up with articles in respected journals, goes the conventional wisdom, and you'll eventually reap the benefits of patented new products that are first-movers in a marketplace that you have a good chance to dominate. Bottom line: higher margins and more revenues for you.

These sorts of assumptions may still prevail in, say, pharmaceuticals, but all bets are off as far as the IT sector is concerned. Indeed, Chesbrough said, a recent study at MIT found no positive correlation between the number of journal articles published between 1981 and 1997 by semiconductor company researchers and the number of patents held by firms.

"It turns out," he said, "that publications by IBM and AT&T scientists were just about the only source of fundamental intellectual capital for the industry. Even without doing very much of the basic research, however, other firms were still registering large numbers of patents."

What's going on here? The research cycle, it seems, has sprung some leaks.

Beyond the fact that deregulation and other marketplace developments have eroded the dominant positions of giant corporations, Chesbrough pointed out, "venture capital has created a second path to market by funding the commercialization of research discoveries."

In addition, engineers and managers—ready and able to move from one company to the next—take their findings with them, providing the wherewithal for startups to hit the ground running. Finally, he said, knowledge in fields such as IT is no longer primarily within the bailiwick of corporate laboratories; universities, in particular, have taken on an important role.

The result of these changes is a new and more complex innovation system. "An internal technology base remains," he explained, "and the company can draw upon that to launch its research. But increasingly there's a parallel technology base drawn from external resources that can also support new initiatives."

As the research process progresses, outside factors continue to make their mark, including scientific advances licensed from academia and even product teams acquired and brought in from other firms. "All these," Chesbrough said, "are new mechanisms to bring external knowledge inside an organization."

Chesbrough then presented "snapshots" of three major corporations whose research policies have led them down different paths:

  • "Although IBM continues to invest substantial sums in internal research," he said, "it no longer restricts the application of that work to the company's own products." Now a provider to multiple vendors, Big Blue has become eager to be part of the solution to a problem rather than determined to be the only solution. Long a leading practitioner and promulgator of basic research, IBM has also found a sustainable model for supporting its $600 million annual research budget. Through careful patenting and vigorous enforcement, it collected $1.4 billion in royalties in 1999.
  • In contrast, Intel does very little basic research. Its approach, Chesbrough explained, is "to aggressively seek out, fund, and monitor" the work of others and then reel in that technology and knowledge for its own use. The result is Intel-sponsored research at leading universities, relationship building with faculty members, and a pioneering corporate venture capital unit led by Vadasz. "Given Intel's approach to intellectual property, it's clear they realize they don't have to own a discovery to profit from it," Chesbrough remarked.
  • Years ago, Xerox's legendary Palo Alto Research Center (PARC) was the source of such major advances as the bit-mapped operating system, the Ethernet networking protocol, and the page description language that evolved into Adobe. But since the company's sights were then fixed on its copier and large-systems printer businesses, Xerox missed the opportunity to take advantage of its scientists' genius. Instead, to the spin-offs went the spoils, as the ten firms that owe their life's blood to PARC—Adobe, SynOptics, VLSI, and 3Com, for example—together recorded a market value last year five or six times greater than that of mother Xerox. "By focusing too narrowly on its core, vertically-integrated businesses, Xerox missed a number of extraordinary growth opportunities," Chesbrough commented. "It's essential to find a way to relate new business concepts that spring from your research to what your company is already doing."

In closing, Chesbrough asked his audience to consider four questions when building an effective company innovation system:

  • Where are the best people and ideas in your field? "If you believe that knowledge is more and more globally distributed, chances are not all the best people work for you," he declared.
  • Can you control the leakage of ideas? The patent system and Federal Drug Administration offer protection in the pharmaceutical and life sciences arena, said Chesbrough. But if you're in IT, forget about it.
  • Can you sustain the pace of innovation necessary for success? The answers to the previous questions have an impact on this one, Chesbrough advised. "Companies relying heavily on external research also need some sort of core organization inside the firm to coordinate and leverage their outreach."
  • Can you capture enough value to reinvest? Xerox missed a slew of golden opportunities. Intel and the new IBM, on the other hand, have got it right, Chesbrough concluded.

In his remarks, Les Vadasz noted Intel Capital's interest in investing in companies that added value and were a good strategic fit, that were already successful in their own market, and that presented a financially viable opportunity. He also spoke of the "significant opportunities" still offered by the Internet and of the international scope of Intel Capital's reach, currently encompassing more than 175 companies outside the United States.

With stock markets floundering and many venture capitalists sitting on the sidelines, Intel's equity investments this year won't match the levels reached during the boom economy. Be that as it may, Vadasz asserted, the company will continue to make investments in keeping with its strategic vision. "In good times, we'll have good returns," he said. "In not so good times, we'll do all right."

About the Author

Jim Aisner is Director of Media Relations for Harvard Business School.