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Risk Management Can Stimulate, Rather Than Deter, Innovation

7 Jan 2013
Steve Culp – Contributor (Leads Accenture's Risk Management practice globally)

Innovation and risk management seemingly do not naturally go hand-in-hand in many peoples' minds - although we would argue that it should. Wouter Koetzier, who leads Accenture's Innovation and Product Development consulting group, and I have been exploring the benefits of better connecting the two functions and as a result, Wouter is contributing to this column.

What we have observed is that many people think a typical start-up - with its highly independent and empowered teams, agile development, minimal controls and executives who need to gain market share and have less to lose - is the ideal incubator for innovation. The opposite case could be made for a large organization, with a carefully structured risk management function.

In our experience however, it doesn't have to be that way - nor is it. We increasingly see innovation and risk management being viewed as partners, not adversaries. When properly fused, the two disciplines can help organizations pursue opportunities that a risk-averse culture might leave on the cutting room floor. Risk management can help foster a company's innovation agenda by revealing blind spots and areas of underinvestment that threaten the upside of a company's future.

Many companies have established "stage gates", essentially a funnelling process designed to reduce uncertainty as exposure to risk grows. In many cases, however, the stage gating process is too focused on re-enforcing what the company does well today and the funnels end up producing only weak, incremental ideas that come to market slowly and lack emphasis on new areas for expansion. Without a strong link to risk management capabilities, stage gates often become risk averse and weed out big ideas in favour of small ones. Decision-making bodies may send back proposals for additional research and work, creating time-consuming, creativity-numbing rework loops - as opposed to getting early insight on how potential challenges can be addressed to give confidence to the idea.

Ironically, another common impediment to innovation is an existing corporate culture that overly celebrates and rewards success. In these cultures, it is rare to find someone who has been able to rise in the ranks with a failed experiment on his or her resume, even if the failure provided valuable insights about future opportunities.

Venture capital firms - typically designed to manage risk and encourage innovation - can provide some important lessons for large organizations seeking to advance the cause of innovation. These firms typically create a portfolio of investments and engage with the management team through the development process regarding new insights and unanticipated opportunities resulting from new learning's in the process. These firms also know in advance that most experiments will fail.

We see organizations apply three key principles to their work to get a better balance of risk and innovation:

1. Flexibility. Rather than placing all their bets on one or two experiments, companies may want to consider building a portfolio of early innovation investments that act as options. Monsanto - number ten on the Forbes list of the world's 100 most innovative companies - realized early on that genetic modifications could become very important to its seed business. To mitigate risks, Monsanto developed a portfolio of experiments, first investing in biotechnology companies, then opening its Life Science Research Center, which ultimately came to house more than a thousand employees. In a 2012 presentation to investors, Monsanto's Chief Technology Officer Robb Fraley described this approach as "growth layers" for the company's R&D pipeline.

Advanced analytics and other sophisticated risk management tools can guide such complicated decisions by regularly assessing value against multiple variables and scenarios. This support can include risk methodologies and tools designed to measure both positive and negative uncertainty and provide realistic estimates of results. Risk scenario analysis can also simulate results and provide better operational flexibility.

2. Speed. Successful innovation often requires speed. Companies can use rapid experimentation and agile development to increase their chances of filling their innovation portfolios with new products and extensions. An iterative approach that is closely linked to customers and markets can draw attention to risks and integrate them into decision-making. In a high-speed environment, effective risk management often encourages risk-taking within the bounds of a company's risk appetite. Risk management can, and should, facilitate companywide dialogue to determine which risks are acceptable, which aren't, and how much risk is appropriate based on potential returns.

3. Control. Venture capital firms use controls, but these controls typically are designed to increase risk tolerance, fostering a culture that embraces the logic of intelligent mistakes. Innovative companies often create a safe ground for experiments, "safe" because risks are controlled, managed and measured. This typically entails bringing together the finance and operating sides of the business. To the finance side, risk is often something to avoid or mitigate, while operations often sees risk as inherent and necessary for growth. Effective risk governance can bridge these two viewpoints, translating strategic challenges into specific risks to take and providing rules, parameters and measurements to guide both the investments and the process.

Many of the companies we talk to are focused on growth strategies and their associated risks. Programs designed to accelerate innovation are becoming more common, in part, because successful innovation can be a cure for many of the risks companies face. The new and higher regard for risk management reflects its potential to provide controls in complex business environments.

Risk management can, in fact, add a level of discipline and transparency to the innovation process, while supporting desired risk culture and appetite. Marrying risk management and innovation can boost innovation efforts by creating confidence that innovation bets are well placed and that innovation risks are well managed.

Created on 27-Mar, 2013 by HKCCMA.

Last Edited on 27-Mar, 2013 by HKCCMA.