Measuring Innovation

Having worked in innovation for over 5 years now, I have learned (like many others in the field) that comparing companies on how well they innovate can be very challenging. Far too often, senior executives equate innovation spend to R&D spend, thereby ignoring many effective types of innovations (e.g. business model innovation, disruptive innovation). As well, industries have inherent levels of innovation, driven by a combination of competitive dynamics, market maturity, and regulatory requirements.

Last week, McKinsey & Co published an article about their proposed metric for measuring innovation, which they are calling IPS (Innovation Performance Score). The methodology leverages their proprietary "granularity of growth" database, which contains information on 750 companies, and involves the following steps:

1. Looking for revenues generated by new reporting segments, caused by new initiatives or acquisitions that are not related to geographic expansion.
   
   
2. Comparing revenue growth to overall market growth, and attributing any superior performance to a company's ability to innovate
   
   
3. Calculating the IPS %, which shows a company's compound annual growth rate over a specific period that is due to innovation

Some of McKinsey's more interesting findings include:

1. A strong IPS is a reliable indicator of stock market performance. This should be no surprise and is hopefully confirming to those of you who work in or have invested heavily in innovation.
   
   
2. Business model innovation is a must. While the level of product, process, and business model innovation will vary by industry, significant business model innovation is key to "superior innovation impact".
   
   
3. There is actually an optimum level of innovation. Companies with lower IPS scores tended to underperform relative to the market, but companies with very high IPS were not rewarded disproportionately.
   

Interesting stuff for sure, and kudos to McKinsey for doing the work. The general logic of the methodology and the conclusions are sound.

One potential opportunity for improvement: the methodology does not appear to fully consider breakthrough, organic growth in existing businesses due to non-product, non-business model innovations (e.g. due to customer experience).

One potential issue: Revenues from an acquisition that leads to new products or services are considered, but this would be tough to accurately dissect from the overall revenues due to the acquisition.