Innovation Killers How Financial Tools Destroy Your Capacity

Innovation Killers How Financial Tools Destroy Your Capacity to Do New Things Authors: Christenssen, Clayton M. ; Kaufmann, Stephen P. ; Shih, Willy C.

• Introduction • Misapplying Discounted Cash Flow and Net Present Value • Using Fixed and Sunk Costs Unwisely • Focusing Myopically on Earnings per Share • Processes that Support (or Sabotage) Innovation • Conclusion

Introduction • The center of the discussion is to appoint the misguided application of three financial tools that prevent innovation to be successful. • The three tools are: • The use of discounted cash flow (DCF) and net present value (NPV) • The way that fixed and sunk costs are considered • The emphasis of earnings per share as the primary driver of share price

Misapplying Discounted Cash Flow (DCF) and Net Present Value (NPV) • Mathematically to find NPV from DCF is impeccable and the economical foundation of the model too • But two errors of that model may cause an antiinnovation bias: • The DCF trap • Errors of estimation

Using Fixed and Sunk Costs Unwisely • Considering fixed and sunk cost as basis for calculating marginal net cash • The case of steel minimills innovation strategy versus integrated steel makers strategy of not investing in new capabilities • What makes incumbent companies managers avoid adopting new technologies • Finance and strategy need to be studied and practiced in an integrated way

Focusing Myopically on Earnings per Share • Emphasis on earnings per share as the primary driver of share price and hence of shareholder value creation • Behavior of managers: use of company cash flow to buy back stocks in order to make share price grows

Processes that Support (or Sabotage) Innovation • Stage-gate innovation (sabotages innovation): • There are three stages for adopting an innovation: feasibility, development and launching • The most critical stage is development because consumes money • Discovery-driven planning (supports innovation): • It consists of reversing the sequence of some of the steps in the stage-gate process

Conclusion • Tools used for financial analysis about investments distort the value, importance and likelihood of success of investments in innovation • It is necessary for managers to challenge paradigms of financial analysis and to have the willingness to develop alternative methodologies

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