Platt Perspective on Business and Technology

Innovation, disruptive innovation and market volatility 45: innovative business development and the tools that drive it 15

Posted in business and convergent technologies, macroeconomics by Timothy Platt on January 27, 2019

This is my 45th posting to a series on the economics of innovation, and on how change and innovation can be defined and analyzed in economic and related risk management terms (see Macroeconomics and Business and its Page 2 continuation, postings 173 and loosely following for its Parts 1-44.)

I have been discussing the costs and benefits of innovation in a business in this series. And I have been pursuing a case in point business example of how the dynamics of that play out, since Part 43, in which one business or organization initially develops a new potentially profitable innovation, that another such organization would acquire access to, so they could develop and market it.

This case study example centers around the development of a new outdoor paint with a novel polymer base that would at least potentially challenge all current market offerings in use for its quality and durability. And the business process side to this revolves around the economics of developing, marketing and selling such a new product type, and for both businesses that would be involved in making that happen.

• The polymer base and its chemistry were developed in a university research lab, with that innovation offered to market in a business-to-business context through their university’s innovation development office as set up to manage all patent and licensing agreements that would arise there.
• And at least one paint company has shown a significant level of interest in buying exclusive use rights to this patent pending-protected innovation as they seek to remain innovatively competitive in their business sector and industry.

I offered and began to discuss this case study-formatted scenario in Part 43 as noted above. And as a part of that, I began discussing (in Part 44), the financially driven costs and benefits analysis that an innovation acquiring business would carry out as a core component of its basic due diligence when entering in that type of transaction.

My primary goal for moving forward in this narrative, after discussing the innovation acquiring side to this story, is to reconsider the finances of this type of transaction but from the innovating organization’s perspective as it seeks to maximize its value received from how it licenses or sells the rights to its innovations to others.

Why is it important, and even crucially so, to analytically parse out and understand both sides to the negotiating table for this type of transaction? As noted in Part 44:

• Both of the businesses involved in this, have to meet their own needs and achieve their own costs and benefits, financial management goals and their own risk management goals,
• While understanding and realistically accommodating the needs of the businesses that they might enter into these transactions with, if those agreements are to come to positive fruition.
• If they make unrealistic demands there, the transactions involved might fall through, or alternatively they might be completed but with money avoidably left on the table. So this is all about achieving a best possible trade-off resolution that both sides can accept and benefit from.

The more clearly and accurately the people negotiating possible terms here, can anticipate and map out the requirements and concerns, and the cost and profitability parameters that the other side faces, the more effectively they can present their case and to their own benefit too.

• As noted in Part 44, I assume good faith efforts being made by all parties concerned to arrive at win-win resolutions here, so these transactions can build bridges for further possible business together, rather than burn them.

I will in fact address this example from the innovation source, university lab perspective. But before doing so and to complete my preparation for that here, I am going to at least start this posting’s main narrative thread by adding at least one more detail to what I have offered regarding the innovation acquiring side to this, and to the considerations of the invention buying paint company. And I begin that by openly acknowledging that I made a basic assumption when drafting my Part 44 narrative, that I would argue is not always going to be true, or even just true enough to offer real value here.

The basic due diligence issue at hand here, is one of planned-out research or other empirically reliable findings as to how durable this new type of paint would actually be on real building exteriors and in the face of real weather and climate stress that this paint company’s end-user clients would face. I mentioned the initial in-lab research that would be carried out at the innovation source university in Parts 43 and 44, which would be rigorous and well documented as part of graduate student or post-doctoral fellowship training, but that would also be quite limited and both in scope and duration. And I mentioned the likelihood that the acquiring paint company might also have to carry out at least some of its own quality assurance research on this new product type too, as most large paint manufacturers actually do, with painted panels and even large fields of them exposed to the outdoor elements, or stress tested in-lab or both. But there is a third possible route here that this paint company could consider, besides relying on these empirically based research processes and their findings. And this third approach in effect splits away from these first two by questioning the feasibility of, or even the fundamental need for anything like the conclusive reliance of findings that the first two testing-based validation approaches entail: at least once a minimal level of assurance has been achieved from them as to the basic quality and value of this acquisition.

At least something of the first two due diligence quality validation testing approaches would be done with initial university-based validating research on this already baked into this technology transfer, business transaction process and its included due diligence efforts. But that still leaves a more actuarially oriented risk management approach for filling the gaps left from all of that as actually carried out. And I frame and discuss this approach by posing some generically applicable risk management questions here:

• How much would this paint cost to produce on a per-can basis, up to the point where it ships out the door from the paint company’s manufacturing facility?
• What is the profit margin that this company can expect to realize from that paint can and its contents, net all manufacturing, shipping, marketing and advertising and other expenses that would realistically have to be included here?
• Now, how much additional expense would this business incur on an average per-can basis, if some fraction of those cans failed to live up to the terms of the warrantee that the company offers for this product?
• This is actually an incredibly complex, multifaceted question, that would include in it among other considerations:
• How long would that warrantee coverage be written for? Note that that warrantee would most likely be shaped by consideration of how long this paint would last and retain its color, etc in the more normative climate conditions that it would be expected to be exposed to, and best estimates as to how long that timeframe would be.
• How often would this paint be used in significantly more stressful environments than envisioned and included there?
• How many of these buyers would invoke their warrantee and ask for a rebate, and at what overall cost to the business if the paint they used did fail while still under warrantee (e.g. from color change or fade, or from cracking and peeling, etc)? Note this would definitely include direct monetary costs from product replacement or refunding, but it might include significant and even larger indirect, reputational costs and certainly if this new paint were to begin failing early in what should be more normatively expected or even mild environments. And if this type of problem were to gain prominence on social media, these indirect costs could impact upon this paint company as a whole and for all of its product lines.

There are more issues and questions that I could raise here in mapping out and monetarily determining the findings of this type of actuarially based study, but my basic point in all of this should be fairly obvious by now. The calculations that I have been addressing here, are largely and even primarily risk management in nature, or at the very least strongly risk management influenced, even as they are framed in bookkeeping terms. And I carry that lesson over when turning to consider a second context where it is equally applicable: the innovation developing enterprise as it seeks to negotiate sale of this source of value that it has created, in a business-to-business market.

As a final organizing thought here, regarding the three above-stated due diligence exercise-based validation approaches for evaluating this innovation:

• The two empirically framed and carried out testing approaches both seek to offer what are at heart deterministic answers to the questions that they raise regarding the durability and value of this new paint type. True, both approaches would have statistical likelihood calculations and determinations included in them and significantly so. But all of those calculations would be solidly based in specific, exactly determined empirical evidence and that would come first in prominence in all that they offer.
• And the third, more explicitly risk management framed approach, starts from what it would acknowledge to be a less than conclusive empirical knowledge base here, and then extrapolates statistically to determine what the paint company should offer in warrantee length, among other considerations, and with a statistically likely positive overall return on investment and profitability coming out of this venture, as framed by this analysis of it.

With that, I will explicitly turn to consider the source business for this innovation opportunity, in the next installment to this series. My first goal there will be to consider the special case of research and innovation development as they are carried out in a university-based research context, and my next goal after that will be to consider research and innovation development as they are carried out in a for profit privately held company per se.

I am going to analytically discuss both of those contextual scenarios in process cycle terms that will include but go beyond the research and development that enters into creating these business-to-business marketable innovations in the first place. And with that noted, my here-anticipated expansion and generalization of this discussion included, I will begin that narrative thread to come, in terms of the specific case study example under consideration here. And after completing that, at least for purposes of this series, I will step back to consider innovation sourcing businesses in general. And then I will step back to connect the two halves of these technology transfers together.

Meanwhile, you can find this and related postings at Macroeconomics and Business and its Page 2 continuation. And also see Ubiquitous Computing and Communications – everywhere all the time 3 and that directory’s Page 1 and Page 2.

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