Grand Challenges in Services
June 2006 Proceedings of the GCS workshop held on 18-19 May 2006
Mari Sako Chris McKenna Eamonn Molloy Marc Ventresca Saïd Business School, University of Oxford
Forward The Grand Challenges in Services workshop (held in Oxford on 18-19 May 2006) debated the implications of growth in services for academic research, corporate strategy, and public policy. The key aim of the workshop was to arrive at a better understanding of services, and to address the question of what universities, firms, and governments can do to create value and wealth from services. Around forty leading academic and business participants took part in the workshop (see Appendix for list of participants). At the Saïd Business School, this workshop is a first step towards conducting research on services using social science theories and historical approaches, to complement approaches in computer science, engineering, and mathematics. This perspective led us to focus on the servicizing/ productizing boundaries, the notion of services as activities and not sectors, and the importance of professions and human capital. In contrast to products which are tangible and storable artefacts subject to standardization and automation, services are traditionally conceptualized as intangible, non-storable, co-produced with customers, and therefore difficult to standardize and automate. However, the boundary between products and services has become increasingly blurred, as products are ‘servicized’ and services are ‘productized’. Consequently, most firms in most sectors of the economy have, or require, a mix of product and service activities. There is indeed a huge variety in activities called services, and we need to better understand the shifts in the composition of different types of services over time. Interestingly, we still have the sort of perishable services offered by ‘players, buffoons, musicians, and opera singers’ that Adam Smith had in mind a few centuries ago. But at the same time, new markets for services are being created due not least to ICT, but also to corporate restructuring (including outsourcing) and dynamic systems of professions. The workshop was organised around four themes: (1) Globalisation of Services; (2) Products vs Services: Which is the Better Business Model?; (3) Public vs Private Sector Services: How do the Differences Matter?; and (4) Innovation in Services. This document is a summary of the proceedings. It has been compiled with the help of colleagues and students at Saïd Business School, notably Felix Reed-Tchocas, Panayotis Dessyllas, Judith kleine Holthaus, Latchezar Hristov, and Holger Sommerfeldt. Several corporate participants, notably from HP, IBM, Infosys, and TCS, provided valuable inputs and support. The Advanced Institute of Management Research, UK Economic and Social Research Council, funded the workshop. We gratefully acknowledge their contributions.
Mari Sako Saïd Business School University of Oxford http://www.sbs.ox.ac.uk/faculty/Sako+Mari/gcs.htm
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Forward............................................................................................................................................... 2 1. Globalisation of Services .............................................................................................................. 4 2. Products versus Services: Which is the Better Business Model? .......................................... 10 3. Public vs. Private Services: How do the Differences Matter?.................................................. 15 4. Innovation in Services................................................................................................................. 21 Innovation in Services: Breakout Sessions................................................................................... 28 List of Participants………………………………………………………………………………………......37
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1. Globalisation of Services Overview A background paper prepared by NASSCOM 1 provided an overview of key issues in thinking about the globalisation of services. NASSCOM outlined a wide range of factors that facilitate and hamper global trade in services. First, the “communication revolution”, i.e. advances in ICT, has undoubtedly promoted the tradability of services across national boundaries. Second, the obstacles to services globalisation include structural imbalances created by the signing of the General Agreement on Trade in Services (GATS). Third, NASSCOM focused on challenges and opportunities related to the increasing importance of a) managing a cross-cultural workforce in services, b) education and innovation, and c) the effective enforcement of intellectual property and information security. The first session of the workshop built on this analysis and began with two presentations, first by Arun Aggarwal, Head of Global Consulting Practice, UK and Sudhir Varadarajan, Relationship Advisor at TCS, UK; and second by Rafiq Dossani, senior research scholar at Stanford University. Chris McKenna chaired this opening plenary session.
Practical Challenges: Demand Drivers TCS, a major Indian IT services company, provided a micro-level business perspective on the globalisation of IT services. Their presentation focused on the facilitators and challenges in the provision of IT and IT-enabled, offshored business services at the company level. Their insight at the more operational level therefore went deeper than the “standard” arguments regarding the effects of increased digitisation, deregulation, and falling communication costs. According to Arun Aggarwal, the main demand-side driver for global sourcing of IT services is corporations’ focus upon operational excellence. Corporate decision-makers aim to achieve better results in terms of the cost and quality of operation. Aggarwal also highlighted the advantage globalisation provides in quickly fulfilling requirements for human capital. Companies that offshore therefore have an advantage in the “war for talent” and can react to changes rapidly.
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Karnik, K., S. Mehta, et al. (2006). Globalization of Services: Facilitators and Barriers. Background paper prepared for the workshop - Grand Challenges in Services, organized at Oxford University, NASSCOM.
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Further, most global organisations have experienced an increasing level of complexity in their operations. Small and medium-sized companies, in particular, can benefit from the centralisation of support functions and from economies of scale, while at the same time maintaining the entrepreneurial nimbleness to generate revenue and grow. This, according to TCS, gave rise to a typical model involving a decentralised front-office and a more centralised back-office. However, the presenters pointed out that centralisation was not location-specific, and could therefore take place anywhere in the world. All these demand-side factors driving offshoring are therefore related to the fact that firms leverage opportunities for cost saving globally.
Practical Challenges: Supply Facilitators Supplying services from offshore has been enabled by improved ICT. ICT has led to the creation of new operating models, based on globalizing previously domestic provision of services. The internal shared services model is an option for companies that source services from captive offshore locations. This model has been adopted by many financial service companies. The general trend towards shared services therefore presents further opportunities for offshore service providers such as TCS because captive offshoring might be the initial stage to offshore outsourcing. Further, factors such as digitisation and falling communication costs have improved supplier companies’ ability to share knowledge. Other contributing factors are the emergence of operating standards (e.g. international standards around financial payments) and new management tools, many of which are IT-enabled (e.g. portals, search engines). Moreover, “sophisticated” clients are raising their expectations about the type of services suppliers deliver. Firstly, suppliers are expected to provide higher value-added services. Clients do not only expect “services” but are increasingly pushing towards “solutions” as relationships mature. Secondly, the commoditisation of services requires the ability to be part of a multi-vendor sourcing arrangement with short-term contract relationships. Thirdly, clients expect the service provider to be able to guarantee compliance with various regulatory requirements, not just to provide a “black box” delivery of service. Therefore, the production of services needs to become increasingly transparent.
Conceptual Challenges in Offshoring Having provided an insight into the business of supplying offshore IT- enabled services, Sudhir Varadarajan presented the conceptual challenges and issues that arose from a business perspective. Varadarajan argued for a deeper understanding of what offshoring actually meant. He offered a definition that sees offshoring as an “innovation in services with a global impact”. This definition included three main areas that needed analysis in order to understand offshoring: namely innovation, services, and globalisation.
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Innovation is a rather limited concept in current usage and needs to be redefined. Four grounds for such need are identified. (1) The current concept is commercially-oriented and it is not very useful for innovation in public services. (2) Most of the discussion on innovation is producer-centred, but in services the customer/user has a critical role to play. This relates to the issue of democratising innovation. The power of participating in innovation extends beyond the producer. (3) There is a need to bring together different fragmented approaches by stage, type, or discipline. (4) The innovation concept is restricted by spatial-temporal dynamics. What happens to ideas that get lost? Is there any way to recover them in a different context? The definition of services also requires reconsideration. Outsourcing and offshoring challenges the fundamental characteristics of services, namely intangibility, heterogeneity, inseparability (i.e. co-production in one location) and perishability. Varadarajan remarked that the study of services at the macro or firm level did not make sense. Rather, it seemed more reasonable to move to the micro level. Looking inside the firm, one would see that there are multiple roles of customer/user, for example as provider of ideas. Also one needs to look at the pattern in the organisation of service companies, which constantly break up and then recompose. Identities (of people) are defined and redefined on a project basis. Another issue is the intellectual property issue that lies at the interface. Who does the innovation belong to that is developed there, the client or the supplier? Thirdly, globalisation at the micro level means a shift in power and a different division of labour. The question here is how to make this shift manageable and sustainable. Further, the ethical question arises regarding how communities, employees and citizens are influenced by the trend towards globalised services. Finally, globalisation as a phenomenon expands the scale and diversity of the environment. Hence it has an effect on the notion of equilibrium. We need to move to a non-equilibrium model. Varadarajan concluded by summarizing the grand challenge of services as the study of processes of interaction that lead to generative networks. This challenge requires the combined attention of firms, universities and governments. In particular, the challenge is to study how different groups of people interact to create patterns of organisation. Therefore, taking on this challenge meant an opportunity to weave together practical, disciplinary and cultural perspectives.
Trade in Services Rafiq Dossani first commented on some aspects of the NASSCOM paper. He explained the link between barriers to globalisation and the four modes of supply used by GATS. Two categories are especially problematic and face trade barriers, namely trade where only the service crosses the border, and where persons need to cross a border for delivery.
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Under GATS, countries are allowed to charge different tariffs on different types of services. If only services cross the border, countries may levy tariffs based on the most lucrative classification of services; for example, a piece of financial services software may be classified as a financial service or software. If persons must cross borders, visa restrictions and problems with cross-certification of professional qualifications constitute non-tariff barriers. Further non-tariff barriers include cultural differences, political backlash, and non-enforcement of intellectual property rights. These issues may account for why global trade in services was only a fifth of total global trade.
Venture Capital in India Dossani then discussed why in India, innovation was higher, and service provision more sophisticated, in large multinational corporations than in small companies. In order to answer this question, he examined the link between the roles of Venture Capital (VC) and of Corporate Venturing (CV) in promoting start-ups with high innovative potential. He then asked how government policy could help create more innovation in small Indian firms. When describing the status of VC in India, generally, seed and early-stage VC investment is quite low in India compared to more developed countries such as the US. However, even for the state of the country’s development, it is remarkably low when compared to, for example, China. Also, in India, the contributions VC makes to non-financial (particularly operational) knowledge for start-ups are limited. Thirdly, global venture capitalists are not particularly active in India. The problem is that foreign venture capitalists that do invest in early-stage projects become rather conservative when investing abroad. Empirical evidence suggests that entrepreneurs do not have connections to globalised VCs. A more encouraging picture emerges from India-based multinational corporations (MNCs). Many of the large globalising firms in India, such as TCS, collaborate closely with start-ups. CV partially fills the gap that the underdeveloped VCs leave. Dossani then offered possible policy solutions. In response to the underdeveloped VC, one solution could be some type of Public-Private Partnerships (PPP). This policy is designed to tackle the resource mismatch, weak university-industry collaborations, and low rates of intellectual property creation. To determine the optimal level of different types of public financial support, the existence or lack of VC domain expertise and the level of maturity of institutional finance need to be considered. Examples of different policies include the successful SBIC program in the US during 1960-80, the SBIR/STRR funds in the US, and the BIRD project in Israel in 1980s. Dossani recommended a similar programme for India.
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Comments by participants In the context of the two presentations, Marc Ventresca stressed the need to develop research on services that uses robust comparative and historical methodologies. He argued, for example, that Dossani’s analysis usefully investigates the activities of VC firms in context with other sources of venturing capital and explores national institutional differences that configure ‘services offerings’ over time.
Pressures to differentiate whilst standardising… In the ensuing discussion, two participants focused on implications of service offshoring on competitive strategy. Michael Cusumano pointed out the increased need to differentiate services in a global market space. He argued that, because globalization for offshore providers, such as TCS, leads to standardization, the question is whether and how differentiation might be possible. Along similar lines, Michael Lyons stressed the dangers involved in service offshoring. He asked whether one firm is supposed to hand over to somebody else the only source of differentiation.
Outsourcing might inhibit innovation in services… Many participants expressed views on the relationship between outsourcing/offshoring and innovation. As argued by Chris Voss, outsourcing of innovation is usually a response to lack of in-house capability. Richard Taylor commented on the impact of outsourcing on a firm’s innovation capability. He argued that, because outsourcing often requires standardization of a service and freezing the interface, in some cases outsourcing can make innovation impossible. Susan Helper drew analogies from her study of interfirm relationships in the automotive industry. She claimed that one explanation for why there was no innovation in Mexican supplier-buyer relationships was that the task to innovate was too hard for the companies, i.e. the required step was too large and led companies into a sort of lethargy. She concluded that in some areas of services, the step that is needed to increase the value-add in services might be too large to be taken in services right now. Phil Janson raised the issue of the difficulties involved in defining and measuring (different types of) innovation and efficiency of service provision. Two other participants raised points at the intersection between innovation and public policy. Clifford Foster argued that, because of weak intellectual property protection in services, early release into the public domain of related information might enable a firm to achieve a leading position in its market segment.
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How do proximity to customers matter? Several participants focused at a more operational level and on the interface with customers. Abigail Tierney questioned whether the trend towards centralization vs. decentralization in service provision was a permanent or cyclical phenomenon. Vikram Mansharamani made the observation that many of the large service providers have offices around the world in order to be present locally. Therefore, he asked whether the dispersion of offices of many IT service firms might be taken as evidence of the importance of co-production with customers. Tony Clayton pointed out that while private firms need to know their clients, they can also – through different means of marketing – choose their clients. Public services however need to understand not only one segment but all citizens as they cannot choose (“fire”) their customers. Finally, Chris Voss reinforced the need for further research on outsourcing and offshoring of services from the perspective of customers/users of services. He justified his view by arguing that the role of customers becomes increasingly important as customers become more sophisticated users of externally sourced services (i.e. what to outsource and in what context).
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2. Products versus Services: Which is the Better Business Model?
Overview The panellists Michael Cusumano, Paul Maglio, and Richard Taylor started a central discussion on the value of making a distinction between products and services. Cusumano spoke from his research paper,2 and incorporated recent empirical analyses from his work on the business models across the software products industry. Marc Ventresca chaired this session. Many high tech products companies still look down upon services, reported Cusumano. He illustrated this with the following statement attributed to Sun Microsystems Chairman Scott McNealy: “Services will be the graveyard for old tech companies that can’t compete.” However, Cusumano’s empirical research of over 485 software products firms over the last 15 years reveals that, over time and in a clear criss-cross effect, service revenues have taken over product revenues in almost all the sample companies. Based on these data, Cusumano was able to identify five strategic groups based on the ratio of product sales to overall sales: pure product firms, product hybrids, balanced hybrids, service hybrids, and pure service firms. Surprisingly over time 60 % of all firms turned into balanced hybrids and less than 10% ended up focusing on products or services alone. So products might not be as good as previously thought. Products may become much more rapidly commoditized or even obsolete, and their margins, sometimes approaching 99%, are often overstated because they exclude high R&D costs. In fact, excluding Microsoft, the hybrid firms in the sample have higher and more stable profits, higher market valuations and a better survival rate than pure product firms. From this, Cusumano concludes that a successful software company goes through three distinct stages during the lifecycle of a technology: from product, to process, to service innovation. Because products are the engines that drive services, the hybrid business model is the most thriving at today’s stage of the software industry. The leading companies in this category master the complex challenges of combining the diverse skills necessary to ‘servicize’ products and ‘productize’ services. 2
Michael Cusumano, Steve Kahl, and Fernando F. Suarez (2006) Product, Process, and Service: A New Industry Lifecycle Model.
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These results do not only hold true for software companies. According to Paul Maglio, a former computer hardware specialist and cognitive scientist, IBM has also criss-crossed from a pure product company to becoming a leader in services. Today, IBM generates over 50% of its revenue from services. With only a small part of the emerging $21 trillion business services outsourcing market (accounting, HR, etc.) tapped by external providers, IBM continues to see its biggest growth potential in services. With innovations like business component modelling, a tool to map complex business processes in terms of reusable mix-and-match business components, IBM aims to bring standardization to business services, improving the efficiency of transformational outsourcing and further growing its service business. The plenary discussion then focused on three themes. First, the analytic and policy value of separating services from products was debated by the participants. Second, discussion addressed the way services could be defined, and what actually constituted products. Finally it was established that services differ with respect to business models, technology and innovation, though questions as to how and why remained.
Is there value in separating services from products or manufacturing? Existing categorizations of services versus products seem to be at least ambiguous and the discussion remained controversial. Is Google a service or a product company? The ensuing discussion revealed an exemplary bandwidth of possible interpretations. While Chris Tofts sees the search engine as a company delivering individual services to advertisers, for Dossani all Google searches are based on the same non-customized software, idem it is a product company, culminating in Cusumano’s interpretation of Google as ‘a service company behaving like a product company’. Philippe Janson argued for a distinction between services and products to help us move further up the ‘food chain’ from agriculture to manufacturing to services. In his historical perspective, roughly 200 years ago our societies were dominated by agriculture, 100 years ago by manufacturing, and today by services which account for 70-80% of GDP for most developed countries. The changes from agriculture to manufacturing are well understood and largely attributed to automation, division of labour, and increased productivity. But we understand much less about the complexities of the manufacturing to service transition. Cusumano’s study of software companies persuaded him that services are an inevitable part of the life cycle dynamics of every product based firm. Products can become obsolete and successful software companies have largely moved towards product / service hybrids. Therefore, companies must address what services bring to them in the product to service transition.
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For Richard Taylor and Chris Tofts complex software products often do not exist in isolation because they can only be sold if bundled with corresponding support services. This makes separating products and services very difficult and somewhat arbitrary in practice. Where to draw the line becomes an idiosyncratic question of how any individual company chooses to frame its relationship with its customers. Even a traditional hardware company like Rolls Royce Aero-engines can redefine its customer relationship as ‘power by the hour’ service. Alternatives to the simple product service dichotomy were equally proposed. Susan Helper suggests categorizing industries and companies according to differences in their cost structures, with special attention to low versus high fixed costs. This would enable us to interpret competitive behaviour and strategic actions through the framework of network externalities and “winner take all” markets, which maps across the product vs service distinction. Over the course of the discussion, the workshop participants came to a measured understanding of addressing services as a separate category. While the title of this session pitches services against products, the active discussion of the participants evolved into a more precise use of terms, leading to refinements in the existing definitions of services, goods, products, and solutions. For some, it makes sense to contrast services not with products but with manufactured goods. Maglio reports that IBM’s service offering includes several service products, a usage of the term ‘product’ that was supported by almost all practitioners present. Even trade statistics, corroborates Clayton, will include a product output survey for services in the future. Instead of being the opposite of services, ‘productization’ then seems to capture the degree of commoditization or standardization of services and manufactured goods alike. Consequently, for Cusumano, a standardized service can be a product. Solutions finally, which are an important issue for all practitioners present, combine goods and services (both to some extent as products) to solve client specific problems.
How exactly can we define services? With the majority of the participants agreeing on the importance of differentiating services from manufactured goods, the discussion moved to more precise definitions of what constitutes a service. Traditional service attributes like intangibility, labour intensiveness and co-production have become more ambiguous under the influence of ICT and are not sufficient to characterize services any more. Mari Sako, in her introduction to the workshop, pointed to the difficulty in reconciling two contrasting views of services, as a ‘control system with noise’ that could nevertheless be subjected to tighter process standardization on the one hand, and an activity for which judgment-based professional work could not be eliminated on the other. This diagnosis was shared by the participants throughout the workshop.
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For Aggarwal, not only can services very well be commodities, but he also shifts attention away from attributes to the process of providing services. For him, services follow the same general ‘input – transformation – output’ logic as manufacturing. This points the way to a useful distinction among this workshop’s many contributions to defining services: namely, differentiating between the process of providing services versus looking at the outcome of service provision. A process lens directs attention to the production function of services or on what is service specific about the way inputs are transformed into outputs. Maglio provides a definition based on such a process view, conceptualizing services as a transformation centred on a specific relationship. Later contributions from Tony Clayton and Henry Chesbrough also take up this perspective. Providing a service is seen as the approved transformation of a service target by the service provider for the sake of another party, the service client. The service target encompasses people, businesses, products and information. In a related extension, services are interpreted as complex socio – technical – economic systems. Are there precise service attributes that follow from this process view of services? No clear distinctions were apparent from the discussion, only the general assessment that most attributes currently used break down in at least some cases. For Varadarajan co-production is not a necessary condition for all services anymore. Maglio sees a transition from labor-based to asset-based service models. Even official statistics, according to Clayton, start counting as assets what you cannot drop on your foot, e.g. software. It seems that only a combined process and attributes view can contribute to a fuller understanding of the nature of services. The discussion consequently started to focus on what is unique about services.
What’s so unique about services? With a more precise understanding of what exactly defines services, the discussion shifted towards the implications of this supposed difference on issues ranging from technology to innovation. How does service innovation differ from manufacturing innovation in practice and should it differ more, as some practitioners suggest? What is the impact of technology on services and manufactured goods? Similar to its role in the process of manufacturing goods, Aggarwal remarks that technology helps to automate the process of service provision through enabling reusability and standardization. In the case of services, the technology of choice is obviously ICT, while robotics and mechanical engineering are more adapted to manufacturing. The more recent advances in ICT help explain some part of the relative lag in service automation as compared to manufacturing automation.
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Among some of the consequences of this trend, Taylor stressed the potential decoupling of the co-production of services. Pointing to another tendency, Tierney reports the competing demands of the economics of commoditization versus the demand side pressures for customization, something private and public organizations face alike. For Cusumano, ICT enables service providers to overcome this trade-off by simultaneously allowing customers to tailor services to their specific needs, while allowing the automation and standardization of the underlying platform. According to Cusumano, software firms with hybrid business models that combine products and services generally have higher margins than their specialized counterparts, be they pure product or pure service companies. The operational challenges are largely about how to balance the demands of ‘servitizing’ products and / or ‘productizing’ services. His data show a trend towards giving away products for free, while generating revenues with product related services, which makes ‘servitizing’ and ‘productizing’ crucial business model changes for the survival of more specialized companies. What exactly then is the role of R&D in service innovation? Lucy Kimbell directs attention to the service user, whose sense making efforts are a central part of the service experience. For Varadarajan this co-production related aspect of many services means, that the customer has a vital role in the R&D process. Other than in more manufacturing oriented settings, R is not separable from D, because both are integrated in abstracting from unique customer experiences to arrive at generalizable, patentable service processes and products. Another implication according to Taylor and Maglio is that R&D’s main focus in services is consequently on increasing reusability.
Conclusion While the importance of treating services as a separate field was clearly endorsed by the workshop, there is still a fair amount of ambiguity in finding an appropriate definition of services. A trend towards more process oriented definitions was apparent in the discussions, leading away from traditional attribute based distinctions. This helped clarify the specific impact of technology on services. While outcomes can remain more or less customer specific, the automation of the service provision process results in reusable tools and commoditized service products, surely one of the grand challenges for services. The lively discussions led to some important refinements and insights, suggesting just how helpful it would be for an emerging field of service sciences to take stock of the current state of research. It was interesting to observe that practice and academia seem to have the same concerns and questions. The suggestion to establish a thorough research report on the treatment of services in the literature, going back into history and going across multiple fields was therefore welcomed by all participants as a worthwhile foundational effort for this field in the making.
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3. Public vs. Private Services: How do the Differences Matter? Overview In this session, Christopher Hood considered the nature of public services as distinguished from private sector services, whilst Tony Clayton examined the challenges governments face in improving classifications and statistical measures of service sector output. Eamonn Molloy served as the chair of the session.
What are public services? What is public service?, asked Hood, a question to which no adequate answer has been offered thus far. He currently directs the ESRC Public Services Research Programme, for which “the precise definition of the term is part of the research problem.” Defining is a necessary first step for any research on public services. Hood offered three common understandings about what is special about public services. First, public service might refer to unpaid work for a ‘good cause’, including civic work for charity or for community groups, work for voluntary associations, or work given in enterprises that normally charge for their services but choose to offer them free. This type of work may be rewarded in other ways, notably medals and other honorific rewards. There is, however, a long-standing debate on whether honorific rewards motivate people sufficiently to deliver reliable work. Jeremy Bentham for example supported the view that this approach should suffice, whilst other scholars such as Max Weber criticized it. In the latter view, people must be paid to bring about good and reliable work. Second, public service involves activities that are delivered by civil (or bureaucratic) corps of the state. Here, the term refers to the civil service rather than military service or the police. Therefore, this group of service workers are paid and employed by the government based on special terms and conditions which are different from private sector contracts. Third, public service is recognised to be analytically different from private sector services. Here the term seems to cover a set of activities which might be provided by volunteers or state bureaucrats, but also by other suppliers including private companies. We are on a lookout for activities that are held to have some kind of special properties, captured for example in the idea of collectively clearing snow on the road.
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Hood regarded these conventional notions of public service as fuzzy at the margin. In particular, they do not answer questions such as “where does unpaid community work end?”, “where does the paid bureaucratic corps of the state end, and independent or private sector organizations begin?” or “what might be the special features of public service?” Consequently, we may not be able to classify many activities as public or private. For example, espionage might seem private but actually carried out for the state. Are all types of teaching and research public service? What about the provision of performing arts, the environmental preservation aspects of farming, or provision of drinking water?
Answers from economics, law, and political science Hood put forward three disciplinary perspectives on with what special properties public service might be imbued. First, in economics, public service has the characteristics of what economists call ‘public goods’. There are two separable attributes, namely non-excludability and jointness in consumption. The non-excludability attribute addresses the question of how easy it is to exclude people from consuming the service. The other attribute, jointness in consumption, implies that the use or enjoyment of a good by one person does not foreclose its use or enjoyment by others. With no jointness, alternative uses are clearcut, such as the use of a boat for jet skiing and the use of the same boat for fishing. In reality, many goods and services are hybrids in their characteristics. The Östrom typology of goods is instructive (see Figure 1).. They started their work on the provision of water, and noted that water pumped from a ground water basin is a ‘common pool resource’ for which exclusion is infeasible and no jointness of consumption exists. Alternatively, there are ‘toll goods’ such as telephone service or theatre, for which exclusion is feasible and joint use is prevalent. Further, it is possible to distinguish between healthcare, which is a private good, and public health, which is a public good. Figure 1. Types of goods3 Jointness of Use or Consumption
Excludability
Alternative Use
Joint Use
Private good
Toll good
Infeasible
Common pool
Public good
Exclusion
resource
Feasible Exclusion
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Vincent Östrom and Elinor Östrom (undated) Public Goods and Public Choices, paper for a Workshop in Political Theory and Policy Analysis, Indiana University.
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Though useful, the economics approach leaves an open question on how we discover public goods and services. Do public goods exist out there, or are they perceived and interpreted? Hood asked: “If I see public good properties everywhere and you see them hardly anywhere, how are we going to resolve this difference?” A second perspective is legal, and draws on the notion of “public power” or “puissance publique”. Public power is that which belongs to the state. Hood explained this power by the example of marriage: “You and I can decide whether to marry and […] whom we marry. But the state decides what forms of marriage contracts are valid and what are not valid as we see with the debate over gay marriages and civil partnerships. Only some forms of contract are allowed to us by the state.” In Roman law, public power is the power to forbid, compel, punish and permit. So is teaching a public service? The answer depends on whether it involves the exercise of this kind of power. The duty to award degrees and certificates of qualification in university teaching can therefore be considered as a form of “enablement” because they define who can be doctors or lawyers. This reasoning leads to the view that, as is the case in Germany, university professors are civil servants and part of the bureaucratic corps of the state. What exactly differentiate these particular kinds of activities that involve the use of public power from other kinds of services? Hood exemplified this point by use of the case of prisons: One can see that the power to imprison people or to punish them whilst they are in prison or to control them when they are rioting involves the use of public power. However, the provision of catering services, laundry services, the management of the building, and the like might not be considered as part of these powers. When therefore looking at privatized prisons, one might turn to the private sector for their provision, but not the “rioting control business” or the “punishment business”. These remain with the state. The third, political, perspective is simpler than the other two perspectives, and is normative. Public services are those that political leaders or electorate decide to spend taxpayers’ money on. If the government of the day were to decide that the provision of boots and shoes should be funded out of federal taxation, then they are public services. The ruler or electorate may come to different conclusions about what services should be publicly funded, and these may change over time and across nations. For example, in Paris, undertaking services have been publicly funded. In Singapore, one solution to encourage population growth is for the state to provide a free dating agency. These are political solutions to specific issues. In conclusion, there appear to be some convergence in the definition of public service. Nevertheless, Hood believes that the three perspectives do not lead to an identical conclusion concerning what is public and what is private service.
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Comments on Hood In the ensuing discussion, Cusumano suggested that a distinction between ‘for profit’ and ‘not for profit’ would be adequate for the analytical task at hand. Hood countered by pointing out that this distinction reflects a supplier perspective, whilst his three perspectives help us think about categories in terms of more generalisable activities. Janson proposed a categorisation based on customer choice: the more monopolistic the offer, the more public the service. However, this might not be applicable in all areas of public service. Hood pointed out that even in judiciary service, a citizen might have a choice of different jurisdictions. Zbaracki brought up the difficulty of positioning business schools in the public vs private space. Hood responded by referring to the three perspectives. Economists might claim that teaching at business schools has public goods characteristics. A legal question focuses on the extent to which professors in management schools have public power. And finally, one would have to ask the electorate. Would they agree to fund business teaching and research out of taxation? Sako linked the discussion to outsourcing, and asked whether it would be difficult in practice to turn over public service provision to private hands where the use of public power might depend in part on such provision. Privatized prisons provide a useful context. Hood considered essential to address the question of whether outsourcing is limited to service provision or extended also to the use of public power. Germany offers an example of the former situation, in which the only activities that can be outsourced are de-linked from the use of public power, such as catering and cleaning. In contrast, in the UK, the definition of “use” is more flexible. Where prisons are privatized, the use of public power is outsourced under certain contingencies. The state would still administer, for example, early releases and take over in case of insurgencies.
Government’s challenges in improving measures of services As the director of economic analysis at the Office of National Statistics (ONS), Tony Clayton provided an agenda, starting with an insight into how services in general are defined and measured by ONS in key government statistical frameworks. He then posed challenges in improving classifications, output measures, and input measures, in order to respond to changes in the structure of the national economy. A focus on creating economic measures for services is a good starting point for classifying services into public and private, based on who owns the assets, how the assets are being used, and who bears the risks in case of insolvency. Due to the increasing importance of services in most economies, measuring them statistically is of high relevance for policy making. Compared to other countries, the UK is ahead in the measurement of services both in terms of scale and quality of methodology. Only the UK has a monthly output indicator for the entire service sector including output from public services. Here, for example, the ONS has worked
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on the creation of a measure that accounts for output directly in addition to recording spending on services. However, there are still major gaps and challenges to be tackled. For example, although the ONS has developed a direct measure of output, it is difficult to create an output measure that would be comparable to those in manufacturing. Also, certain activities such as interest in financial services are presently still ignored as a service. Ironically, public services are among the hardest to quantify. Looking at ONS statistics helps us understand some of the structural trends in the service sector. For example, UK consumer spending on services has overtaken consumer spending on goods since 1999. Explanations for this phenomenon might be an income effect as more affluent people spend more on services (such as travel and childcare) that are bundled with the basic, physical product. Moreover, an increase in firms supplying “intermediate services” and the fall in the value added / gross sales ratio provide evidence for the increase in outsourcing as companies not only disintegrate vertically but also horizontally. However, statistical data can also counter media hype about another structural change that jobs are being lost due to offshoring. Rather, an analysis of the import and export balance shows that the UK actually has sustained surplus in IT-enabled knowledge services trade.
Classification issues Clayton identified three major issues in the existing classification of services. First, classification is defined by final output, rather than activity. This is not a suitable model when competitive advantage is increasingly defined by expertise and scale at the business process level. Second, changes in business may lead to changes in classification, but the resulting image does not reveal what is happening in the economy. For example, music that is downloadable (e.g. iTunes) is considered a service, while music that is stored on a CD would be classified as a good; “if you can drop it on your foot, it’s a product; if not, it’s a service”, quipped Clayton. Third, although services account for 71% of GDP, only 26% of all SIC categories cover services. This means that a heterogeneous group of services is represented at a classification level that corresponds to a more disaggregated sector in manufacturing. Therefore, service statistics are not yet as good a source of analysis to understand the service sector as the goods sector.
Problems with measuring outputs and inputs Changes in how service outputs are measured make time series and longitudinal studies problematic as data might not be comparable over time. Further, quality measurement of a service according to its sales price can be subjective and difficult to capture. For example, there might be 20 different service conditions for the same airline seat sold through an airline ticket. Another issue is that price measurements are not reliable over time. To illustrate this, one may think about how one deflate the increasing cost of legal services. Further options to
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make output data more reliable are cost weighted inputs or the direct measurement of services. However, the measurement of output does in itself pose several challenges. Turning to measuring via inputs, there are four inputs in the national statistics, namely labour, capital, purchased inputs, and technology. The most precise measure here is labour, which works for goods and services, and for the public and private sectors. The measurement of capital used to measure services has gaps in financial services and public sector. Further, purchased inputs of services – ‘intermediate services’ – are difficult to benchmark in both private and public sectors. Finally, when looking at technology inputs, IT is probably the best measure. Compared to other sectors, service companies invest more in IT. Using this insight, a group of researchers at the LSE are currently investigating the impact of IT investments on the productivity in services. The study shows that technology does increase the productivity of services more than it does in manufacturing. Also, the combination of information and communication technology and employment practices seems to be different depending on the type of service provided. Further, while in the manufacturing sector e-business applications are used to help manage the upstream supply chain, in services, IT is used to integrate the end customer as well. In the ensuing discussion, Taylor reinforced the importance of having precise measurements, as the government does base its policy and investment decisions on this data. Clayton noted a partial solution to counter measurement deficiencies, in the form of involving the customer in the investment decision, a view echoed by Tierney. Another difficult-to-quantifiable measures, not mentioned in Clayton’s presentation, is investment in R&D in services. Clayton pointed out that international agencies as well as national statistical services are presently working on a new classification scheme for services. Ventresca concurred, noting the example from his work of recent changes to the US classification of industries, now called the North American Industry Statistical Classification (NAICS), an explicit effort to make services more visible in the classification schemes.
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4. Innovation in Services Overview The keynote speaker was Henry Chesbrough at Haas School of Business, University of California. According to him the closed model of innovation, which is largely internally focused and removed from outside ideas and technologies, is increasingly obsolete. Emerging in its place is the new open innovation paradigm which maximises the innovation process through the use of internal and external ideas and technologies. Mari Sako chaired this plenary session. The presentation was followed by breakout sessions during which participants discussed innovation in services from four perspectives: complexity theory, design, innovation studies, and strategy. The Concept of Open Innovation4 Chesbrough firstly contrasted the characteristics of open innovation to the traditional innovation model. According to him this new innovation paradigm, originating from technology-based companies, marks a radical departure from the classical R&D process often referred to as closed innovation. The ‘closed’ model of R&D displays linear characteristics represented by a pipeline or a funnel and follows distinct internal sequence of stages from idea generation, evaluation, testing, development to commercialization of new products and services. Chesbrough broadly divided this ‘closed’ model into two functions, the research function and the development function often referred to as ‘market organisation’. The model suggests a single way into the process and a single way out of it with little or no outside interaction. The focus is mainly on the existing market of the firm (see Figure 2). The open innovation model expands this narrow view of the R&D process taking into account the complex network of interactions which occur among technology-based firms. The traditional science and technology perspective of a linear R&D process is still there but more as a special case within the broader open innovation model characterised by a flow of internal and external technologies and interactions (see Figure 2). These technologies can come into the R&D process either at the very beginning or at a later stage. The costs 4
The concept is extensively addressed in Chesbrough, H. (2003) Open Innovation: The New Imperative for Creating and Profiting from Technology. Harvard Business School Press; Boston, MA, 2003
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associated with this (essentially considered as waste in the closed innovation process) become external flows which provide an opportunity for a firm to hire partnering business models with view of commercializing additional innovation outputs. In cases where such immediate business models are not available these external flows may give rise to new technology ventures or spin-offs set up to take the risk in developing and commercialising new ideas. Figure 2. The closed innovation paradigm
Science & Technology Base
The Market
Research Investigations
Development
R
New Products /Services
D
Hence the term open innovation, defining an R&D process which provides greater openness to innovation inputs and outputs. “The very imagery of a funnel or a pipeline”, Chesbrough pointed out, “assumes that things go through but they do not leak out. It is quite a rigid imagery. Open innovation drills holes into this funnel and allows the firm to start inputting into their R&D process new ideas from internal as well as external technology bases. It also allows its outputs to be directed not only towards current but also new markets.” Figure 2. The open innovation paradigm
Other Firm’s Market
Licensing Technology Spin-offs
Internal Technology Base
New Market
Current Market
External Technology Base Technology Insourcing R
D
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Open Innovation in Technology-Based Firms Chesbrough presented the case of IBM and their dramatic transition from a closed to an open model of innovation. “Before I became an academic”, he reminisced, “I worked in a technology-based firm which competed with IBM. At that time IBM was the industry benchmark.” His analysis first focused on the pre-1993 business of IBM when the whole of their product range from disk drives to business solutions presented a highly vertically integrated model. “Indeed if you wanted to buy an IBM disk drive you had to buy in an IBM computer, usually from an IBM salesperson, with IBM providing the after sales support. This all changed when the company nearly went out of business, a new CEO stepped in and IBM announced 30,000 redundancies (one of the largest single write-offs in business history).” In order to survive IBM have managed to reconfigure their entire business model. They have broken down the horizontal stacks of separate activities and have opened a number of parallel markets outside the levels of the stacks. “Now if you wanted to buy an IBM disk drive you can actually buy the drive separately”, explained Chesbrough “in fact IBM’s first open innovation agreement was with Apple Computers. The Apple PowerBook used an IBM 2 ½ inch drive, the same that went into their own IBM ThinkPad, the implication being co-operation on components levels and competition on systems level.” The thrust of open innovation value-added comes from ‘specialisation’ and ‘horizontalization’. IBM’s radical transition from a closed to an open innovation model is marked by dramatic changes at the very top of their stack of activities – in applications and business solutions. Now the company offers support services not just for IBM products but for everybody else's products. In fact in many cases they offer their clients the option to run for them their facilities and manage their equipment and system. This is a significantly different and more flexible business model which reflects the new way in which IBM innovate at present. The company increasingly bring into their R&D third party technologies like JAVA and LINUX, etc. which they do not control but nevertheless deploy into their business solutions. For example they have become the biggest channel to market for Sun Microsystems regardless of the fact that they are still direct competitors in servers and workstations.
Open Innovation outside Technology-Based Firms To illustrate the point that open innovation is not confined only to technology- based firms, Chesbrough gave example with an FMCG firm. He referred to a recent publication in Harvard Business Review about the new ‘open’ model of innovation at Procter and Gamble5. For many years Procter & Gamble (P&G) generated most of its growth through internal network of global research facilities. Since 2000 this approach has changed. Their new CEO 5
Huston, L., Sakkab, N. (2006) Connect and Develop: Inside Procter & Gamble's New Model for Innovation, Harvard Business Review, Mar2006, Vol. 84, Issue 3
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A. G. Lafley saw that P&G could not sustain their growth objectives by spending increasing amounts on R&D for smaller and smaller returns. He initiated a radical departure from the traditional P&G innovation approach of ‘invent it ourselves’ and instead embraced a new ‘connect and develop’ model. “Now, the company collaborates with a range of suppliers, competitors and entrepreneurs scouring the world for new ideas which they develop or adapt in collaboration. This new ‘connect-and-develop’ approach is credited for about 60% increase in their R&D productivity. The company has launched in excess of 100 new products for which some aspect of development came from outside (Huston and Sakkab 2006). As Chesbrough pointed out, “This illustrates an open innovation model in an FMCG business.” On the one hand P&G uses external technology scouts to improve R&D productivity. On the other hand they have an R&D output which is there to be deployed internally or externally, referred to as ‘use it or loose it’ intellectual property. Anything that have been patented at P&G but not used for five years is made available for licensing externally. “This really concentrates the minds of P&G executives on how to deploy existing technologies or face the risk of competing against those later.”
Open Innovation Intermediaries The speaker also referred to another group of companies seen as intermediaries of open innovation. These are small boutique firms, such as yet2.com, NineSigma and InnoCentive, whose role is to enable certain aspects of the open innovation model. Often known as technology scouting firms they see their role as finding new technologies that complement the R&D processes of their clients or helping their clients in commercialising some of their own innovation output. For example Lucent New Ventures Group, a company which sprung as a venture capital start-up inside Bell Laboratories has been spun-off and now outsources technologies from Lucent, British Telecom and Philips for outside commercialisation.
The Challenges of Open Innovation in Services In applying open innovation thinking to services Chesbrough concluded that most of the research on service innovation is done on a macroeconomic level and much less attention had been devoted to understanding service innovation on the level of the firm. He related this lack of understanding of the construct due to chronic under resourcing. “In many leading companies such as IBM, GE, Xerox and GM, services comprise more than half of their revenue. Usually it is also the faster growing part of the business and yet many companies who sell service innovations offerings to corporate and government clients themselves admit that they lack a powerful conceptual model underneath their offerings.” The presenter referred to a discussion back in 2002 with Paul Horn, Senior Vice President of Research at IBM. “The paradox of funding innovation at IBM is that only about 10% of a $6bn R&D budget will be ploughed back into advancing our service proposition, and yet our business services grow faster than our products and account for over half of IBM revenue”, an unsustainable situation, which since then has been gradually redressed.
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Chesbrough also quoted the findings of a recent study about the impact of academic research on industrial performance commissioned by the US National Academy of Engineering. The study examines five sectors, three of these in manufacturing (networking, medical devices and aerospace) and two in services (financial services and transportation). Its results clearly point towards a significant impact of academia in the manufacturing sectors, and much less impact in the two service sectors. The conclusion drawn from this is that academic research enterprise has not focused on or been organized to meet the needs of service businesses. “Although larger proportion of GDP in OECD countries is generated by services, locally they are underrepresented in the structure of research funding, in a sense we live like IBM”, Chesbrough remarked, “our society is 70% or more services related and yet most of our R&D goes to products and technologies. This is an ongoing challenge for service innovation.”
IT as Enabler to Innovation in Services The next point raised during the presentation was about the role of IT in increasing productivity. Chesbrough highlighted recent research6 (at a firm level) by Erik Brynjolfsson from MIT Sloan School of Management which examines the effect of IT on productivity and output growth in large US firms. Its findings confirm the substantial contribution of IT to measured productivity and output growth both over short and long time periods. This however is not a given but rather contingent upon levels of investment and sound management of IT. Companies greatly improve their productivity with IT spending, but only when they deploy new business processes to exploit that IT investment. “If you just pour IT spending into legacy processes you have little or no benefit from it”, concluded the presenter, “benefits come when companies adopt new processes designed to maximise IT spending in areas that would have been unfeasible before. Therefore if we want to understand productivity and innovation of services at a firm level we have to get into the business processes.” Chesbrough called for a rethink in the way services operate. The practice of services is often fragmented where firms often perform in individual areas, SIC codes or silos. Each service sector has developed deep domain expertise but there is little or no sharing across. Therefore people working in these vertical domains do not have the broader knowledge necessary. In a way this resembles an old computer architecture comprising vertical stacks of chips, peripherals, operating system, middleware, applications and user interface. Computer architecture has moved away from that rigid vertical system. Now different domains use roughly the same code base, which allows for creative fusion among them, for example the emergence of bio-informatics where biology and computing come together. Prof. Robert Glushko from University of California, Berkeley combines his knowledge of IT architectures and management to study IT-enabled business models across three phases, concept, 6
Brynjolfsson, Erik and Hitt, Lorin M., "Computing Productivity: Firm-Level Evidence" (June 2003). MIT Sloan Working Paper No. 4210-01
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prototype and implemented models. According to him each of these models have three distinct levels (1) information and data structure, (2) business processes and (3) business policy and strategy (see Figure 3). Chesbrough argued that services often suffer from disconnect between the levels. On the one hand IT managers who focus exclusively on maintaining and running the IT systems may lose out of the bigger picture, on the other senior managers who see the bigger picture may be unconnected to what their IT systems can realistically deliver. As a consequence many expensive IT projects fail. “How well these two levels of the model connect will much depend on the middle layer – the business processes. Hence the effort of IT services to provide and automate business processes (e.g., from procurement to payments, etc.) by mapping out, codifying and linking each of the involved activities. Once this has been achieved these processes can then be reused or reinvented in different configurations. Figure 3. Model of IT-enabled business models7
Strategic/Policy Issues
Business Processes
Information/Data Structure
Conceptual Model
Physical Model
Implemented Model
“But beyond that” Chesbrough reiterated “in order to innovate in the new IT-enabled environment services need outside jointness with customers and partners, building connections across multiple business models.” At the beginning this may involve only data sharing or links between business processes but ultimately it will amount to linking-up entire business models. Example of that comes from retailing, where Amazon diversify their range into areas such as jewellery. The company itself do not stock jewellery but they sell it. The products are stocked, fulfilled, and shipped by a third party for whom Amazon is the main channel to market. At the end of his presentation Chesbrough offered his candid assessment of “why this might be the right time” for exploring new avenues to service innovation in the context of the emerging field of services science. Services have become the predominant economic activity both in terms of value-added and employment. At the same time advances in IT provide 7
See R. Glushko and T. McGrath (2005) Document Engineering: Analyzing and Designing Documents for Business Informatics and Web Services (MIT Press).
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unprecedented opportunity for their future growth. “The need for academic rigour in conceptualizing new service innovation models is compelling.” The presenter however also acknowledged the challenges that this emerging academic field will need to overcome in terms of academic fragmentation, lack of support mechanisms and limited research funding.
Concluding Remarks The way service firms innovate is changing. Major advances in IT create the opportunity for a more open approach where firms will innovate not only by themselves but also through engaging external technologies at different stages of their creative processes. Business processes that can be codified and standardised will benefit from modularity and more efficient and consistent delivery at a firm level. Service innovation however will increasingly require co-ordination across multiple business models with all the benefits and challenges that may arise from that. With process automation codified knowledge of service firms will gradually commoditise and with that the importance tacit knowledge as key value driver will increase. The profound changes in the way innovation takes place in services innovate require greater academic support and new academic agenda grounded in services science.
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Innovation in Services: Breakout Sessions
Participants broke up into four groups, on innovation studies, strategy, complexity, and design, to discuss what each perspective offered in advancing our understanding of innovation in services. The discussion was informed by a background paper prepared for this workshop.8
Group 1 – Innovation Studies Participants: Antti Ainamo, Henry Chesbrough, Tony Clayton, Latchezar Hristov, Eamonn Molloy, Ammon Salter, Mike Scott, Bruce Tether, Abigail Tierney Key Themes: The discussion focused on three main themes: 1. Measurements of services output 2. Characteristics of service innovation 3. Innovation models in services
1. Measurements of Services Output The group reached the conclusion that there are few industry specific measurements of economic output in services. Services are a diverse group of industries, comprising a range of public and private activities in large and small organizations. The partly intangible nature of services makes it hard to capture its objective output and as a consequence it is equally hard to measure its innovation output. Therefore service innovation appears to be mostly measured through the ‘old’ toolkit coming from manufacturing. The key questions raised here were about: 1. How can the mixture of tangible and intangible outputs of services be captured through measurements reflecting the distinctive nature of services as an economic activity?
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Ammon Salter and Bruce Tether (2006) Innovation in Services: Through the Looking Glass of Innovation Studies. background paper for Grand Challenges in Services.
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2. Is it necessary to measure all services outputs (including innovation) or does manufacturing ‘operations’ logic (i.e., “if you can not measure you cannot manage it”) take hold of services, assuming the link between measurement and performance? Maybe some parts of the service sector are not amenable to operational logic and purely economic measurements. 2. Characteristics of Service Innovation The group agreed on three key characteristics of innovation in services (i.e., 3Cs of services). 1. While in manufacturing innovation tends to take place as a punctuated change (i.e., something will change at a certain point, then there will be a period of relative stability followed by another change), innovation in services takes place in a continuous mode. Therefore it is harder to identify the particular time-point at which an innovation has occurred. 2. Innovation in services is characterized by a strong level of complementarity between technological and organizational changes and between technical inputs and human skills. In service innovation these are often bundled together. Therefore in comparison to manufacturing innovation services do not follow a purely technological trajectory. Thus, it can be construed among other things as ‘finding new ways of combining and integrating existing technologies’. 3. Innovation in services involves co-production. The discussion here was around whether services have always innovated in a more ‘open innovation model’ and that the ‘closed model of R&D funnel’ is mainly a characteristic of manufacturing. A lot of innovations in services are co-produced and as a consequence it is often difficult to assign individual intellectual property rights and separate provider and user. 3. Innovation Models in Services Service firms can benefit from some of the principles of traditional mass manufacturing models. There are parts of service organizations (e.g. in retailing or financial services) where the new product development process resembles that in manufacturing organizations. However there are other parts of the same organizations where innovation is much more ad-hoc, less formalized, and organized. The key questions here were:1. To what extent should the ad-hoc innovation models become more formalized, and how much more ad-hoc should the formal innovation models in services become? 2. What system of innovation management is more appropriate for services? The discussion also included the role of the public sector as brokers who create the interface between the providers of services and users.
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Group 2 - Strategy Participants: Mark Dodgson, Clifford Foster, Judith kleine Holthaus, Chris McKenna, Vikram Mansharamani, Was Rahman, Michael Smets. Key Themes: The session was characterized by the combination of very varied practitioner and academic perspectives. The emergent themes were:1. The definition of innovation 2. The role of the client as a source of innovation 3. Different operational models to enable innovation
1. The Definition of Innovation The first strategic perspective taken from practice was presented by Rahman who described how Infosys has to change in order to innovate. The shift from ‘siloed’ operations to providing ‘solutions’ presents a challenge. The main innovation within the company up to now has been to get operations under control and make services timely and predictable. However, in order to stay competitive, the company needs to be able to solve customer problems and not only manage operations. What is needed therefore is an “understanding of the customer”. Infosys does not invest heavily in the kind of ‘official R & D’ seen in other types of organisation that are more geared towards product innovation. To Foster from IBM, innovation in services means that the different learnings and solutions by the project teams need to become available to the entire company. Therefore he sees innovation differently from Rahman. The two however agreed that the main issue is the integration of different parties in order to share knowledge. Foster pointed out that there seems to be limited amount of research into services themselves. Rahman added to this point that usually, R&D activities regarded the automation of implementation rather than the exploration of new service offerings. Two themes were picked up from this initial discussion: Firstly, the definition of what innovation in services is and how it can be financed; and secondly the integration of the customer into the innovation process. Mansharamani presented the broad results of one of his studies where he found that service innovation meant the innovation in service models. Therefore, on the one hand, companies with highly variable cost sought ‘fixization’ - or ‘productization’ in order to fix costs. On the other hand, companies with high fixed cost would seek an increase in variability. Therefore, there seems to be a situational aspect to the definition of innovation in services.
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Dodgson, who has researched innovation for a long time firstly underlined the previous statement in the discussion that the term “R&D should go to the dustbin” as it disregards many of the important activities in a company that lead to innovation. Therefore, he liked to think of innovation in terms of “Thinking, playing, and doing”. This means that a whole new language might be required in order to talk of innovation. Rather than referring to R&D, one should think of strategies for innovation as a process that depends on what the aims of this activity are. Secondly, he pointed to the fact that, although there seems to be a current interest in service innovation, a relatively long tradition of service innovation and research exists already. Therefore, one should not reinvent the wheel but rather ask what very useful models existed already and how they could be used.
2. The Role of the Client as a Source of Innovation The customer is usually seen as a main source of innovation. However, in practice, including the client is actually risky. Mansharamani thought that “There are reputational, financial and organizational risk involved when doing customer innovations” In fact, previewing this, there are certain governance structures which explicitly prevent this type of innovation. Therefore, it seems that the partners need to make a decision regarding the trade-off between security through governance structures and an innovative arrangement. The question here is how you can innovate in a customer relationship. As Foster put it, “You can only be as innovative as your client allows you to be.” On the other hand, it might also be sufficient to understand what the customers are doing rather than to involve them in the innovation process. Dodgson’s study of CEO needs for IBM was cited as a possible example of how to do this. However, a lot of the innovation does not come from the customer. McKenna, for example pointed out that the M-Form, although an innovation in consultancy services was not an innovation that came about through innovation with the customer. Rather, when McKinsey started selling this idea, first, it looked wrong to CEOs. McKinsey essentially produced this innovation by carrying practice from one organization to another. Rahman thought that this might be that wandering around and watching what others do might be one way of innovating – and diffusing – new service ideas. By contrast, in legal services, the service provider is expected to be an expert. Therefore, a lawyer must not experiment whilst working with a client. Rather, they draft a customized contract for what is needed. In order to understand this need, lawyers are trying to learn more about the clients’ business by reading specialist journals from the client industry. In IT, the professionals are mainly specialists in IT, not in supply chain management. The sophistication of the consumer affects the quality of interaction with the client in the innovation process. Therefore, the consumer needs to be educated enough in order to have a conversation in which she articulates her expectations and problems clearly.
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3. Different operational models to enable innovation The group also discussed the issue of how to bring about innovation that is organization-wide. The one possible process would be that innovation is practice-based and needs to radiate throughout the company. What seems important with this model seems to be that the client and supplier parties have enough decision power to go through with some suggestions. In a law firm, for example, each partner – as an owner of the firm – has the power to decide on funds. The other option would be that it is organized centrally and is pushed outwards. However, in this case, the search for innovation sources seems to be hard. One powerful tool here might be the “suggestion box” principle where employees submit their suggestions. It might be interesting to look at the result of these recommendations. A third option would be that innovation is simultaneous – enabled and distributed through ICT. In all three cases, it appears important that a certain acceptance of failure is prevalent within the company. With respect to a teaching agenda, at several occasions during the discussion, multi-disciplinary insights were advocated to generate service innovation: firstly in order to understand the ‘business of the customer’, secondly in order to innovate in processes towards ‘productization’ or ‘servicization’, and thirdly from the client side as this would foster the definition of needs.
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Group 3 – Complexity Participants: Michael Cusumano, Panayotis Dessyllas, Paul Maglio, Mari Sako, Felix Reed-Tsochas, Richard Taylor, Sudhir Varadarajan. Key Themes: The discussion was centered on three main themes: 4. How should we define complexity? 5. Is complexity theory especially relevant to services? 6. How are complexity and predictability interrelated? Discussion The group discussions started off by considering whether complexity theory constitutes a coherent and uncontested body of theory that can be applied directly to improve our understanding of how services function and perform, or whether it is characterised by different approaches and analytic tools depending on the discipline and context. Researchers working on algorithmic complexity in computer science, non-linear dynamics in applied mathematics and physics, and complex social networks in sociology, all consider themselves to be addressing important aspects of complexity, but it is not clear to what extent these different conceptions of complexity overlap or how strongly they are related. It was agreed that it is useful to make a distinction between ‘complex’ and ‘complicated’ systems, and some general criteria were suggested for identifying genuinely complex systems. It was suggested that modelling approaches grounded in a complex systems perspective, such as agent-based modelling, might be especially appropriate for business models which involve co-production and decentralised and distributed approaches to innovation, decision-making, and delivery. Concrete examples include the management of decentralised supply chains, and the development of open source software. However, no consensus was reached as to whether complexity theory can provide us with especially useful tools for understanding how services perform. Some concern was expressed that research in this area might produce overly elaborate and complicated models, which may only bring marginal improvements in understanding system behaviour, and are unlikely to lead to higher levels of system predictability. Reflection It is perhaps useful to start with the observation that the utility of analytic tools and techniques which are grounded in our cross-disciplinary understanding of how different classes of complex systems behave does not depend on the coherence and unity of an overarching body of complexity theory. Indeed, it could be argued that the search for a grand theory is fundamentally misconceived, and that real progress will be made by applying well-defined methods to concrete cases and examples, and exploring to what extent the
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mechanisms and insights in one application domain and discipline can be transferred to another. One of the defining characteristics of complex systems methods is that they are predicated on certain generic properties of certain classes of systems, and not the details of the system. This is precisely why they provide excellent interdisciplinary tools. Although there are competing formalisms to characterise complexity, there is broad agreement across disciplines about the key characteristics which identify complex systems. These include a heterogeneous population of agents (or actors, components), significant interactions between the agents, and a highly nontrivial (and nonlinear) mapping between the micro-specifications or micro-states of the system and the overall dynamic behaviour that the system exhibits. Because we believe that the dynamic properties of many complex systems fall into universal classes (driven by endogenous processes), rather than being sensitive to the detailed characterisation of micro-states, parsimonious models such as relatively simple agent-based models can be surprisingly useful. The highly nonlinear dynamics that are manifest in complex systems have another implication. If we turn on the interactions between the agents in a model of a complex system, what we observe is not just a marginal adjustment to the system behaviour and functionality, but quite frequently a dramatic change in the systems state and dynamic evolution. These points can be made more concrete by considering the dynamic response of specific complex networks to local failure. Here the recent large-scale failure of the power grid on the East Coast of the US is a good example. The cascading failure which led to the shutdown can be understood as an outcome of the interaction of a particular global network topology and specific local rules operating at substations. The key mechanisms of this endogenously generated process can be captured by a fairly simple model, with no need to account for the detailed layout of the network and the specifications of each component. The same approach to failure as a dynamically generated collective phenomenon can be applied to highly optimised supply chains (e.g. the supply chains for major supermarkets), and also provides insights into how the Toyota supply chain was able to reconfigure itself without central coordination following the failure of a key supplier. Since the delivery of services typically involves a complex interaction topology, and strong interdependencies, complex systems approaches could prove very useful in understanding how the failure to provide a key service may arise as a consequence of collective dynamics. In closing, the key question that needs to be addressed is whether there are any fundamental reasons why agent-based models and other complex systems approaches should be especially relevant to the services sector? What follows is a bare bones sketch of a possible answer. Various discussions during the course of the workshop emphasised that the distinction between products and services should not be seen as binary, but rather as representing a continuum. One approach to identifying where in this spectrum a particular business model lies is to focus on the interaction between customers and suppliers/providers, where the interaction can perhaps be specified both in terms of ‘intensity’ and ‘projected duration’. Intense interactions between customers and suppliers/providers allow for enhanced co-production, and generally a more distributed business model. Projected duration reflects the observation made in discussions that services imply interactions over extended periods of
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time, whereas for pure product offerings the customer supplier interaction collapses into one point in time. If we accept this rough and ready working definition, then the move towards services (i.e. more intense and long-term customer-provider relationships) would imply that complex systems models should become more relevant and useful, as long as we can also assume highly heterogeneous customer needs and requirements. Perhaps this constitutes the beginning of an answer about why and when complexity matters in service.
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Group 4 - Design Participants: Arun Aggarwal, Rafiq Dossani, David Gann, Susan Helper, Lucy Kimbell, Michael Lyons, Holger Sommerfeldt, Chris Toffs, Marc Ventresca, Chris Voss
Key Themes What can a design perspective grounded in liberal arts contribute to innovation in services? This was the central question for discussion in the session. Its importance is underlined by the shifting boundaries of design. Design consultancies are moving into strategy and innovation with new management propositions. According to Kimbell, design in its broad perspective goes beyond its narrow definition as a ‘craft’ and encompasses a wide range of activities, including ‘silent’ design practiced by non designers (for example, managers). Participants were divided in their opinions as to how new or strategic the design perspective to services really was. According to Aggarwal and Gann, design has a long history in services. Creativity and exploration are not unique only to the liberal arts design tradition, as they exist in software or business process design. Voss gave examples of strategic application of design referring to companies such as Virgin and Apple. Kimbell and Aggarwal pointed out that it was not so much the design ‘process’ which constituted the difference between services and manufacturing, but the actual practices. The case of First Direct Bank where services are co-produced with a substantial input from customers underlines differences in practices between service and product design. Voss pointed out that service design was a more complex and prolonged process because it involved simultaneously visual aspects, interaction and delivery. But why is service design so difficult to capture? Ventresca suggested a systems explanation. “Services are almost always embedded in complex systems. Innovation and design consequently need to address the whole system in order to be effective. This explains why the Southwest Airlines business model is difficult to copy.” Gann pointed out that the complexity of service design was often hard to codify which made it difficult to protect its intellectual property rights. Therefore service firms innovate continuously. Overall, the group agreed that design, independent of its immediate meaning, added substantial and unique value to the development of services. This brought forward important questions as to where and how service design should be taught and where should it be located in the context of organizations. The group concluded that future research was needed to address these important practical and theoretical questions.
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Appendix: List of Participants Arun Aggarwal Head of Global Consulting Practice Tate Consultancy Services
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Antti Ainamo HSE Department of Marketing and Management
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Henry Chesbrough Adjunct Professor, Executive Director, Centre for Open Innovation University of California Berkeley, Haas School of Business
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Tony Clayton Director Economic Analysis UK Office for National Statistics
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David Cooper University of Alberta, Canada
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Michael Cusumano Sloan Management Review Distinguished Professor Massachusetts Institute of Technology
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Paul David All Souls College University of Oxford
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Panayotis Dessyllas AIM Research Fellow Said Business School University of Oxford
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Rafiq Dossani Consulting Professor, Asia/Pacific Research Centre Stanford University
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Clifford Foster Associate Partner IBM Business Consulting Services – Financial Services
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David Gann Chair in Technology & Innovation Management Tanaka Business School, Imperial College London
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Mark Dodgson Director, Technology and Innovation Management Centre University of Queensland
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Susan Helper Professor of Economics, Weatherhead School of Management Case Western Reserve University
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Christopher Hood Gladstone Professor of Government All Souls College University of Oxford
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Latchezar Hristov Said Business School, University of Oxford
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Philippe Janson Asset Program Manager IBM Research, Zurich Lab
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Judith kleine Holthaus Said Business School, University of Oxford
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Lucy Kimbell Clark Fellow in Design Leadership Said Business School
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Michael Lyons Manager, Strategic Analysis & Business Research British Telecom Group, Chief Technology Office
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Paul Maglio Senior Manager, Service Systems Research IBM Almaden Research Center
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Christopher McKenna University Lecturer in Strategy Said Business School, University of Oxford
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Vikram Mansharamani Management of Technology Innovation and Entrepreneurship Massachusetts Institute of Technology
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Eamonn Molloy University Lecturer in Operations Management Said Business School, University of Oxford
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Gavin Potter Partner, Centre for Business Optimisation IBM Business Consulting Services
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Was Rahman Head, Strategy, Solutions & Alliances for Europe, Middle East and Africa Infosys Technologies Ltd
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Felix Reed-Tsochas Senior Research Fellow Said Business School, University of Oxford
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Mari Sako P & O Professor of Management Studies Said Business School, University of Oxford
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Amonn Salter Senior Lecturer Tanaka Business School, Imperial College London
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Michael Smets Said Business School, University of Oxford
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Holger Sommerfeldt Said Business School, University of Oxford
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Richard Taylor Principal Scientist, Open Analytics Research Group Hewlett Packard Ltd
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Bruce Tether Senior Lecturer, Innovation & Technology Management CRIC The University of Manchester
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Abigail Tierney Corporate Director, Strategic Leadership Aberdeen City Council
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Chris Tofts Hewlett Packard Ltd
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Sudhir Varadarajan Relationship Adviser Tata Consultancy Services
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Marc Ventresca University Lecturer in Management Studies (Strategy and Organisation) Said Business School, University of Oxford
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Chris Voss Professor of Operations and Technology Management London Business School
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Roy Westbrook Professor of Operations Management Said Business School, University of Oxford
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