A decade after US-listed consumer goods maker Procter & Gamble (P&G) set about an upheaval of its culture by declaring it wanted half of all innovations to come from external sources, the goal has been withdrawn.
Instead, P&G has set a new target of having $3bn of revenues from new product innovations sourced from its open innovation programme, called Connect+Develop (C+D), each year within the next four to five years.
P&G has set the new goal in a bid to triple the value of external innovation it uses in product improvements or launches each year. The previous target of 50% of innovation to come from outside sources was achieved in 2005, and led to new products, such as Swiffer Dusters, Olay Regenerist, Tide Total Care, Mr Clean Magic Eraser, Clairol Perfect 10 and the Oral B Pulsonic Toothbrush (see box below).
That P&G was so successful in its C+D programme is seen as remarkable, even by those insiders who helped it happen. In an interview with JP Donlon in 2008, AG Lafley, former chief executive of P&G, said: "At the time [2001], we [Lafleyand Gil Cloyd, then head of research and development] thought we would not achieve this in either his or my lifetime."
Steve Rogers, known as the father of P&G strategic sourcing after 30 years at the company, said: "With hindsight, I think P&G’s achievement is even more remarkable, as it is harder to change a culture at bigger organisations."
In this, P&G’s shift to open innovation was helped by the problems it faced in early 2001 under Lafley, who had only recently been promoted to the top job in June 2000. Lafley took over after P&G went through two profit warnings and a fall in its share price from $118 per share to $52. The stock had suffered partly as a result of investors demanding higher growth from companies during the dot.com bubble.
P&G had compensated by looking to find new products or categories rather than innovating in its existing brands, according to Rogers. With a mandate for change, Lafley shook up the strategy.
As well as directly investing more in internal research and development (R&D), Lafley used suppliers and others outside of the company to suggest ways it could improve.
Robert Porter Lynch, adviser to P&G during its work forming C+D, said: "P&G asked the simple question: How much of all corporate expenses goes to outside suppliers (65%) but how much innovation flowsfrom those suppliers (2% to 3%)? Is there something wrong with this?"
The answer P&G gave itself was yes, and so began opening up to third parties. P&G was also helped by the technology bubble with the commercialisation of the internet and the relative ease of communicating it brought both for its then-7,500 in-house researchers and an estimated two million external scientists.
In a 2006 article for information provider Harvard Business Review, Larry Huston, a vice-president for innovation and knowledge at P&G, and Nabil Sakkab, the then-senior vice-president for corporate R&D and regarded as the originator of C+D, said: "By 2000, it was clear to us that our invent-it-ourselves model was not capable of sustaining high levels of top-line growth. The explosion of new technologies was putting ever more pressure on our innovation budgets. Our R&D productivity had levelled off, and our innovation success rate – the percentage of new products that met financial objectives – had stagnated at about 35% [it is now about 75%].
"The world’s innovation landscape had changed, yet we had not changed our own innovation model since the late 1980s, when we moved from a centralised approach to a globally networked internal model."
Jeff Weedman, vice-president of external business at P&G, who joined the development programme in 1996, said: "P&G invented the not-invented-here mindset. When our former chief executive thought up the goal of 50% external innovation, from about [15%] at the time, it was indicative of where he wanted the organisation to be."
He added C+D was now "out of diapers" after the past decade but that it had taken "huge cultural change". Porter Lynch said: "What really creates sustainable value in a company is its culture. And for every employee to become an innovator requires trust. Fear is the number-one cause of distrust."
Rogers agreed, saying: "Culturally, it was a tough change. Most people think the cultural side is an adjunct [to open innovation] but it has to be the organisation rather than a few people who get it, otherwise [C+D] does not play out to the external company as you said it would.
"Trust is the big issue and we had to build it by meeting our commitments or explaining why they had not been achieved."
He said the other factors that went into building trust were integrity, empathy with the third party if P&G could not help, predictability, conflict management and delivering the organisation.
Rogers added: "It takes time to train and build the skills for people in the organisation to communicate with each other and third parties. It also requires them to understand the innovation process, learn how to make choices and negotiate, learn how to deliver a high percentage of winners from development (but not 100%), develop and manage a hierarchy that rewards or recognises the work people do, even failure if it is done intelligently, and man-age the total relationship."
C+D was not starting as a fresh idea set by Lafley in an otherwise unreceptive organisation. Weedman said: "I started in July 1996 after moving back from Canada. Global business development was a lot more humble then. I typically credit the R&D organisation as the first pioneers of C+D."
Rogers said C+D was a way to add three or four scientists from P&G’s suppliers for every one of its own, to work on the company’s projects. He said: "When inventions are commercialised they generally cost too much and so do not sell well, which leads to in-fighting between operations and R&D. So, after a few failures, Fabric and Homecare, P&G’s largest division, worked on what became C+D prior to Lafley coming in.
"To make it work, required the right people – a mix of those with backgrounds in commercial, legal [for intellectual property or patents understanding] and R&D, with experience and a value approach. And by the time C+D hit, the company’s largest unit already had a very strong relationship in putting together purchasing with R&D.
"The structure needs to be right in the organisation, and that is both at the working level, deal-ing with development and commercialisation, as well as senior levels and in the reviews of a project. People also think innovation is a part that is to be changed, but it also requires building a supply chain capable of coping with change even if it is not part of the innovation process, such as the labels guys or chemical suppliers."
Porter Lynch said Rogers was influential in identifying which company used by each business unit should be strategic suppliers and separating them from commodity vendors. He added: "Steve was then brilliant in saying within the supply chain management he had two kinds of people – those that can think strategically and build relationships and those that are good at transactional relationships. Most people in supply chains are not strategic but have a strong need for certainty and a repeatable process."
Rogers said Lafley realised most people did not see innovation as their work and it was easier to break down barriers when the company was not doing well by portraying the enemy as someone externally taking P&G’s business rather than another in the company with power.
He added: "Lafley captured the imagination and focus of people by saying C+D was not the biggest moment in P&G’s history. [That moment was] every time a consumer went into a store and took our product off the shelf and then when they got home and used it they found it value for money."
The focus of innovation on consumer value rather than technology for its own sake has paid off. In its last annual financial results, for the 12 months to the end of June, P&G said its net sales grew 3% to $78.9bn, all driven by organic sales, compared with $39.5bn in its fiscal 2000. The company also showed record adjusted free cashflow of $14bn in its fiscal2010, compared with $4.7bn in the 12 months to June 30, 2000.
However, the company has agreed more than 60 mergers and acquisitions over the past five years, worth $66bn, including buying razor maker Gillette for $55bn. P&G has also sold units, such as its pharma division for $3bn in favour of last month agreeing a partnership with Nasdaq-listed Teva Pharmaceutical Industries to work on medicines together.
Bob McDonald, chief executive of P&G, at a dinner in October to announce the new target of $3bn per year from external sources, said: "Connect+Develop has created a culture of open innovation that has already generated sustainable growth, but we know we can do more,"
C+D includes a global team sourcing innovation from external networks, preferred suppliers and existing part-ners, and linked by hubs covering China, Europe, Middle East and Africa, India, Japan and both North and South America. C+D also runs an innovation portal, www.pgconnectdevelop.com, in five languages (English, Japanese, Chinese, Spanish and Portuguese) for idea submissions.
Weedman said: "But we are still only scratching the surface. First, we are not yet global. We are reasonably well developed in North America and okay in Europe but still toddlers in Asia and have few people in Latin America and looking at Africa. Second, we are focused on building networks by having people located in innovation centres and activating networks. Third, we have shied away from universities, as they have historically been more about upstream things. Now, they are doing work closer to the market, which is more valuable for P&G, and I am re-evaluating as they have become more savvy about working with industry. Fourth, P&G as an organisation is evolving internally to better serve its internal clients."
This can involve taking a technology developed for internal use, licensing it to third parties, whose feedback then refinesand improves it for re-import to P&G. Weedman called this "a barbecue of sacred cows".
Weedman said the C+D strategy had evolved over the past decade. He said: "We have been through the traditional trajectory of perceiving there to be the Rembrandt in the attic – trying to license out our intellectual property – and changing our focus several years ago to seeing more value from bringing external innovation into P&G, although some of our most productive relationships have innovation flowing both ways.
Back in 2000, P&G was trying to change its culture by requiring that all its technology be available for licensing within three years of firstmarket exposure or five years of initial invention. The second internal change was an agreement to return all the value received from licensing to the business unit that invented it, giving these units an opportunity to build their own profit bottom line.
Weedman said: "The shift last year to wanting $3bn in net new sales powered by external innovation every year is because consumers do not care where innovation is sourced from but just if it helps their lives.
"Therefore, should we in the company care where good ideas come from? If not, we should not care if it is 0% or 100% from external innovation. This does not mean replacing internal R&D, as the amount has increased every year [to about $2bn], but we have more research through C+D."
P&G said it spent nearly double its next nearest rival on innovation and last year had 9,000 people doing R&D and building on its more than 35,000 patents. Through external collaboration with more than 400 companies under C+D, P&G’s own research has become more focused, with a 60% productivity increase between 2002 and 2007, the company said.
Weedman said: "We want to be the partner of choice and we have to enhance our ability to work with companies big and small. But we do not look for one-off relationships. Weedman’s law says the second deal done with the same company takes half the time of the first and the third takes a third of the time."
About 40% of C+D partners have multiple deals with P&G and the relationship is responsible for about $3bn in annual sales at its partner companies, the company said. Weedman added: "We have offered more flexibility in how we structure deals over the years but have no metrics and so no idea how many corporate venturing stakes we have – sometimes you get what you measure and equity is not always the most desirable as it comes with work and governance issues. For P&G it is less about what we want than what the other sides wants, and behind my desk I have a chart showing the hierarchy of relationships we can form." (Click to see chart)
Rogers said: "After you have prioritised the big needs of consum-ers you want to become an ideas magnet and to become first choice you need to refer to competitors if needed, if an idea is not going to be used."
But finding innovation to boost net revenues by $3bn a year also involves prioritising growing markets. Steve Meller, chief innovation catalyst at P&G, at the International Business Forum’s Corporate Venturing and Innovation Partnering conference last year, just before the new goal was set, said emerging markets would be a target.
In his presentation, Meller said: "P&G’s growth strategy is to touch and improve more consumers’ lives in more parts of the world, more completely.
"Global population growth means whereas [P&G has] four billion consumers in 2009/10 there will be five billion in 2014/15, driven almost entirely by less-developed countries.
"Spending per person on P&G brands is $110 in the US but $3 in China and $1 in India – these two countries alone, therefore, are a more than $40bn potential opportunity."
He also said innovation was being defined broadly. He said commercial innovation could come through fostering consumption without a product or package change, for example having nappy brand Pampers link up with children’s charity Unicef so money is donated each time a pack of the diapers are bought.
He said other ways to boost innovation was from enhancing or extending brands or creating new categories or sources of consumer consumption, such as services, as with P&G’s first venture in franchising: the Mr Clean Car Wash.
Rogers warned maintaining the growth and success of C+D was difficult. He said: "All strategies have a finite life but for now C+D is working – most new products have oversold estimates – but it is more challenging with a weaker US economy and competitors also opening up to open innovation. It is a tougher challenge now there is no longer a flusheconomy or to do well in China or emerging markets."
But with half of the top 10 US non-food product launches in 2009, according to market research firm IRI, P&G has successfully harnessed its innovation engine to the busi-ness over the past decade.
Fact box
Key people: Bob McDonald, chief executive; Jeff Weedman, pictured, vice-president of external business; Steve Meller, chief innovation strategist.
Portfolio companies: no data kept but corporate venturing deals where P&G owns a minority stake include Ocado, A123, LS9, Market Tools, Inverness, Glad.
Product successes from Connect+Develop
Olay Regenerist, the world’s biggest-selling skin cream, was developed through an in-licensing technology agreement from a French company, Sederma.P&G said its Skin Care division was looking both internally and externally for anti-wrinkle technology options for its next-generation Olay products when it found Sederma was working with a peptide to repair wounds and burns. When Sederma showed that its advanced ingredient showed promise with wrinkles, a partnership developed to create Olay Regenerist, which became a global market leader and leading to the creation of a line of Regenerist products.
Swiffer: P&G engineers were working on a dusting tool to expand the Swiffer mop line when C+D teams came across a hand-held product being sold in Japan. The Japanese company, Unicharm, did not have the manu-facturing, distribution or marketing ability to take their product into other markets and so the resulting partnership enabled P&G to take the Japanese innovation global under its Swiffer brand. Swiffer Dusters are now sold in 15 markets.