The Key to Preserving a Long-Term Competitive Advantage

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For more than a century, the pharmaceutical company Roche has been headquartered in Basel, Switzerland. It’s just one of more than A dozen pharma companies who have long been based in the historic city, which sits at the crossroads of Switzerland, Germany, and France.  Innovation expert Howard Yu says that this industrial cluster is a unique example of enduring competitive advantage.

Yu is the Lego Professor of Management and Innovation at IMD Business School in Switzerland. He explains that the story of these enduring companies offers a counter-narrative to the pessimistic view that you can’t stay ahead of the competition for long. In this episode, you’ll learn how these historic companies began not as pharmaceutical companies, but as makers of chemical dyes. Their transition from organic chemistry to microbiology was an enormous change that ensured the longevity of their businesses.

You’ll also learn how to rethink and repackage your company’s existing knowledge in order to pioneer new products and services – and you’ll learn why persistence and experimentation over the long term are pre-requisites for innovation. 

This episode originally aired on HBR IdeaCast in July 2018. Here it is.

CURT NICKISCH: Welcome to the HBR IdeaCast from Harvard Business Review. I’m Curt Nickisch. Float down the Rhine River through the City of Basel in Switzerland and the murky water will carry you past the red sandstone cathedral up on the hill, along old stone embankments and under a medieval bridge. You’ll also pass the gleaming Roche Tower jetting diagonally into the sky like an optimistic sales forecast. And outside the old city, you’ll drift past the shiny new sculptured glass offices of Novartis. These global pharmaceutical companies here have rich corporate campuses.

HOWARD YU: At Novartis for example, the campus looks almost like a modern museum in many ways. There are stone gardens. There are major art installations all across the campus and the buildings were designed by a famous architect.

CURT NICKISCH: Speaking there is Howard Yu. He’s a management and innovation professor at IMD Business School in Switzerland. And what really impresses him is that these enterprises have been on the shore of the Rhine River for the better part of two centuries. After all, Yu grew up in Hong Kong where he saw industries rise and fall in short order. He says this enduring industrial cluster in Basel is unique.

HOWARD YU: And it’s just interesting element around how a city, a cluster industry can enjoy so much bountiful prosperity that really tricked me to go explore this particular city.

CURT NICKISCH: How these companies have stayed on top for so long is the subject of his new book. It’s called Leap: How Businesses Thrive in a World Where Everything Can Be Copied.  I spoke to Yu recently on a day when my seasonal allergies were pretty bad, maybe something that those drug companies in Basel could help with. Howard, thanks so much for talking with the HBR IdeaCast.

HOWARD YU: My pleasure.

CURT NICKISCH: You have this title, Leap for your book, but when you talk about the pharmaceutical companies in Basel, there’re companies that have been in one place for a long time. They look like they’ve just stayed the same and endured. So, how do you explain that these pharmaceutical companies in Basel have lept ahead?

HOWARD YU: Yeah. The pharmaceutical cluster in Basel, Switzerland is sort of an anomaly because, in the field of competitive strategy, I think we are so well trained and thinking is so entrenched that you want to build up a defense for competitive possession. That you want to build a structural barrier to protect your businesses against competition over a long period of time. That seems to be the dominant thinking among executives and manager. That is a mirage. Because no value proposition can stay unique forever. Any blue ocean may turn red over time. If we were to look at different industries for a moment from automotive to textile, for example, to heavy machinery, personal computers, all the way to the mobile phone, inevitably what we see is expertise and capital and know how to migrate from one country to another. This anomaly in Basel kind of jumped out at me. And they’ve been settling in the same location for almost close to 200 years.

CURT NICKISCH: So, what is the conventional thinking, at least in Switzerland or elsewhere about how these drug companies have endured there?

HOWARD YU: Yeah. The usual response I get is, an executive would say, well, drug discovery is very high-tech. Or, drugs are subject to FDA approval, which is hard to get and as patent right. And yet, personal computers once upon a time, also have a lot of IP. Automotive has a lot of IP. And even the textile industry, 200 hundred years ago is the high-tech of the day. And yet they couldn’t stay away unscathed by global competition. What’s really interesting about Basel is how do these drug companies continue to reinvent itself? So, I decided to spend some time to just to understand from a historical development, a historical perspective what have these pharmaceutical companies have been doing throughout its long history of time, 200 years or so, to stay competitive, to fend off other low-cost competition differently than other industry we’ve seen.

CURT NICKISCH: What did you find?

HOWARD YU: Yeah, so it turns out at first they were actually old chemical dye maker for the textile industry. Now, some of these chemists, somehow they discovered there are medicinal benefits of the chemical dye. So, the first blockbuster in the world in the 19th Century is actually is antipyretic. It’s a fever-reducing drug. So, in many ways, organic chemistry is the hotbed for innovation. Now, we all remember back in high school, Alexander Fleming who discovered antibiotics, penicillin. So, after the Second World War, all the pharmaceutical companies essentially begins to study intensively around microbiology. They sent in a few workers to go down mineshafts. They sent a balloon to collect air samples. They called employees to ask them to look at the back of the fridge to look at an interesting mold.

CURT NICKISCH: Really?

HOWARD YU: Yes, in search of the next pay dirt. So, essentially the innovation discipline gradually moved away from organic chemistry to microbiology. Now of course, now these states, if we ask anybody what is the hotbed for innovation for medicine, its genomics.  So, if you’re looking at pharmaceutical co-industry, what’s really interesting is for these pioneers to discover new drugs, essentially they need to leap from one knowledge discipline to the next, starting from organic chemistry to microbiology’s and then today, it’s genomics. And I believe it is because the recurring, or the continuous leap from one discipline to another that allows the pioneering company, such as the one in Basel that is able to stay on top of the competition. And it’s essentially leaping to a new discipline that opens up new paths for growth, so that the latecomer, the copycats always have a hard time in catching them up.

CURT NICKISCH: Got it. They essentially have to be pioneers and then become pioneers again and then become pioneers again.

HOWARD YU: That’s right.

CURT NICKISCH: You said this is different from other industries.

HOWARD YU: Yep. That is a sort of stark contrast and that really draw my interest to understand what causes some company to stay pioneering and prosper long period of time, versus others kind of being swept away.

CURT NICKISCH: Yeah. You also went to Harvard Business School where your dissertation advisor was Clayton Christensen and so, you studied disruptive innovation as well. The name of your book is Leap: How to Thrive in a World Where Everything Can Be Copied. But I think a lot of people think of disruption or companies going out of business, not having their stuff copied, but having other people basically, rather than copy them it’s more like they pull the rug out from under them. Is this a world where everything can be copied or something a little different?

HOWARD YU: That’s a great question. What we see in my research is disruption oftentimes is a real threat, but that’s not the only threat. In fact, even when an industry seemingly stays constant, nothing changes, the pioneering company, if it doesn’t leap to a new knowledge discipline, sooner or later its financial resources or its market positioning will get threatened. The latecomer will catch up. Let me give you an analogy here. Competition, industry competition is always like mountaineering. Meaning, every company tries to reach the mountain peak. Now, if the knowledge discipline stays stagnate from automotive to textile, to piano making, sooner or later the latecomer will reach the same height. However, if the knowledge discipline evolves from organic chemistry to biology’s to genomics such as the one we explore in pharmaceuticals, then the mountains almost feeling like there’s a constant mudslide that pushes everyone downwards. In those situation,s it turns out it’s the most experienced one, the most early one that has mastered the old knowledge that withstands a better chance to stay on top of this game. And which is why if you’re looking at industry such as solar panel manufacturing, mobile phone making, and wind turbine, and heavy machinery, the latecomer i.e., the Asian competitor, they all have pretty much a meaningful or even formidable position in the global market versus drug discovery. The Western company paradoxically still leads the pack in leading drug discovery itself. And I think it’s because this leap of knowledge discipline that pushed out the latecomers so much that they had a hard time in catching up.

CURT NICKISCH: For now.

HOWARD YU: For now.

CURT NICKISCH: Yeah. That’s so interesting. I like how you reference the mastery of the old because it sounds like it’s not just about focusing on the new or leaping to someplace new. Can you help explain why that mastery is so important?

HOWARD YU: If we go back to the study of microbes or microbiology, in fact at that time the scientists and the engineers, they were pouring different dyes and acid onto bacteria, to understand the mechanism and the reaction. In fact, the discovery of chromosome is because some of these chemists actually pouring dye, to dye the nuclear of the cell, then they see the structure of a chromosome. As cell divided, was the roll. So, it’s this idea that what you know in the past is the pre-knowledge for you to understand the future. And I think there is a lot of fear about disjoint or discontinuous disruption that causes people to completely disregard about the past. Now, sometimes this continuous change does hit an industry in a very big way. But complete disregarding the past, and forget about everything that you have as a unique asset and never reimagine how to repackage this unique asset for future use, that’s a big pity.

CURT NICKISCH: So, what’s an example of a company outside of Switzerland that you think has done this well, sort of in modern times where they’ve been able to use their pre-knowledge of where they’ve been to make leaps into new places and stay experts and stay ahead of the followers?

HOWARD YU: I deliberately tried to find international examples, seemingly impossible examples during my research and one company that I came across is from Japan. Its name is Recruit Holdings and it used to be a classified post publisher. So, they make a print magazine, like the Yellow Pages. And I thought this company should have died a long time ago because of their obsolete business model. Interestingly enough, Recruit Holdings was able to reinvent itself, leaping into new knowledge discipline and today is an international service provider for small, medium-size companies across Japan that today if you’re looking at a PE ratio, price per earnings ratio, or revenue or sales per spot price, they were at the same range as Google and Facebook.

CURT NICKISCH: How specifically did they do that?

HOWARD YU: Yeah, so when Recruit begins to notice the emergence of the internet, one thing that they’ve done is to do small-scale experiments. They moved one of the magazines online and provide all those contents for free. Now, they don’t turn profitable overnight. In fact, they suffered some corporate loss over the course of three years and it’s only the fourth year then they see their online magazine to begin to rake in revenue.

CURT NICKISCH: Right. This sounds, I mean this sounds like a classic job of managing disruption of your industry.

HOWARD YU: Absolutely right. Because in many ways they don’t know what they don’t know and you have to go into the field and do it by yourself, rather than outsource to a management consultant, in order to gain that early experience. Because this is, we’re talking about the early 2000s. No one had worked out the internet rules. It was at the time that even academic research about platform strategies, still very little. But what they have learned over time, a lot of the customers are putting ads on their magazine, a small time proprietor, mom and pop store, beauty salon, small-time restaurants. They don’t just want sales, but in fact, there are a host of administrative tasks that were distracting. For example, if you are a beauty salon, the last thing you want is to have double book your customers who are trying to get a haircut at the same slot. But yet, at the same time all the small time proprietors, they continue to do a lot of these booking systems on paper. Very labor intensive, using, taking up a lot of time that distracts them from serving the customer better. And so, Recruit Holdings begins to experiment beyond just selling advertising space online. They provide an internet-based solution such as a booking system for customers, such as table reservations at restaurants. The interesting thing for Recruit is they never just stopped from one single service, but the moved into a vertical stack. Meaning every time they encountered and discovered ping pong of their customer, they think about a new solution and provide that solution to wrap it around job to be done so well that their customer finds it very hard to resist. Now, eventually, they begin to change their business model from simply selling advertisement space online, too much more akin to a subscription base for services and so on. And so today, what they have been doing is to really thinking about how can we harness our database through artificial intelligence? So, again a new knowledge frontier.

CURT NICKISCH: So, that’s a pretty remarkable digital transformation. To go from being a classified company on printed pages to a company that’s working in new forms of artificial intelligence to stay ahead as a tech company. How did they do that? How did they know to make the transformation as they did and not go the route that most companies did?

HOWARD YU: Yeah, that’s a very important question because in many ways when companies leap the investment it represents or the payoff of these investment represents is very, very hard to translate into a financial or conventional financial analysis. And I think this is actually the root cause of why we see so few companies are successfully able to leap into the new knowledge frontier. If I take a broad view of Recruit Holdings as I go through the whole corporate archives, two things jumped out. One is the company has a buyer’s for experimentation. And in many ways that is the only way to reduce the dark space of ignorance because we can debate all day long whether this is our strategic intent, whether this should be going forward or not, but unless the company really tries things out on the ground, they don’t know what they’re doing, they know. And so, one is the idea of empowering middle manager to experiment with different initiatives around a new knowledge discipline, that’s absolutely paramount. However, that’s not sufficient because time and time again, I have observed companies who are quite happy to do small-scale experimentation, but no one finally makes the call of pulling the trigger and move from an emerging strategy into a deliberate strategy. This is really important because from R&D to product development, into scale and commercialization, it requires major double down of the investment amount. Yet again, what we see from Recruit to other companies who are able to leap forward is that at some point the senior management team will essentially review all the early evidence and at some point, they will pull the trigger despite the short-term payoff doesn’t look very favorable.

CURT NICKISCH: How rare is this organizational skill and insight and commitment?

HOWARD YU: You know, I thought it was pretty rare at first, but it’s actually more common as my research continued to unfold. I saw that type of CEO behavior also from companies such as Proctor & Gamble, Apple is another example, Amazon is another example, even NGOs, and others. The CEO, once he understands the new knowledge discipline, actually could reconfigure how the company brings drugs to the market, he essentially tells his direct reports, quote, money doesn’t matter. Let’s go ahead. Now it does require the senior leader to say something like of that kind of nature. Money doesn’t matter. Full steam ahead. And so it’s this idea of a combination of experimentation of the middle manager who is close to the market, close to the ground and gets the learning. But at the same time, at some point, you do require a senior executive to move from an experimentation mode into a deliberate mod and to make that resource allocation accordingly. That would result in a leap of an organization. I admit it’s rare, but rare not in the sense that it’s not a learnable skill. But it requires executives and senior managers to really change the way they spend their time and delegate as much as possible of their main business to people who can pick up that responsibility, but also use more time in understanding the new business, the new knowledge discipline which requires personal learning. And I think it’s this disjoint between the two, as a result, we see less occurrence than we hoped to have observed.

CURT NICKISCH: How do you know if you work at one of these companies?

HOWARD YU: One key element that could be quite obvious would be whenever the company suffers some short-term ups and downs in terms of earnings or revenue, would they immediately cut off all the initiative regardless of early traction or not? That start, stop, start, stop usually is a very, very dangerous sign that a company doesn’t take the initiatives or the importance of leaping forward seriously enough. On the contrary, there are times that when companies suffer a short-term hit of the mainstream business, they continue to persist certain element of the experimentation inside a firm and that’s usually a good sign. This ability to acknowledge when things don’t work out, it’s OK to exit. When things are still persistent we will continue to reinvest. And when the signal is right, then there would be a pull of the trigger and move the organization along through a deliberate strategy. That is the usual signal whether these companies take it seriously or not. And that’s usually quite obvious once we zoom into that level.

CURT NICKISCH: Yeah. Well, the same way an animal leaps you can sort of see if an organization’s really sort of coiling up for the jump.

HOWARD YU: That’s right.

CURT NICKISCH: Howard, what’s your hope for writing this book that illuminating these companies and clusters that have sort of defied the usual track record?

HOWARD YU: When I talk to managers and executives around the topic of innovation, oftentimes there is almost this inevitable pessimism going on. It’s almost this declaration that if you’re not Google, if you’re not Facebook, if you’re not like an internet company, our future will be inevitably threatened. And as an industry incumbent, we are trapped in this inevitable downward spiral. And the reason that I write this book is to provide a counter-narrative with evidence. In fact, if you are able to repackage what you know, in fact, the art of success is even higher. So, I think it’s this type of example and knowhow and framework that we need so that manager would no longer condemn their own industry collapse into something of an external factor, but in fact, we can shape the environment and shape the future of one’s company.

CURT NICKISCH: Howard, this has been great. I want to thank you for showing a better way up and over, I guess. A good way to leap and move ahead.

HOWARD YU: Thank you so much, Curt. It’s been wonderful talking to you.

HANNAH BATES: That was Howard Yu, Lego Professor of Management and Innovation at IMD Business School in Switzerland – in conversation with Curt Nickisch on the HBR IdeaCast. Yu is the author of the book Leap: How to Thrive in a World Where Everything Can Be Copied. 

We’ll be back next Wednesday with another hand-picked conversation about business strategy from the Harvard Business Review. If you found this episode helpful, share it with your friends and colleagues, and follow our show on Apple Podcasts, Spotify, or wherever you get your podcasts. While you’re there, be sure to leave us a review.

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This episode was produced by Curt Nickisch, Anne Saini, and me, Hannah Bates. Ian Fox is our editor. Special thanks to Rob Eckhardt, Adam Buchholz, Maureen Hoch, Adi Ignatius, Karen Player, Ramsey Khabbaz, Nicole Smith, Anne Bartholomew, and you – our listener.

See you next week.