Innovation has always been a hallmark of a successful business, but the relationship between innovation and profit is more complex than we might imagine.

New research by marketing and consumer studies assistant professor Dr. Yuanfang Lin [1] provides a seemingly counter-intuitive framework for understanding innovation in light of consumer habits and desires rather than the innovation or bust mentality.

 

“When we look at the market, we don’t see a simple linear progression where the more you innovate, the more money you make as a company,” explains Lin.

In “Who is the Winner in an Industry of Innovation, [2]” Lin and his co-authors identified an inverse relationship between R&D investment and financial performance after studying empirical data from 1,000 publicly-traded companies in industries known for high levels of innovation. According to the data, many non-innovating companies are earning profits above the industry average, close to what a small number of tech giants within the sector are making.

Lin and his co-authors turned to the demand side to explain the paradox. By parsing through their data, they identified two primary groups of consumers: those who are willing to pay more to access innovative new products immediately and those who, for a variety of reasons, choose to buy more standard products. The first group of consumers may immediately trade in their laptop computer for a newer model with a fingerprint log-in feature, for example, while the second group prefers to buy the more affordable standard product without the new feature.

This second group of consumers is where smaller, non-innovating companies can capitalize. Even without offering major price cuts, non-innovating companies can capture demand from customers who pass on the opportunities to purchase newer technologies. “Once you subtract initial investments in innovation, the net profit of the innovators might actually be lower than the non-innovators who are selling the standard product,” says Lin. In essence, non-innovators can make a profit by riding the coattails of innovators instead of investing resources of their own.

Lin identifies the potential for non-innovating companies to enjoy an even greater degree of success by identifying and marketing to consumers who are less likely to embrace the shiniest, most state-of-the-art product right away. By developing a richer, more comprehensive understanding of their target consumer base, non-innovating companies can earn significant profits. There are more than enough consumers to go around, and each company appeals to a different sector, creating healthy competition within a given industry.

“Our study clearly indicates that a company with lower capacity or capital doesn’t need to innovate like an Apple or a Google to succeed in our economy,” Lin concludes. “This is good news for the vast majority of businesses out there.”

Dr. Yuanfang Lin [1] is an assistant professor in the Lang School's Department of Marketing and Consumer Studies
His research focuses on analytical marketing modeling, competitive strategy, product innovation, informational service, pricing strategy, retailing and channel management