1/23/2019

Creative Destruction & 
Transformation of 
Incumbent Companies

Prof. Kevin Zhu
Rady School of Management
University of California, San Diego
http://rady.ucsd.edu/~zhu

Agenda
 News this week…
 Technological change induces transformation
(or failure) of established firms
 Creative Destruction
 Digital transformation
 New technology as transforming catalyst

 Kodak case: The best example in history

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Compact DSC Sales have leveled

Integration with
Performance

other devices

Low-end DSLR
Compact DSC

Effort

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Insights Learned
from the Readings

What insights did you get from the readings?

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Creative Destruction
 Creative destruction, introduced in 1942 by the economist Joseph
Schumpeter, describes the process of industrial transformation that
accompanies radical innovations or discontinuities.

 In Schumpeter's vision of capitalism, innovative entry by

entrepreneurs was the force that sustained long-term economic
growth, even as it destroyed the value of established companies that
enjoyed dominance or monopoly power.

 In order to continue to remain competitive, incumbents must adopt

the dynamic strategies of discontinuity and creative destruction,
especially when a new s-curve starts to kick in.

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Disruptive Technologies
Examples of technological change:
Computer industry
Disk drives
Copier: Xerox  Canon

Competing in 2 periods (two S-curves)

 t1
 t2

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Handicap of Success
The Handicap of Success:
Dominant in t1 or S-curve 1
Lose in t2 or S-curve 2
Success in t1 increases its failure in t2
Dynamic trajectories of product performance and
market demand
 “Once the companies have secured a foothold in the emerging
markets and improved the performance of their technologies, the
established markets above them, served by high-cost suppliers,
look appetizing”

Examples ……
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Handicap of Success - Why?

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Handicap of Success - Why?

Attention glued to present S-curve (tie to existing
customers)
Core competence based on current technology
Cost structure
Management dogmas
Resource allocation

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Resource Allocation
Traditional budget planning favors sustaining
technologies
Real options to evaluate disruptive technologies
Harry Markowitz and Bill Sharpe’s Portfolio
Theory (asset allocation, CAPM, Sharpe ratio)
can be used for technology management.

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Invasion of a Stable Business by

Radical Innovation

… leadership changes hands in 7 out of 10 cases

when discontinuities strike.

… A change in technology may not the #1

corporate killer, but it certainly is among the leading
causes of corporate ill-health.

By James Utterback, “Invasion of a Stable Business by Radical Innovation”

in Mastering the Dynamics of Innovation, 1994.

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The Right to Exist

The right of any corporation to exist is not

perpetual but has to be continuously earned.

Robert Simon, as cited in Foster & Kaplan, “Survival and performance in the era of discontinuity,” in
Creative Destruction, 2001.

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Kodak
and
the Digital Revolution
The Best Case Study for
Transformation

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FROM TO

Manage transformation when

facing disruptive technology

http://www.youtube.com/watch?v=hBCBgJ33T7Q&NR
©2006, Rainbow Unicorn

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Kickoff Presentation
By……..

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Kodak vs Fuji – What happened to Fuji?

Source: Story of Kodak: How They Could Have Saved The Business, Jake Nielson

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Case Questions
 Q1. Compare traditional photograph to digital imaging.
What are the main structural differences? Is digital
imaging a disruptive technology? In what aspects it is
disruptive?
 Q2. Kodak suffered from many missteps and false starts
during the 80’s and 90’s. Why did its early attempts of
digital transformation keep failing?
 Q3. Examining Exhibits 8-11 in the case, what area(s)
would you recommend the company to focus on going
forward?
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Breakout Session
 Kodak’s early attempts of digital transformation
kept failing. Why is it so hard (T-O-E)?

 Major lessons learned from this case study?

 pick up a company from another industry that has

gone (or is going) through similar struggles.

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Kodak Heritage- Photo & Ease of Use

Video

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130 Years’ Legacy

Kodak’s legacy of
being a successful
company
Started in 1880
Razor-blade strategy:
$$$ from consumables
(film)
Technical know-how
Core competence
Legacy culture
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Out of the Dark Room

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Why has Kodak been so

successful?
 Why so successful?
…
 Is there any downside of success?

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Why has Kodak been so

successful?
 Complexity of film technology ( barriers)
 Holy trinity: film, paper, and chemicals
 “Razor and Blade” biz model
 Kodak’s position to set industry standards
 Size and scale economies ( cost advantage)
 relationship with retailers
 brand name …
 Is there any downside of success?
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Digital Era
A new S-curve begins…

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Long-term Trend

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Competing in 2 S-Curves
Barriers to entry begins to lose its relevance

Industry structure in film business is deteriorating

Five-forces analysis

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3 Eras in Kodak’s Struggle

1990‐1993 1993‐1999 2000‐2003

Colby Chandler, CEO Colby Chandler, CEO  Daniel Carp, CEO,
Kay Whitmore, President George Fisher, President President Chairman

• Film‐based digital  • Focus on imaging and high‐ • Network and consumables 

imaging  tech model
• Relied on silver‐halide • Invested in equipment and  • Drive image output in all 
• Preserve profit margins hardware forms
• Horizontal integration • Divested health segments • Horizontal structure based 
• China identified as future  on alliances
silver‐halide market
• Kodak CD
• Digital processing software
• Retail kiosks

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R&D Investment
How did Kodak respond to the introduction of
digital camera?
Respond immediately
Allocate 40~50% (~$5 B) of its total R&D budget
Exhibit 5
Did Kodak suffer from Christensen’s notion of
disruptive technology?

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1st Digital Camera –

Invented at Kodak in 1975
 Steven Sasson, an
electrical engineer,
created the first digital
camera.
 “My prototype was big as
a toaster, but the
technical people loved it,”
Mr. Sasson said. “But it
was filmless photography,
so management’s
reaction was,
 ‘that’s cute — but don’t
tell anyone about it.’

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Lab-to-Market
 Kodak has the best sensor technology, but all the
excitement in the company seems to revolve around
Photo CD.
 How would you explain this disconnect between its R&D
output and product-market strategy?
 Why a company with leading-edge digital imaging
technology got fixated on Photo CD?
 More broadly, the company’s labs were full of hi-quality
products, but never reached the market (lab to market).

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Fisher’s Era at Kodak

Fisher arrives from Motorola in 1993.
Major challenge: How to revitalize Kodak?

Kodak online:
Video interview with Fisher

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Digital Kodak:
The Toughest Transformation in History
 Film company  imaging company  hi-tech digital
company
 horizontal
 “an information-based company”

 Key features of its “Digital Strategy”

 Hardware-based?
 Software and information?
 “network and consumables” based?
 Digital “holy trinity”: image capture (camera), services (online
photo manipulation), and image output

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Fisher’s Mistakes
Did Fisher succeed?

Fisher steps down in less than 4 years. What

was his fatal flaw?

Kodak tried to become a “digital” company but

with a “chemical” heart.

Reflection: Video interview with Fisher

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Diagnosis
 over diversification
 not full commitment to digital S-curve
 disconnect from lab to market
 mismatch with market needs

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Additional Factors
 Digital cameras were not accessible or financially
feasible until digital technology was available to the
consumer market (i.e. internet heightened digital
appeal).

 Introduction of Internet business

 Customers stopped traveling to retail locations to print pictures.
Printing services became available online, making kiosks
obsolete

 Phone technology included digital cameras at no

additional cost to the consumer

 Consumers’ attitudes toward photography have changed

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Kodak:
Missed Online Opportunities

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Adapting to the Digital Age?

Or Riding the S-curve to the Bitter End

Kodak was:
“LATE to recognize problem,
SLOW to react
and then went down the
WRONG innovation path.”

3 strike-outs

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Why this is hard?

 Cognitive inertia
– in realizing the threats and strategic options

 Action inertia
– in executing the strategy and managing transformation

 Human nature to resist change, Moral Hazards and

Principal-Agent Dilemma

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Kodak Update
Defining a Strategy for Kodak

CEO, Antonio Perez

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Financial Analysis
Kodak Financial Performance 2001 - 2007
16,000

14,000

12,000

10,000

Total Revenue
In Millions

8,000
COGS
Gross Profit
6,000
Net Income

4,000

2,000

0
FY2001 FY2002 FY2003 FY2004 FY2005 FY2006 FY2007

(2,000)

Sources: Kodak’s 2001 – 2007 Annual Reports

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Financials
Net Sales Earnings (EBITDA)

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Kodak Revenue and Net Income

Figures in Millions of dollars

$14,000

$12,000

$10,000

$8,000
Net Income
$6,000 Revenue
$4,000

$2,000

$0
2000 2001 2002 2003 2004 2005 2006
-$2,000

• Inconsistent profits and revenues

• 2001 and 2003 included large restructuring costs
• 7 straight quarterly losses

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Sales By Division

Other
Graphics 1% Sales Growth By Division
21%

123%

Digital &
Health Film
19% 59%

34%

-10% -1%

D&F Health Graphics Other

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R&D By Division

R&D Growth By Division

Other
19% Digital &
Film
31%
30%

10%

Graphics -24% -11%

30%
Health D&F Health Graphics Other
20%

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Revenues in Photography, Film,

Processing and Output

Also see Ex. 11 © Kevin Zhu

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Digital Images Captured

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http://www.envisionreports.com/EK/2009/16mr09004m/document_0/Eastman_Kodak_AR_PS_3-31-09_02.pdf

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Fuji

 What happened to Fuji Film?

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Where to Focus?
What market-product mix?
Consumer imaging
Medical imaging
Commercial printing

What markets?
Segments
Service: Kodak Gallery
International

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Wrap-up

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Getting Kodak to Re-Focus:

Directions to Go…
 The old glory days are gone, but there are hidden
opportunities in niche markets. Go after market
segments that matches your competence.

 Think globally – countries are at different stages of S-

curves. Some countries still need S1 service though the
US may have shifted to S2.

 Think creatively – discover new markets (e.g., camera

phones…), spin-off, strategic acquisitions…
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Through the View Finder

Focus on Digital Growth:
concentrated shift to mainstream consumer
photography & digital printing
Increase Online Brand Presence & Enhance
Online Printing Capabilities
Spin-off
Licensing of Patents/Software  ”Intel Inside” or
Platform Strategy
Mobile phone manufacturers

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Reach out:
Broader digital revolution
Music
Movies, video rental
Newspapers, media
Books, publishers, libraries
Travel
Bicycles
Weapons
Retail
Banks… © Kevin Zhu
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