Disruptive Innovation Theory
The theory that influenced Steve Jobs, Jeff Bezos, and Andy Grove.
Definition
Disruptive Innovation describes a process by which a product or service takes root in simple applications at the bottom of the market—typically by being less expensive and more accessible—and then relentlessly moves upmarket, eventually displacing established competitors.
Coined in the early 1990s by Harvard Business School professor Clayton Christensen, the term has become virtually ubiquitous from Wall Street to Silicon Valley. Consequently, it’s also one of the most misunderstood and misapplied terms in the business lexicon.
Disruptive vs. Sustaining Innovations
Unique Insight
Disruptive Innovations are NOT breakthrough technologies that make good products better; rather they are innovations that make products and services more accessible and affordable, thereby making them available to a larger population.
Explainer
What makes an innovation disruptive, and what are some examples of disruptive innovations throughout recent history? Check out our helpful video.
Case Studies
In 2000, when Netflix was still a small and fledgling company, it offered itself to Blockbuster, the world’s largest video, DVD, and game rental company for $50 million. Blockbuster passed. Netflix was barely a blip on the radar with mounting losses and a very uncertain future. Meanwhile, Blockbuster’s revenues topped more than $5 billion in 2000—$800 million collected in late fees alone. Understandably, Netflix was inconsequential. Today, Netflix is worth more than $197 billion, and Blockbuster filed for bankruptcy in 2010. What happened to the behemoth with more than 9,000 stores and 60,000 employees?
Netflix’s disruption of Blockbuster is a classic illustration of how an under-resourced new entrant can take on and beat an industry leader. While Netflix lacked the ability for customers to immediately drive to a store to rent a movie on the same day, it allowed customers outside of core geographic regions to cheaply access a wide library of DVDs by mail. As Netflix’s offering gained traction with customers, Blockbuster’s business model proved a stumbling block to responding to its new competitor. This is another classic hallmark of disruption. Like many retailers who have tried to respond to disruptors, Blockbuster was never able to detach itself from a desire to leverage its existing (and expensive) physical locations. As a result of clinging to aspects of its existing business, Blockbuster couldn’t also operate its version of a DVD-by-mail service at the scale of Netflix.
Netflix’s disruptive components:
Enabling technologies: Mail & Internet
Innovative business model: Mail order and distribution center only, no late fees, no physical locations
Coherent value network: Leverage postal service and direct-to-consumer sales on the internet
In the mid-1960s, steel mini-mills began the process of melting down scrap metal in electric arc furnaces and crafting it into new steel—a process that reduced costs by 20%. Initially, mini-mills could only produce the lowest quality steel like rebar, but they steadily improved and eventually tackled increasingly higher grades of steel like structural and sheet steel. By the early 2000s, companies employing mini-mills like Nucor had leveraged this innovation into a full scale disruption of the leading integrated steel makers like Bethlehem Steel and US Steel.
In true disruptive fashion, no integrated steel company was able to successfully deploy mini-mill technology inside their business model—even with a 20% cost advantage over traditional steel processes. Why? It wasn’t because integrated steel executives had their heads in the sand. It happened because at each step of the disruption, the mini-mills weren’t considered a threat. Rebar had a gross margin of just 7% for the integrated mills. So, they were happy to cede this dog-eat-dog business to the mini-mills who initially earned 20%+ gross margins. And it always made more financial sense on the spreadsheets of integrated steel CFOs to spend a little money to re-orient their production capacity to higher margin products, rather than substantially investing in mini-mills of their own. Of course, this only made sense until the integrated mills ran out of customers.
This illustrates the core principle behind why disruptions occur—both the incumbent companies and the new entrants perceived they were making sound financial decisions. Both were maximizing corporate profits. But without the additional lens of disruption, the integrated steel companies ultimately ceded too much ground and found themselves mired in long-term financial woes.
Mini-Mill’s Disruptive Components
Enabling technologies: Electric arc furnace processing
Innovative business model: 20% cost advantage over integrated mills, no legacy plant or equipment requiring utilization
Coherent value network: Able to piggyback on existing steel value networks
Toyota vs. American automakers
Toyota came with a cheap, tiny subcompact in the 1960s called the Corona, which General Motors and Ford ignored because they were making big cars for wealthier consumers.
Desktop vs. Minicomputers
Desktop computers placed enough computing power on the desk of everyone in a company, replacing the need for expensive, cabinet-sized computers for each department.
Helpful Tools
Infographic: Is it really disruptive?
To determine whether a product or service is disruptive relative to something else, ask these six questions, each of which indicates a potential disruption. Click the image to download and check out our resource library for additional content.
- Does it target nonconsumers or people who are overserved by an incumbent’s existing offering in a market?
- Is the offering not as good as an incumbent’s existing offering as judged by historical measures of performance?
- Is the innovation simpler to use, more convenient, or more affordable than the incumbent’s existing offering?
- Does the offering have a technological enabler that can carry it upmarket and allow it to improve?
- Is the technology paired with a business model innovation that allows it to be sustainable?
- Are existing providers motivated to ignore the new innovation and are not threatened at the outset?
Infographic: The different types of innovation
Innovations are a change in the process by which inputs of lower value are transformed into outputs of higher value. Although all types of innovations are important in maintaining a healthy economy and society, each type plays a unique role and has a different impact on people, organizations, and economies.
At the Clayton Christensen Institute, we’re using the theory of Disruptive Innovation to:
Reimagine K12 and higher education
In the US, our traditional models of education are outdated, leaving too many learners behind, disengaged, and ill-prepared for the future of work. How do we ensure that our systems expand access to a personalized and affordable education so that everyone has access to a choice-filled life?
Consider new models of health care
Traditional health care isn’t structured or incentivized to create health. Yet, historical business models, ways of delivering care, and misaligned incentives prevail across the US today. How can new, innovative business models and policies address the root causes of poor outcomes, creating better lives for individuals and communities?
Expand and support global prosperity
Most people in the world are struggling to access housing, health care, credit, food, water, and energy. How can investors, communities, and governments support innovations that have the power to transform complex services and expensive products into simple and more affordable ones to a greater number of people?
