Imagine this scene: A team is pitching an innovation project to leaders of your company using a slide deck with five-year revenue projections, an execution road map and assumptions that are being presented as facts. After the presentation, the leaders take things from bad to worse. The finance director states that she cannot approve any investment in this new idea because it does not meet the company’s financial "hurdle rate." The rest of the leaders agree and tell the team to go back and work on their spreadsheets — and only come back when their numbers meet the required hurdle rate.

At first glance, this seems like a logical conversation, but it is in fact absurd. The team was presenting a spreadsheet describing the five-year performance of a product that does not yet exist. In response, the leaders were implicitly asking the team to go and finesse these numbers so they can feel comfortable giving them money.

This scene is a classic example of innovation teams doing the wrong things at the wrong time and leaders asking the wrong questions at the wrong time. This ritual is repeated daily in organizations around the world. When it comes to innovation, leaders need to be asking the right questions at the right time. There is nothing wrong with asking financial questions. In fact, they become more and more important as a project nears its launch date. But in the early stages of innovation, leaders need to focus on a different set of questions.

It makes sense that the first thing we need to think about is the idea itself. However, leaders have a tendency to think it is their job to pick a winning idea on day one. As such, when they are listening to pitches, they are trying to figure out whether they like the idea or if it has a good chance of success. To be clear, when it comes to innovation, leaders cannot pick winning ideas on day one. They can only create a context in which winning ideas can emerge.

First thing's first

When reviewing a new idea for the first time, my advice to leaders is to focus on one thing: strategic alignment. Leaders need to provide clear guidance on the areas they want their innovation teams to explore, ideas that are aligned to strategy should be approved if there is budget and if the idea also meets a second criteria: innovation portfolio balance.

The criteria of portfolio balance concerns whether, as an organization, you are investing across three types of innovation:

• Efficiency innovations that improve the operational aspects of your current business;

• Sustaining innovations that build on top of your existing business model; and

• Transformative innovations that explore opportunities beyond your traditional business.

If an idea is aligned with your organizational strategy and helps balance your innovation portfolio, the next set of questions concern the project’s current status. The most important question at this point is, How close is the team to finding a business model that works? As a leader, your concern should be around one thing: progress towards success. What has the team done so far to increase the likelihood and magnitude of success?

It is also important to note that you should not simply take the team’s word. You will need to see evidence of progress. What evidence does the team currently have that there is a real customer need, that the value proposition resonates with customers, that customers are willing to pay and that you have the right capabilities to create the value proposition? These are just some of the questions to ask. Don’t expect teams to provide definitive answers to every question. However, they should provide clarity in terms of what they have done so far, what they know based on the evidence, and what they still don’t know. Questions around what they still don’t know will then lead to the next set of questions.

Once the team makes clear which elements of what they still don’t know they are going to explore next, leaders can step in and guide the team on whether their choices for next actions are appropriate. For example, should the team start creating a minimum viable solution before they are sure about customers’ willingness to pay?

Another way in which leaders can be helpful at this stage is by reviewing the experiments that teams are planning to run. This review should not be a detailed analysis of the methods and artefacts that teams are going to use to test their assumptions. Instead, leaders should focus on whether the planned experiments will generate the kind of evidence they need to make informed decisions when the teams come back.

Metered funding

The final question for leaders to consider is whether the resources the team is asking for are reasonable, given their innovation stage. The principle at play here is that companies should be making multiple small bets that increase over time — but only for those ideas that are showing progress towards finding a business model that works. This means that in the early stages, teams should be asking for minimal resources to support their work in validating customer needs.

In later stages, they can then receive greater resources to fund the development and testing of minimum viable solutions. An example of this process is Bayer’s Catalyst Fund, which was run like a venture fund. Innovation teams received €10,000 in the first phase and this number rose to €90,000 if the team showed progress. Of course, the exact amount teams should get depends on your company and the industry it operates in.

Finally, a word about failure. Dr. Samuel West, the psychologist who created The Museum of Failure, argues that the best way to drive innovation within organizations is to remove the fear of failure. The fear of failure can lead corporate innovation teams to only pursue safe bets. To explore new opportunities, leaders have to create psychologically safe spaces for people to try new things and fail.

The best way for an innovation team to fail is quickly and cheaply. This means that leaders and teams have to be paying attention to early signals of whether the project is on track. This has been a challenge for both corporations and start-ups. There is often a commitment to an innovation project that can drive leaders to keep making bets on an idea they believe in. This can quickly become expensive, like in the case of Quibi, which raised US$1.75 billion from investors before failing within a year of its launch.

Instead of investing in pet projects, successful leaders manage their innovation portfolios like a funnel. They start by making multiple small bets with the expectation that those teams will go out and test their ideas. The early investment provides teams with a chance to generate evidence on whether their ideas can be successful. Over time, they can then make decisions about which ideas to stick with and which to kill.

There are typically four good reasons to kill an idea during the various stages of innovation:

Lack of desirability: Is there anybody out there who cares about the product or service the team is thinking of creating? What problem are they solving, and for which customer segment? It is often hard for innovators to accept that customers might not really care how clever they are. The fact is, customers only care about their own problems and aspirations. If the team can’t show it has a value proposition that resonates with them, the idea should be killed.

Lack of feasability: Does your organization have the technological capability to create the product you are imagining? If not, can you find a partner who can help you develop the technology? A lot of software products may not present that much technical risk. However, for more ambitious innovation projects in the automotive, healthcare or pharmaceutical industries, technical risk can be a genuine concern. If your company does not have the capabilities to create the product or service, there should be strong consideration to kill the idea.

Lack of viability: Can your company create and deliver the value to customers at a profit? This question speaks to the viability of the team’s business model. How much will it cost to create and deliver the value? How much will customers pay? How will the team get to breakeven or profitability? It is distinctly possible to make products people like and lose money doing it. If this is the challenge an idea is facing, it should be killed.

Lack of adaptability The final reason to kill an idea is whether or not your company can take the product or service to scale. It is important to note that finding a real customer need is not the same thing as finding a market. There are several reasons a business environment may not be ready for an idea to scale. For example, a product may depend on the successful commercialization of other companies’ innovations before it can scale. In this case, timing is important. It is also possible that the costs of scaling can render a business model unprofitable and unsustainable. If a team cannot solve these scaling challenges, that idea should be killed.

As indicated, when it comes to investing in innovation, principles trump tactics. If your leadership team can resist investing large amounts based solely on a business plan, you are already making progress towards innovation best practices.

If we return now to the scene described at the outset, the absurdity of the conversation is clear. Telling a team to ‘go back and work on their spreadsheets’ until their numbers meet some hurdle rate does not help leaders make better decisions around investing in innovation projects. Instead, leaders need to clarify their innovation strategy and the balance (or lack thereof) of their innovation portfolio. Only then should they start asking any further questions.

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This article first appeared in the Fall 2022 issue of Rotman Management magazine. Published in January, May and September, each issue features thought-provoking insights and problem-solving tools from leading global researchers and management practitioners. Subscribe Today.