Innovation and market development: the experience of small firms in a peripheral economy

OMEGA Int. J of Mgmt S,:i.. Vol. 15. No. 6. pp..I-1.5~.5-1. 1987 0305-0-183 87 53.00 + 0.O0 Printed in Great Britain. All rights reserved Cop~,right ~ 1987 Pergamon Journals Lid

Innovation and Market Development: the Experience of Small Firms in a

Peripheral Economy

R I C H A R D T H A R R I S O N

The Queen's University of Belfast

M A R K H A R T University of Ulster at Jordanstown

(Received February 1987: in revised form June I987)

This paper summarises some results from a study of innovation in the small firm sector in Northern Ireland. Following a discussion of the nature and extent of innovative activity, and of the motives for innovation, the paper focuses on the relationship between performance, as measured by changes in turnover and export market development, and innovation.

I N T R O D U C T I O N

IN RECENT YEARS there has been growing interest in the employment and wealth creation potential of small innovative and new technology based firms, either through the development of new products (and hence markets) or through the introduction of new process technologies to revitalise traditional sectors of production [7, 25, 32]. This interest has been stimu- lated by three factors in particular. First, traditional labour intensive industries, typified in the Northern Ireland context by textiles and clothing, have been subject to considerable labour shedding in recent years due to world recession, changing patterns of demand and the emergence of low-cost competition in the newly industrialising countries. Second, in the 1970s and early 1980s there has been a sharp rise in the number of new business start ups in both manufacturing and service sectors in the United Kingdom and Northern Ireland [12-14]. Many commentators have attributed this increase .at least in part to the exploitation of innovations and the development of new technologies by the new and small firm sector [29, 31]. Third, there has been a progressive change of emphasis in regional industrial policy in most of the devel-

oped world. It is now being recognised that internationally mobile foreign investment can no longer play the leading role in stimulating regional development. Consequently greater at- tention is being given to the full exploitation of indigenous development potential, in which the small firm sector, the encouragement of innovation and the adoption of new technology play an important role.

Within Northern Ireland, research, development and innovation is seen as having an important role to play in the overall design of industrial development policy [23, 24], not least because of the contribution which this activity can make to improved industrial performance. However, there is some evidence to suggest that small firms, particularly within the manufacturing sector, in Northern Ireland have a relatively low commitment to research, development and innovation. For example, an official report on industrial research and development support facilities concluded that the majority of companies in Northern Ireland had not introduced a new product, service or manufacturing method in the previous five years, and this was most pronounced in the small firm sector [27].

In addition, this report also indicated that while approximately one quarter of medium and

445

446 Harrison, Hart--lnnovation and Market Development

large manufacturing companies (i.e. those employing more than 50 persons) had applied for grant aid for R & D support only 14% of small manufacturing firms in the region had done so.

DEFINITIONS

There are two rather different ways of looking at innovation from the perspective of the indi- vidual firm [7]. The first is a restricted view of innovation as the process of turning an inven- tion into a marketable product through development, prototype, pilot manufacture and marketing [11]. The second, more extensive view, emphasises a number of different forms which innovation can take [1]:

(I) the improvement and development of existing products;

(2) the improvement and development of existing processes;

(3) the introduction of novel production methods based on new technology;

(4) the introduction of novel products based on new technology.

This extensive view of innovation is, in turn, based upon two sets of distinctions: product vs process innovation, and radical vs incremental innovation (see Fig. 1). The aim of product innovation is to provide "new products based on technological advances . . . The aim of technological process innovation is to reduce the costs of manufacturing existing products" [15, p. 3]. Each of these types of innovation may be either radical (involving the introduction of new products and/or new processes into the firm for the first time) or incremental (involving the modification of the firms' existing products and processes). As the discussion below will make

clear these four categories of innovation are not necessarily mutually exclusive, and an individ- ual firm can simultaneously be involved in one or more of these types of innovation.

Competitive success, however, depends on more than technological innovation alone. This has been brought out most clearly in Ansoff's [3] growth vector model of corporate development, which emphasises the relationship between technological innovation and marketing innovation. Specifically, it has been argued that the adoption by the firm of an export oriented strategy is an innovation in its own right, and that "entry into the export market is as much an innovation as the adoption of a new production process" [18, p. 94; 35].

The interplay between technological and marketing innovations is summarised in Fig. 2. As already discussed, technological innovation can be subdivided into developments within the existing product range (including the introduction of new or improved processes) and the development of new products. In turn, these sub-categories of technological innovation can be associated with two broad dimensions of marketing innovation. Innovation within existing products and existing markets (the status quo position) provides opportunities for process innovation resulting in the reduction of production or marketing costs, and thereby enhanc- ing the firm's price competitiveness. Innovation with existing products in new markets (the market development position) provides opportunities in particular for marketing innovation which are more likely to be associated with the introduction of new processes rather than the improvement of existing products and processes.

New product innovation within existing markets (the product development option) reflects the identification and development of new products based on a close understanding of the requirements of the existing customer base [33].

SCALE

Incremental Radical

TYPE

F'roduct ( i ) ( i v )

Process (ii)

Fig. 1. The extensive view of innovation.

(iii)

Omega, Vol. I5. No, 6 447

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NEW FAS~

Opportunities ~or

D l ,,'~_~r,~ ~" i c a t _ I o n

Fig, 2. The relationship between technological and marketing innovations. Source: adapted from Ansoff [3, p. 99] and Johne [15, p. 4].

On the other hand, the association between new product innovation and the development of new markets, reflects the operation of a 'manu- facturer active' model of new product development, in which the innovating firm, rather than the customer, takes the initiative in devel- oping a market for the new product [5]. Con- sequently, this 'new task' option not only provides opportunity for diversification in existing businesses [19], but also underlies the formation of new technology based firms [30].

In this paper we adopt the extensive view of technological innovation and its relationship with marketing innovation. Following a discussion of the nature of innovation in a sample of small firms in Northern Ireland, this paper investigates the relationship between innovation on the one hand and company performance and market (particularly export market) development on the other.

RESEARCH METHODOLOGY

In order to generate detailed information on the quantity, quality and economic impact of innovation in Northern Ireland we undertook a series of questionnaire and interview surveys throughout 1986. Data were collected primarily by postal questionnaire survey, supplemented with a series of follow-up interviews with selected companies to explore a number of issues in greater detail. In most cases replies were

received from the owner-manager/managing director of the business, who had executive re- sponsibility for innovation-related decisions. Only in a very few cases was there a functionally differentiated research and development department, which reflects the generally small size of respondent companies (see below).

In total, 1,149 small firms (employing less than 50 persons) were included in the survey, drawn as a random sample from two sources: a list of current clients of the Local Enterprise Development Unit (LEDU), and the Industrial Development Board's manufacturing trade di- rectory. Postal questionnaire replies were received from 291 businesses, a response rate of 29.3%. The present paper is based on the initial analysis of 102 valid returns from businesses which indicated that they had received financial assistance towards eligible research and development projects from LEDU, the small business agency for Northern Ireland. This subset of the survey respondents has been selected for this analysis because the respondents' subjective claims to have introduced innovations are sup- ported objectively by the receipt of R & D grant assistance. While this sub-sample is not necessarily representative of all small firms in Northern Ireland, analysis of these businesses is of interest in the present context for the light it sheds on the relationship between the nature and extent of innovation and the performance of the business.

~48 Harrison, Hart--lnnovation and ,~tarket Development

INNOVATION PROFILE

The majority of the firms included in this analysis are primarily manufacturing businesses: 86 of the 102 were in this sector, and of these 51 were in the engineering sector (1980 SIC Division 3). A further four firms were involved in construction or extractive activities. The remaining firms were in the service sector. As Table 1 illustrates the majority of these firms were very small: 11.8% were one-man businesses and a further 40.2% employed between two and nine persons. Only three of the 102 businesses employed more than 50 persons at the time of the survey.

Firms were asked whether or not they had developed or introduced a new product or a new manufacturing method/process, or had made any improvement to the existing product(s) or manufacturing method/process, within the past five years. The responses are illustrated in Table 2. Three points in particular emerge:

1. Product innovation has been more common than process innovation.

2. Within this, new product innovation is almost half as common again as the improvement of existing products. From the detailed description of the most important innovation given by the respondent it is clear that in the majority of cases new products can accu- rately be interpreted as new to the firm rather than new to the economic system as a whole: in other words while these innovations are radical from the perspective of the innovating firm they are, at best, only incremental from the perspective of the system.

Table I. Employment size distribution of the surveyed firms

Number of Number of employees firms ~

1 12 11.8 2-4 24 23.5 5-9 17 16.7

10-24 32 3 [ .-t 25-49 14 13.7

50 + 3 2.9

Total 102 100.0

Table 2. Innovation profile of the sur'.eyed firms

Yes No Innovation No. (%) No. (%)

New product 78 (77.2) 23 (22.8) New manufacturing

method/process 40 (39.6) 61 (60.4) Improvement to

existing product 56 (55.4) 45 (44.6) Improvement to

manufacturing method/ process 45 (44.6) 56 (55.4)

n = [02; missing = I

3. Improvements to existing manufacturing methods are slightly more common than is the introduction of new manufacturing methods.

The higher prominence of product innovation vis-h-vis process innovation in this sample of small firms suggests that there is, in this case, a relationship between technological innovation and market innovation and development, as outlined in Fig. 2 above.

This is borne out by Table 3. which summarises the motives behind the introduction of the businesses' most important product or process innovation. Overall, the two most fre-

Table 3. Motives for the introduction of product and process innovations

No. of times No. of times ranked first mentioned

Motives Product Process All" Product Process All

Market development 35 2 37 52 12 6.4 Need to improve quality

of existing products/' services 22 I0 32 42 17 59

Need to ensure survival of company 21 3 24 39 13 52

Need to reduce costs 18 II 29 34 16 50 Need to respond to

pressure from customers 16 4 20 29 13 42

Need to keep pace with technological advance 14 I 15 33 8 4 I

Need to match competitors" actions 12 2 14 31 12 43

~rhis column sums to more than 102 because several respondents ranked more than one motive equal first.

Omega, Vol. 15, No. 6 449

quently cited motives, whether measured by first rankings or all mentions, were the need to develop new markets and the need to improve the quality of existing products/'services. De- fensive motives, represented here by the need to reduce costs and ensure the survival of the company, constituted a subsidiary stimulus to innovation. Cannon [7, p. 36] concluded that, " . . . the interaction between buyers and sellers, the prompting of customers as much as the initiative of suppliers, determined the rate and nature of the process of innovation". However, our findings suggest a less important role for market structure (i.e. the matching of competitors' actions) and pressure from customers.

At a more disaggregated level, there appear to be important differences between the motives for undertaking product and process innovation. In particular, product innovation in our sample is strongly related to the respondent's perceived need to engage in the development of both new and existing markets. Conversely, process innovation was undertaken for two main reasons: the need to reduce costs, and the requirement to improve the quality of existing products and services. This distinction between price and non-price competitive factors is one to which we return later in this section.

Before going on to evaluate the impact of innovation in our sample, it is important to try to identify the relative position of these firms within the spectrum of technology prevailing in the cognate industry in both Northern Ireland and Great Britain. This issue is examined in Table 4 in the context of the distinction between product and process technology. In general, those firms in our sample which were able to make the comparison rated themselves as rather more advanced than other Northern Ireland firms in their industry in terms of both product

and process technology. However, compared to firms in their industry in Great Britain the Northern Ireland firms rated themselves as technologically similar, particularly in the field of process technology. In both comparisons the sample firms consider themselves relatively more advanced in product than in process technology.

In the context of the relationship between technological and marketing innovations discussed above, this suggests that business success may reflect or be particularly associated with the identification and development of a specific market niche [9]. If so, this suggests that in this sample of innovating firms non-price competition factors (represented here primarily by innovation through product improvement, new product development and process innovation to improve product quality) are relatively more important than price competition, characterised in this sample by process innovation to reduce costs and thereby improve competitiveness.

The relative importance of price and non- price factors in contributing to the competitive success of projects, companies and economies has been widely debated [4, 16, 28]. Certainly it is true that "both types of competition are likely to differ in their effectiveness from industry to industry, segment to segment, product to product. In addition, the relative strengths of the competition and the cash flow situation of the company are also likely to affect the relative influence of price and non-price factors" [6, p. 56]. There is, however, increasing evidence to suggest that non-price competitive factors, and product design and development in particular, can have a major impact on market development and competitive success [2, 22]. Cer- tainly, in the case of this sample of firms it appears that market pressures have borne more

Table 4. Product and process technology compar isons

Compared to Compared to NI firms GB firms

Product Process Product Process tech. tech. tech. tech.

Much more advanced 12 12 I I 6 More advanced 29 15 22 I 0 Similar " 26 29 37 36 Less advanced 1 5 8 14 Much less advanced 0 0 I 3 Not applicable 22 20 6 7 Don ' t know 12 21 17 26

Mean Score ° 2.24 2.44 2.57 3.06

aRange: much more advanced = I, much less advanced = 5.

450 Harrison, Hart--Innovation and Market Development

heavily on product technology and have, there- fore, been associated with a higher degree of product innovation. The consequence has been that, as Table 4 indicates, product innovation has been introduced into the region somewhat earlier than process innovation. However, as subsequent discussion will show, the relationship between product innovation and market development and competitive success implied by Tables 3 and 4 does not necessarily hold for all aspects of the performance of the businesses included in this analysis.

Two further points arise in the context of the data contained in Table 4. First, a significant number of respondents (around 20%) indicated that a comparison with other firms in Northern Ireland was not applicable or not appropriate because either the product or the process technology was unique to the respondent. However, only a few firms in the sample stated that there were no technologically comparable firms in Great Britain. Second, a high percentage of respondents were unable to judge their product or process technology relative to other firms in Northern Ireland and Great Britain. Again, it appears that firms in our sample are less ignorant of product technology comparisons (poss- ibly indicating the feedback of information from competitors and customers through the market place), and are less ignorant of both product and process technology comparisons with other Northern Ireland firms.

INNOVATION AND COMPANY PERFORMANCE

Before examining the relationship between the innovation profiles of our sample and their performance, in terms of change in turnover and market development, Tables 5 and 6 illustrate the relationship between current turnover and innovation intensity. For each turnover size

Table 5. Current turnover size and product innovation

Current turnover (£000)

Introduced introduced new products improved products

Yes No Yes No Total firms

< 100 28 6 16 18 34 100--500 20 12 17 15 32 500--1000 19 1 17 3" 20 1000+ 8 3 6 5 11

Total 75 22 56 41 97

Chi-square 8.20 8.01 D.F. 3 3 Signif. P < 0.05 P < 0.05

Table 6. Current turnover size and process innovation

Introduced Introduced Current new process improved process turnover Total (£000) Yes No Yes No

<250 17 37 19 35 54 > 250 23 20 26 17 43

Total 40 57 45 52 97

Chi-square a 3.92 5.18 D.F. 1 I Signif. P < 0.05 P < 0.05

°Calculated with continuity correction factor.

band the data in the table indicate the number of firms who have undertaken each type of innovation. For comparative purposes the equivalent figures for the sample as a whole are also included.

It is clear from Table 5 that there is a statistically significant relationship between product innovation, either new or improved, and turnover size. Firms with a turnover of less than £0.1m have a lower than average incidence of improved product innovation, while the figure for firms with a turnover between £0.5 and £1m is very much above average. Although there is not a simple linear relationship between current turnover size and the extent of new product innovation, firms in the £0.1-£0.5m turnover size band reported a very much below average rate of new product innovation, while firms in the £0.5-£1m category reported rates significantly above average. From Table 6 it can be seen that there is also a significant relationship between the introduction of both new and improved processes and turnover size: small firms, with current turnover of less than £0.25m, are only half as likely to have introduced new or improved process innovations as larger firms.

Table 7 extends this discussion by examining the relationship between company performance, in terms of turnover change (measured over the past five years or relative to the first year of trading for companies less than five years of age) and innovation. Two points emerge from consideration of this table. First, there is a clear and statistically significant relationship between new product innovation and turnover change, such that the more rapidly a company is growing the more likely it is to innovate: 82.5% of companies reporting increases in turnover of 50% or more had introduced a new product since 1981, compared to only 50% of firms reporting static or declining turnover. This

Omega, Vol. IL No. 6 451

Table 7. Company performance and innovation, 1981-1986

Firms introducing

New Improved New Improved method,' method,

Turnover product product process process change Total (%) Yes No Yes No Yes No Yes No firms

> 50 52 11 38 25 30 33 33 30 63 1-50 8 4 7 5 2 10 4 8 12 Static/

decreased 8 8 7 9 8 8 7 9 16 Total 68 23 52 39 40 51 44 47 9 I

Chi-$quare 7.63 1.44 4.21 1.63 D.F. 2 2 2 2 Signif. P < 0.05 NS NS NS

raises an important question of causality: does product innovation lead to improved sales performance or does more rapid growth facilitate the introduction of new or improved products? While the aggregate evidence available to date from our survey does not permit a conclusive answer to this question, the evidence of Table 3 above suggests that innovation leads to growth through market development. This is consistent with Chaganti and Chaganti's [9] conclusion, based on a study of the product and market policy of 192 companies, that success (measured in terms of profitability) was strongly related to the development of a specific market niche.

The second point to emerge from Table 7 is that no other category of innovation shows a statistically significant relationship with turnover change. Nevertheless, in the case of new process innovation there is some evidence that the more rapid the growth of a firm the more likely it is to have introduced new and improved process innovations. Specifically, only 15% of companies whose turnover increased by less than 50% introduced new processes, compared to half of those whose turnover had increased by more than 50%. However, around half of companies which experienced a decrease in turnover (a very small group in any case) had introduced new or improved processes. This suggests the possibility that firms in this position undertake process innovations as a defensive reaction to an increasingly competitive market environment, which is consistent with the reported motives for undertaking process innovation discussed in Table 3 above.

INNOVATION AND MARKET DEVELOPMENT

The link between innovativeness and technical superiority on the one hand and export

performance on the other has been demon- strated in a number of recent studies [8, 10, 17, 26]. Indeed, McGuinness and Little [20, p. 112] have argued that "new products could be one of those stimuli that arouse management interest in exporting", and the link between technical and marketing innovation has been clearly made by a number of authors [18, 35].

The relationship between both product and process innovation and the development of markets outside Northern Ireland is summarised in Tables 8 and 9. In this paper we treat markets in Great Britain and the Republic of Ireland as export markets for Northern Ireland small firms on the grounds of geographical separateness and exchange rate differences respectively. The measure of export success used in this comparison is export growth, defined as the percentage change in export sales since 1981 or since the first year of trading for companies established after 1981. This measure has been used instead of export intensityl defined as the percentage of total sales going to export markets, in view of the size and age distribution of the respondents, and in the light of the sug- gestion that the innovation predictors of export growth and export intensity are very different [34].

With respect to the development of markets in Great Britain and the Republic of Ireland, 14 of the 97 respondent firms for which data are available do not have, and have never had, any sales to customers in these areas (Table 8). Half of the respondents reported their sales in this export market had increased by more than 50% since 1981; approximately one-fifth had seen their sales remain static or fall during this period. Overall, there is a statistically significant relationship between export sales performance

452 Harrison, Hart--Innot,ation and :~arket Derelopment

Table 8. Market development and innovation: Great Britain Republic of Ireland sales

Firms introducing

New Improved New Improved method, method/

% Change product product process process in sales Total t981-86 Yes No Yes No Yes No Yes No firms

>50 43 5 33 15 25 23 28 20 48 1-50 10 4 9 5 4 10 7 7 14 Static/

decreased 12 9 8 13 4 17 5 16 21 Not applicable ~ 12 2 5 9 5 9 2 t 2 14

Total 77 20 55 42 38 59 42 55 97

Chi-square 10.28 8.64 7.66 12.72 D.F. 3 3 3 3 Signif. P <0.05 P <0.05 P <0.10 P <0.01

~Companies which serve only the Northern Ireland market--i.e, do not and have not sold in Great Britain and the Republic of Ireland.

and innovation, which is particularly strong in the case of improved process innovation and is rather weaker for the introduction of new process innovation. Specifically, although only around 40% of all respondents indicated that they had introduced new or improved processes, between 52% and 58% of businesses recording sales increases in excess of 50% had done so. Similarly, businesses in this high performing category were very much more likely to have been involved in product innovation: 90% of these firms had introduced new products, and 70% had improved existing products; this com- pares with figures of 70% and 45% respectively for the remaining firms in the sample.

From Table 9 a similar relationship emerges for those firms selling in overseas markets. Relevant data are available for only 79 of the 102 respondents, and of these 28 indicated that they have never sold overseas. Firms which have increased the percentage of their output sold to

customers overseas tend to have a higher incidence of all categories of innovation than have firms which have experienced static or de- creasing overseas sales. For both new products and new process innovation the overall relationship is, nevertheless, weak and statistically insignificant, and for improved product innovation the relationship is only significant at the P <0.10 level. However, in the case of improvements to existing processes there is a highly significant relationship between innovation and overseas sales performance.

From both Tables 8 and 9 it is clear that businesses which serve only the Northern Ire- land market (i.e. do not currently sell to customers in Great Britain, the Irish Republic or overseas) have reported an unusually high rate of new product innovation. The majority of these are new businesses which have not yet developed their full market potential, although most of them have indicated that this new

Table 9. Market development and innovation: overseas sales

% Change in Sales 1981-86

Firms introducing

New Improved New Improved method/ method/

product product process process

Yes No Yes No Yes No Yes No Total firms

Increased 13 2 12 3 8 7 I I 4 15 Static/

decreased 28 . 8 19 17 15 21 16 20 36 Not applicable ~ 24 4 12 16 9 19 7 21 28

Total 65 14 43 36 32 47 34 45 79

Chi-square 0.93 5.51 1.86 9.36 D.F. 2 2 2 2 Signif. NS P <0.10 NS P <0.01

a Companies which do not and have not sold overseas.

Omega, Vol. I5, No. 6 453

product innovation will provide the basis for a significant expansion into export markets in the next five years [20, 21].

C O N C L U S I O N

In this paper we have outlined some aspects of the relationship between technological innovation and marketing innovation. Two dimensions of technological innovation have been highlighted: the distinction between product and process innovation on the one hand, and between incremental and radical innovation on the other. Following Ansoff [3], we have dis- tinguished between marketing innovations within existing marketing structures and those involving the identification and exploitation of new market opportunities. We have used this framework as the basis for the presentation and discussion of some results of a study of innovation and market development in the small firm sector in Northern Ireland.

The main conclusions of our analysis can be summarised as follows:

1. Product innovation was more common than process innovation.

2. New product innovation was almost half as common again as the improvement of existing products.

3. The introduction of new manufacturing methods/processes was rather less common than improvements to existing processes.

4. The need to develop new markets and improve the quality of existing products/services were the most commonly cited motives for the introduction of new or improved product innovation.

5. The need to reduce costs and improve the quality of existing products were the most important motives for undertaking process innovation.

6. The survey respondents consider themselves technically more advanced than other Northern Ireland firms in their industry and similar to equivalent firms in Great Britain.

7. Within this the respondents consider themselves relatively more advanced in product than in process technology, reflecting the importance of non-price competition factors and the influence of market pressures on innovation in this sample of businesses.

8. There is a direct and significant relationship between firm size (in terms of turn-

over) and innovativeness for all categories of innovation, such that the larger the firm the more likely it is to have innovated.

9. Only new product innovation is related to company performance, and is more likely in rapidly growing firms as measured by percentage change in turnover over the previous five years.

10. Businesses which have experienced increased export sales over the last five years are more likely to have innovated, and this is particularly true for businesses selling into the Great Britain/Republic of Ireland market.

On the basis of our discussions we conclude that the introduction of new or improved technology has been a major factor in the development of new market opportunities for this sample of innovating small firms. In particular, there is a significant relationship between innovative behaviour on the one hand and sales performance and the development of some markets outside Northern Ireland on the other. Consequently, the indigenous regeneration of a peripheral regional economy such as Northern Ireland may best be achieved through the further encouragement of innovation and technical change as a means of improving both the price and non-price competitiveness of industry within the region, and hence the penetration of existing and new domestic and export markets.

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ADDR~ FOR CORRESPONDENCE: Dr R T Harrison, De- partment of Business Studies, The Queen's University of Belfast, Belfast BT7 INN, Northern Ireland.

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Innovation and market development: the experience of small firms in a peripheral economy

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