Innovation

In terms of products or services, innovation refers to the development of products or services that create value for which customers are willing to pay. The creation of new products and services is associated with high levels of risk of failure and unpredictability of outcomes. The riskiness of innovation poses distinct challenges to the management of firm reputation. This entry discusses these challenges and then explains the three processes that present innovative firms with distinct opportunities to manage their reputations.

Innovation and Its Reputational Challenges

Innovation occurs through the deliberate application of information, knowledge, or imagination to discover either new or different uses of resources. Novel resources (e.g., new technologies) or novel uses of existing resources (e.g., new business models) generate considerable uncertainty about both the costs and the utility of the products and services in which they are deployed. As a result, innovation tends to be a high-risk activity that reduces the predictability of firm performance. According to a Business Week report, only 4.5 percent of new projects across a variety of industries deliver their target returns.

Reputation is an intangible asset that increases stakeholder willingness to exchange resources with the firm because it provides an assurance about the firm’s ability to deliver the outcomes that the stakeholders desire. Firm reputation is based on stakeholder perceptions derived from observed prior actions of the firm. Greater consistency in prior firm actions results in greater predictability of its future actions, making its reputation stronger and potentially more positive.

Innovative activities increase the risk and reduce the predictability of firm actions. Innovation researchers have identified two types of risks. Supply-side risks arise from the extent to which new and unproven technologies would work as predicted and result in product and service performance that delivers more value than the existing alternatives. Typically, existing alternatives benefit from scale and learning advantages, which lower their costs and increase their advantages in ease of use and ownership. Therefore, developing technologies with superior functionality and costs is difficult to do and fraught with uncertainty. Demand-side risks arise from the extent to which potential users actually perceive and appreciate the superior functionality of the new offerings. While in retrospect it appears that innovations win on their technical superiority, the history of technology is replete with examples of valuable innovations that took a long time to be accepted and adopted. For example, the bicycle underwent a 20-year period of contestation centered on its safety as well as looks. The introduction of the Sony Walkman generated several years of debates about wearing headphones and pedestrian safety.

Despite the uncertainty arising from innovative activities, evidence abounds that innovative firms often earn top marks on their reputations. For example, the list of Fortune’s “Most Admired Corporations” is routinely topped by highly innovative companies, with Apple holding the number one spot from 2008 to 2015, followed closely by Google, Berkshire Hathaway, and Amazon. These visible examples suggest that highly innovative companies can develop reputations that are not only positive and strong but also exemplary. What are the mechanisms that contribute to positive reputations through innovative activities? Three mechanisms link innovation strategies and reputation building: (1) signaling, (2) value creation, and (3) celebrity.

Signaling

Signaling is an important means identified in the economic analysis of repeated competitive interactions with incomplete information. Under conditions of incomplete information, actors cannot know the true type (intentions and abilities) of others, so they rely on observed actions to infer the likelihood of future behaviors. For example, a combination of pricing and advertising has been found to reliably sort market participants into low- and high-quality producers.

Engaging in innovative actions can be understood as a particular type of signal that informs stakeholder perceptions. Several strategic attributes of firm innovative efforts have signaling value. Innovation intensity refers to the level of investment a firm makes in research and development as a percentage of sales. It represents the most readily observable variable about a firm’s innovation activity and is often used as a source of information about current levels of innovation efforts and/or changes in a firm’s innovation strategy. Increasing the level of research and development expenses is seen as a clear signal of a firm’s intention to compete through innovation. A related but different measure of innovation intensity is the number of new products and services a firm launches in a given time period. This measure captures competitive actions along an innovation dimension more directly and has been found to affect media attention to a firm.

Degree of novelty characterizes the extent to which a firm engages in incremental versus radical innovation. Incremental innovation is characterized by investments in small incremental improvements along established technological trajectories. Radical innovation involves the development and commercialization of fundamentally new technologies and/or application of existing technologies in fundamentally new product and service concepts.

The vast majority of innovations are of an incremental nature, and even highly innovative firms seldom focus on radical innovations exclusively. For example, 3M’s iconic reputation was built on its earlier radical technologies, such as the semiadhesives that gave birth to the Post-it, but its subsequent growth has relied primarily on predictable, incremental innovations from existing technology platforms. The degree of novelty of a firm’s innovations provides a signal regarding the strength of its underlying technological capabilities.

Finally, the timing of innovation activities can also serve as an important signal, as early investments in a new technology communicate intentions to lead the market in that technology, whereas later investments are associated with intentions to adapt and “play it safe.” The timing of innovation efforts is particularly important in the context of completion among competing standards and platforms, as expectations about which technology might win become a big part of the market process through which the technology platform gets adopted. In this case, the timing of the innovation can signal the direction of a firm’s strategy in the presence of multiple competing technologies. Overall, the strategic attributes of a firm’s innovation efforts represent different signals about the underlying competitive strength a firm has or is seeking to build. As such, they affect stakeholder perceptions of the firm’s competitive strategy and advantage.

Value Creation

The goal of innovation is the creation of new value though creative development and use of resources. Value creation refers to the extent to which a firm’s products and services increase the benefits or reduce the costs of consuming a particular type of product or service. This cost-benefit ratio—referred to as relative product advantage—has been found to be the most significant predictor of the success of a new product innovation.

In addition to the direct benefits for product adoption, the extent to which a firm’s products create value for consumers can significantly affect stakeholder perceptions of the firm. First, new products capture public attention—through higher levels of media coverage as well as word of mouth. Novelty is interesting, making novel products newsworthy. Novelty, however, can also be challenging, and even controversial, requiring some level of collective learning, vetting, and debate. All of these factors increase the visibility of an innovative firm and lead stakeholders to form more explicit perceptions about it, thereby increasing the clarity and strength of its reputation.

Furthermore, if the novel functionality created by the firm receives positive evaluations, the firm’s reputation benefits from both the direct positive evaluations of its offerings and also the higher regard that accrues for taking the risks and overcoming the challenges associated with innovation discussed earlier. Put differently, firms that succeed in creating significant levels of new value receive positive marks both for creating quality products and for having an impact on society through the changes in demand and value that their products create. Consider Facebook and the societal impact of its innovation, extending well beyond facilitating information sharing on college campuses.

Celebrity

Some scholars have argued that firms that engage in highly innovative activities in fact receive positive evaluations that resemble reputation but are of a different nature. Specifically, the concept of firm celebrity has been proposed to describe the high levels of public attention coupled with positive emotional responses that innovative firms enjoy. Unlike reputation, which accrues for consistent and predictable behavior and performance, celebrity, the argument goes, is an asset that the media generate through dramatic narratives. The media tend to create such narratives about firms with unconventional strategies, charismatic leaders, and quirky cultures.

Innovative firms often embark on strategies that break ranks with the rest of the industry (think Apple in the PC industry, Netflix in video rentals, or Tesla in automobile manufacturing). These firms therefore engage in innovation not only at the product level, but also at the strategic level. Their strategies are devised and championed by visionary leaders, and supported by cultures that involve autonomy, initiative, and experimentation. In other words, they operate in a manner that is highly consistent with the notion of celebrity firms. As a result, the positive evaluations that these firms receive by stakeholders may be associated with celebrity status, rather than with high reputation.

The distinction between reputation and celebrity is important because they reflect fundamentally different stakeholder perceptions. Reputation is associated with perceived reliability and predictability, which reduces stakeholder uncertainty and increases confidence in future exchanges with the firm. Celebrity is based on public excitement about the innovative potential of a firm. As such, it may induce stakeholders to engage in more exchanges with the firm, but it does so from an emotional rather than a rational-instrumental perspective. Research suggests that positive emotional responses (e.g., those associated with celebrity) may amplify already positive outcomes, whereas rational positive evaluations (e.g., those associated with reputation) may provide more buffering under negative performance conditions. These differences may have important implications for how firms communicate with stakeholders under different conditions.

Implications for Corporate Reputation

As a risky activity, innovation may present a distinct set of challenges for corporate reputation managers. However, it may also present distinct opportunities based on innovation signals, value creation, and celebrity. In particular, this entry highlights three important guiding principles:

1. Signaling: A firm’s communication strategy must be aligned with the signaling attributes of the firm’s innovation strategy. Corporate reputation managers need to understand the competitive implications of these attributes and seek to align public and competitor expectations.
2. Value creation: Novel value creation through innovation has a dual effect on firm reputation, as the firm receives positive marks for product quality and societal impact. Corporate reputation managers need to focus on both and emphasize the larger impact of the firm on market demand and change in society.
3. Celebrity: Innovative firms may generate positive public perceptions in the form of celebrity rather than reputation. Corporate reputation managers need to understand the differences between the two and how the emotional aspects of celebrity can be leveraged most productively.