Rules to Innovate By.

YOU CAN HIRE GOOD PEOPLE. You can ask for big ideas. But if you don't create an environment where good people can nurture and grow their big ideas, you might as well kiss your competitive advantage goodbye.

OKAY, I'VE SEEN ENOUGH. Enough to know the winners today are not obeying the rules I do. Enough to know the digital pioneers are succeeding by changing the rules, not by executing my business model better. Because, while operating excellence does not guarantee my company a future, innovation that delivers a more valuable customer experience does.

As CEO, I have to create options for my company to play in the new economy. It's up to me to show every employee and shareholder that digital innovation important to me and to our company. More than that, in order to recruit and retain the best forward-looking people, I have to demonstrate that it's a corporate priority.

In a very real sense, however, our own devices trap us. We've built our company on scale and efficiency, but startups and change are rife with inefficiency and chaos. Further, our substantial resources, which ostensibly should work to our advantage, are oftentimes obstacles we have to overcome, and breaking them down inside my company is impractical. I need a palatable alternative to disrupting our efficient operations in order to test and launch new ventures. Ultimately, I need a separate venue for innovation.

The Right Atmosphere

Innovations, new ventures, and the wealth they create start with ideas, and good people have good ideas. Our front-line employees who touch customers every day and our younger employees who are familiar with the Internet and understand mobile commerce-- or what is fast becoming known as m-commerce--see plenty of opportunities to build new businesses out of our existing ones. That's the good news. The bad news is those ideas are withering away because we don't have a process to surface and capture them or the right people and skills to build them into businesses. If you don't deliberately nurture and harvest them, you'll find they won't grow. Having struggled to capture breakthrough ideas, Shell Oil created and maintains a formal process to review ideas focused on creating new businesses. They also lead their industry in return on capital employed.

A Venue To Nurture New Ventures

Most of our ideas have died before we could test them in the market. Often, we don't even get a full-fledged business model built because something diverts our attention; our jobs get in the way. It's nearly impossible to get employees who understand the Internet to really focus on an experiment. They're so in demand that every department head is using them to "webify" existing businesses. So venture projects tend to lose focus and get drawn out; we spend more time and money than we planned and something else comes up that seems more urgent. Ultimately, we get something dead-on-arrival that we never nourished enough to give a chance at survival.

A good idea's best chance for success is in an environment where the only responsibility is to drive it to conclusion--to make a decision to invest in it or to kill it because it won't attract a market or make a profit. Healthcare giant Humana saw this challenge in 1998 and established eLF Works, its venue for digital innovation, in a location separate from its headquarters. eLF Works is an entirely different looking and feeling space that promotes the innovators work style and has resulted in several innovations now being built.

What we are accustomed to doing day-in and day-out has a stranglehold on our mental models and diffuses focus on potential breakthroughs. We've completed some good initiatives, but almost every one has been focused on efficiency of today's business. To outperform our competitors, we need profitable new revenues--not just lower costs. To get new revenues, we need innovations that will create new markets the way NextCard has done with the online consumer credit business. Solitary focus on the current operating model is why Dell's business did not spring up inside IBM, Compaq, or Digital Equipment Corp., and why eBay was not born at Sotheby's and why Amazon.com is not the progeny of Barnes & Noble.

Although seemingly counter- intuitive, a wealth of corporate resources in a startup, especially money, can actually grind progress to a halt. New ventures need to be weaned from corporate wealth--which encourage dependence on safe conditions and easy solutions--to test the true viability of the venture and the team's mettle. GE, easily one of the richest and most admired large companies, learned this with its factory of the future experiment, which burned through hundreds of millions of dollars before the company pulled the plug. By taking away the resource "safety nets," we challenge our would-be entrepreneurs to meet objectives with what they've got-and an Apollo 13 mentality prevails.

Creating a new business is not everyone's expertise, but everyone wants in on the decision-making. But committees kill new ventures. They typically work to maintain the status quo, to make everything look like the existing structures they understand. But we don't need the same old things. We need new models capable of delivering entirely different customer experiences.

The CEOs of large companies don't have the time to make the type or the number of decisions that are necessary in a startup. Yet, in the battle between Internet-era innovation regimes, speed is of the essence. Having 24/7 decision-making authority under one responsible commander leads to the fastest and clearest decisive action.

Risk-Taking Leaders

We are in technical and economic revolutions, and the pace of change is quickening dramatically as digital and biological technologies integrate and spawn new technologies and industries. Where are our company's leaders who want to pioneer new territories?

At one time or another, I'm certain we've all thought we just didn't have people who would take the risks inherent in new ventures, but new ventures have taken some of our best people. What we need is the supporting infrastructure and personal motivations to let these people build their ideas and exercise their entrepreneurial urges. At eLF Works, I was astounded by the people who brought me ideas--accountants, actuaries, and assistants I wouldn't have dreamed were hatching revolutionary thoughts or were willing to give up their comfortable corporate positions for a risky chance to pursue a cause. We collected ideas for more than 200 businesses--a rich pool with which to work.

But there must be personal motivation, or no one will step forward with ideas. We need to reward our entrepreneurs the way the open market would for surfacing valuable ideas, building businesses, and accomplishing high-risk objectives. It's true the economy has faltered a bit in the last six months. But the previous five years taught us quite a bit about the willingness of entrepreneurs to leave their comfortable corporate gigs to pursue dreams, assuming appropriate reward and compensation.

But what's appropriate? Requiring a new venture to make immediate impact on corporate earnings is absurd, and paying would-be pioneers with current corporate currencies is equally absurd. It works against their taking on assignments that have high risk and grueling schedules. Or, worse yet, they won't do it inside your company.

The solution is to pay people appropriately for their ideas and for the risks they take, regardless of titles or tenure. Let the team that makes things happen in a new venture gain from it the way they would if they took the idea to the free market. Make them owners of what they create. Set up distinct equity plays with clearly defined lines between the existing company and new companies. Don't hide the business inside the existing company. Make it clear from the start this is an independent entity that will rise or fall on its own merits.

IT Systems: Enablers Not Handicaps

"Our systems won't let us do that" is not an acceptable response in the Internet age. Digital technology is an enabler of new business models. But, by holding us in place, legacy systems actually drag us backward at an alarming pace. Several traditional brick-and-mortar retail drug companies were not able to retrofit and reconfigure their systems fast enough to compete with the threat from future-focused, digital core upstarts. Instead, traditional players Rite Aid and CVS have opted to buy dot-coms and, in the process, have acquired new technical architecture for a relatively cheap price.

When startup ideas have to circumvent systems designed to do other jobs, oftentimes the hurdle is too high and the investment too large, and the idea withers. By starting with a clean slate, you can take advantage of the open architecture and flexibility of today's digital technologies to test and prove your ideas without having a systems Achilles heel. You create an environment without the handicap and with the capability of technology to change your business.

As CEOs, we're charged with retaining value born in our firms, especially if one of the ideas turns out to be the future of our business. In The Nature of the Firm, economist Ronald Coase argued that a company will tend to expand until the costs of organizing another transaction within the firm become equal to the costs of organizing on the open market, When the costs of trying to organize ideas and start-ups inside a firm are as high as those I've encountered, then building on the outside in the open market is the better solution.

Corporate environments just do not foster rapid trips through the innovator's cycle from idea to experiment to venture to business. Instead, corporate antibodies attack new venture development at every turn. That's why so many successful entrepreneurs point to an "escape from corporate Alcatraz" in their pasts. To combat these antibodies, CEOs need a place where we can develop business plans and prototypes and launch new businesses while "de-risking" each step and minimizing the disruption to our existing companies.

Most companies don't create and nurture disruptive technologies. Most don't have the physical and cultural prerequisites, one of which is a venue focused on venture R&D. In an economy dominated by rapid business model evolutions and digital technologies, smart companies will have them. You can build one or use an existing one focused on corporate entrepreneurs and their unique needs.

What does this venue look like? It's flat, it's fast, and it's free to break rules. It's quick to surface ideas and quick to kill them if they don't prove out. It doesn't cost a lot of money, but it's a great investment. It has deep functional expertise across the key capabilities needed in startups. It's staffed with people who live on Internet time and who breathe entrepreneurial fire. Best of all, it allows your company not only to retain and grow some of your best people but also to capture most of the value created from their ideas.

Laurence Holt is chairman of Quidnunc, an international digital business consulting firm. J Pegues is CEO of Launch-Sequence, Quidnunc Venture Consulting.