Risk Management of Innovation Projects
A company’s ability to create new products and services that differentiate them from the competition is becoming a key factor to ensure a business’ longevity in this ever-growing market. Because of this, organizations have continuously tried to launch innovation projects that ultimately fail in most cases due to the higher than normal levels of risk and uncertainty associated with these types of ventures. The purpose of this paper is to review and analyze the characteristics of radical innovation projects and how it differs from other types of projects and the risk management methodology applied.
Innovation is defined as “the implementation of a new or significantly improved product (good or service), or process, a new marketing method, or a new organizational method in business practices, workplace organization or external relations” (Oslo Manual 2005 in Csaba Deak 2009)
Each project has a different level of innovation that best suits their goals and the companies’ strategy and the higher the level of innovation the higher the risk associated, the higher the potential return of investment and higher the cost of failure (Keizer and Halman 2007). While a certain amount risk is inevitable in every project, innovation projects in particular have a greater rate of failure due to all the unknown variables creating/improving a product or service implies. Approximately 35 % of new products launched fail commercially (Halman and Keizer 1994 in John Bowers 2014).
Risk management is a methodology that helps team projects anticipate any unexpected events and define a proper plan to lower the probability that it occurs and the consequences it might have on the project with the objective of improving the chances of success (Lavanya and Malarvizhi 2008).
According to the Project Management Institute (PMI 2014), risk is “an uncertain event or condition that, if it occurs, has a positive (opportunity) or negative (threat) impact on project objectives”.
Despite this very clear definition, risk is still considered within the enterprises to be mostly a danger to the projects’ goals, something that takes extra time and effort away from their responsibilities (Kwak and Stoddard 2004).
Risk culture is an important aspect that should be implemented throughout the entire corporation so that risk identification is a systematic and continuous approach both for projects and the every day of the rest of the employees so that they can easily identify the threats and the opportunities ( ). Moreover, in their paper Ward and Chapman (2001) argue that we should go beyond looking for threats and opportunities, and we should focus on the uncertainty factor that originates them to not make them mutually exclusive and restrict the management of all of its aspects
Levels of innovation in projects and the risk associated
A project’s level of innovation can be classified in categories depending on the size of the changes they are making and the impact it has in relation to what is on the market. The labels of this categories vary depending on the author: incremental innovation, differential innovation, breakthrough innovation and radical innovation (Altin Kadareja 2013) or Level 1, 2, 3, 4 (Kris Miner 2010) or incremental innovation, low innovation, and radical innovation (Csaba Deak, 2009) but they all agree that the higher the level of innovation the higher the level of risk (Figure 1). For the sake of this paper Miner’s terminology will be used.
Figure 1: Draft graph designed to represent Kris Miner 2010 descriptions
- Level I: small changes to existing products. This level of innovation has a low-level uncertainty because its purpose is to make minimal improvements as to rejuvenate them in the customers’ eyes but maintain their classical characteristics (Altin Kadareja 2013; Kris Miner, 2010)
- Level 2: adding features to an existing product to create a new version. It has a higher level of uncertainty, but it is still manageable as the company already knows the customer wants and its simply making improvements (Altin Kadareja 2013; Kris Miner, 2010)
- Level 3: designing entirely new products for new markets (Crawford and Di Benedetto 2002 in Altin Kadareja 2013)
- Level 4: the highest level of innovation implies creating products that revolutionize everything using unprecedented technologies, methods and knowledge (Kris Miner 2010).
Projects classified within the first two levels are medium to low risks because the methodology and technology needed has previously been used, most of the cause for uncertainty is known, the team is familiarized with everything that needs to be done and they have enough knowledge from previous experiences as to feel comfortable with what wants to be achieved. Moreover, the objective, scope and plan of the project is clear from the start and they are linear and predictable nature.
On the other hand, projects with levels 2 and 3 are on the highly risky side of the scale because of all the unknown variables involved. These types of project are characterized for its constantly changing scope, goals, direction, methodology and for having and original idea that goes through a trial and error phase of alternative solutions before it is developed and implemented (Van de Ven 2017) and are more prone to go off schedule (Csaba Deak 2009). Due to this ever-changing nature, Wycoff 2003 in Csaba Deak 2009 notes “innovation teams are more actively involved with risk management and need to learn to fail fast and fail smart in order to move on to more attractive options.”
Unlike the low risk level projects, this inherently risky projects have a non-linear model that describes the iterative way new knowledge is used to reassess previous activities as shown in Figure 2 (Csaba Deak 2009).
Figure 2 (Source: Balogh 2007 in Csaba Deak 2009)
Furthermore, Van de Ven (2017) explains that the innovation journey can not be controlled but with the right tools the probability of success can be increased by managers and that it is their responsibility to increase these odds and not necessarily the project’s success as they have no control over it. He goes on to compare the innovation journey to an uncharted river and managers to the people trying to make it across to emphasize that managers with the appropriate experience and knowledge are more likely to be able to maneuver their way around any obstacles and surprises the river might through their way and eventually reach their destination.
Risk management process overview and methods
Risk management consist of four main phases that are meant to be implemented in a cyclical manner over every stage of the project’s lifecycle. This an overview of the basic concepts along with some of the methods used in each one:
- Risk identification: During this first step, risks or uncertainties need to be identified. To do this, different techniques can be used such as brainstorming, checklist analysis and interviews with the cross-functional team project, stakeholders and experts on the field outside of the team. It is also of great value to revisit the risk register of previous projects as to gain insight on potential risks and lessons learned (Bowers and Khorakian 2014; Lavanya and Malarvizhi 2008).
- Risk analysis: After identifying the risks, the project team analyzes them to evaluate what is the root cause and how they might affect the project’s objectives. In this stage, each risk is given a risk score that represents the probability that it will occurs multiplied by the impact on the project if it occurs to determine the level of priority it should be given by the project manager and the sponsors. The risk acceptability matrix is a graphic way of displaying this information as it shows using shades of green, yellow and red how high or how low the score is. (Bowers and Khorakian 2014; Lavanya and Malarvizhi 2008).
- Risk action: Once all the risks have been categorized according to their risk score, a response to each risk is assigned (mitigate, transfer, avoid, accept) and a risk owner. The project manager is the one responsible for allocating each risk to the person best suited to handle it (Bowers and Khorakian 2014; Lavanya and Malarvizhi 2008; Riaz Ahmed 2017)
- Risk monitoring and control: review the status of previously identified risks and reassess them if the situation changes (Bowers and Khorakian 2014; Lavanya and Malarvizhi 2008).
Although these main phases are common in every risk management project, there seems to be a lot of different methods for the identification and evaluation of risks (Keizer and Vos 2003):
- Failure mode and effective analysis
- Potential problem analysis
- Fault tree analysis
- Risk questionnaires and topography
For some of these methods, some authors have identified some opportunities for improvement, such as Keizer and Halman (2007) who support the idea that group brainstorming/interview might be detrimental to the risk identification objective since people in large groups tend to be influenced by what other senior level employees and experts from different field say and they are not as open to express their opinion freely classify what they perceive a risk as high or low.
Furthermore, in Risk Diagnosis Methodology (RDM), which was developed within Phillips Glass to improve existing methods for diagnosing risk during product development (Keizer, J., Halman, J. and Song, M. 2002), to be able to accurately calculate the risk score a third factor is used besides the probability that the risk occurs and its impact if it does and that is the team’s ability to be able to influence the situation so that a beneficial outcome for the project can be achieved.
However, the most powerful contribution is achieved at the end of the feasibility phase of the product-creation process (Halman, J., Keizer, J. 1994)
Risks in innovation projects
Currently there is no uniform classification of risks in innovation projects because of its inherently unique and unpredictable nature but researchers have done studies to try and find a common ground across different projects and companies that will be of reference for future innovations. For example, Keizer and Halman (2007) used Risk Diagnosing Methodology for interviewing eight different project teams from the same company and found that there were not that many common risks between the projects which once again can be attributed to the unique nature of each project. They also determined that some of the risks were so evident that there was a common consensus among the employees about its level, called unambiguous risks, like technological specifications and product requirements. On the other hand, there are ambiguous risks which are those where a common consensus could not be found and most of them are related to internal management aspects of the project and organization.
Another interesting study was by Kadareja, A. (2013) who concludes after analyzing the quantitative data obtained from a survey distributed to companies to understand their perspective on the internal and hidden risks the plague innovation projects that risk-averse culture, time risk, customer insight risk and leadership support risk are the main influencers of unsuccessful projects (Figure 4). This means that trying to create something groundbreaking implies more risk than people are used to so companies should star from this point and make sure there is a strong support from top management. Additionally, since this type of venture is based on an uncertain future, constant customer insight is needed to make sure the solution is on track as to not waste time by getting feedback too late in the process.
Projects with high levels of innovation are the most unpredictable and uncertain type of projects therefore they have a higher failure rate and that require the most investment but also has the opportunity to gain the most profit. Effectively using risk management tools can help increase the chances of success, particularly, authors agree that for innovation projects this discipline offers the greatest value in the initial stages of developing the product and that even though at that point there is not enough quantitative information to make an accurate assessment, qualitative risk assessment can help the team diagnose and identify gaps in their proposal and determine from and early stage if they should proceed with the project or they need to step back and reassess the direction they are going with.
Most studies available regarding this subject all focus on the identification and analyzing stages of the risk management process but, besides the Risk Diagnosis Methodology there doesn’t seem to be any studies with practical, operational and objective ways of properly identifying and prioritizing risks in innovation projects that doesn’t involve a limited number of individuals within the project team and the chance that they might identify something of value on time.
Risks analysis is often focused inward to detect possible obstacles relating to the process, the requirements, the management of the project but in Level 3 and 4 innovation projects the external factor have a significant level of uncertainty because creating radical products means navigating uncharted territory as far potential customers, market positioning, regulatory factors.
Innovation projects require a lot of creativity to obtain the out of the box solutions that they are famous for, specially while developing the initial concept, and excessive risk management practices at the wrong stage could negatively affect the innovation journey by limiting employees into thinking in rational, logical and safe ways which is why a project manager with the necessary skills always needs to be present to ensure that line is not cross and also the help the team along.
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Identification (identify all sources of uncertainty, both positive and negative, that might affect the project’s planned outcome)
Monitoring and control (keep track of identified risk so that immediate action can be taken if the status changes and identify new risks that arise)
Analysis (evaluate the cause of each risk and categorize them according to their likelihood of occuring and their impact on the project)
Action (develop a plan with a clear response to each risk and the person responsible)