How you can benefit by predicting change: senior managers who learn how to spot signals of disruptive change will have much greater insight into the potential and perils of emerging technologies, and will improve their ability to make the right strategic decisions. Useful tools, now available, can help managers sense future events.

• Author: Anthony, Scott A.
• Position: Cover Story

Take a step back to the late 1970s and imagine being Ken Olson, the founder and CEO of Digital Equipment Corp. (DEC), the then world's leading minicomputer manufacturer. You make sophisticated, high-end equipment that is sold to the world's leading corporations, and your company has been phenomenally successful over the past two decades. You observe that a series of entrepreneurs have come up with a simple, low-price computer meant to be used by individuals. What does this mean?

How would you answer that question? The personal computer market doesn't exist, so there's no market research report to turn to. And, your current customers aren't much use. Imagine if you went to them and said, "We're going to sell you a product that is much worse than what you currently use. You won't be able to do much with it, but maybe someday you will." What would you expect them to say--or do? Would they rush to purchase this new product?

In this context, then, it is quite natural that in 1977, Ken Olson famously said, "There is no reason anyone would want a personal computer in their home."

This anecdote isn't meant to single out Olson. Back in the '40s, IBM Corp. CEO Tom Watson said, "I think there is a world market for maybe five computers." Microsoft Corp. Chairman Bill Gates in 1980 said that "640 [kilobytes of memory] ought to be enough for anybody." In the 19th century, the CEO of telegraphy giant Western Union dismissed the telephone as an electrical "toy."

The fact is, across the sweep of history, industry leaders have done a poor job identifying the innovations that ultimately have the most transformational potential.

Indeed, identifying transformational technologies is surprisingly difficult. Our natural instincts are to look for data proving that something critical is going on, but unassailable data only exists about the past. Too often, the data and evidence trickling into a market reflects what has already happened, and sometimes even occurred in the distant past. Waiting for conclusive evidence, therefore, consigns people to take action when it is too late. After all, by the time the writing is on the wall, everyone can read it.

But that is not the only way, as now there are useful tools to help executives and analysts understand what will happen in the future. It is now possible to use "disruptive innovation theory" to spot early signals of industry change, confidently predict how those signals will unfold and react appropriately. Executives that learn how to spot the signals of disruptive change will have much greater insight into the potential and perils of emerging technologies, improving their ability to make the right strategic decisions.

The "disruptive innovation theory," first described by Clayton Christensen in the 1997 book The Innovator's Dilemma (see sidebar), holds that organizations have the best chance of creating new growth by bringing disruptive innovations into a marketplace. These innovations either create new markets or reshape existing markets by delivering a new, highly desired value proposition to customers.

There is a simple, important principle at the core of the disruptive innovation theory: companies innovate faster than customers' lives change. Because of this, companies end up producing products that are too good, and too expensive for many customers. This phenomenon happens for a good reason: good managers are trained to seek higher profits by bringing better products to the most demanding customers in the marketplace. But in that pursuit of profits, companies end up "overshooting" less-demanding customers who are perfectly willing to take the basics at reasonable prices. And they ignore "nonconsumers" who lack the skills, wealth or ability to consume at all.

For example, in the 1990s, companies continued to invest to produce higher-quality compact disk technology. However, products were already more than good enough for what customers needed. How did companies create new growth? By using a simple, convenient technology called MP3 that actually had lower audio quality than existing solutions but had new benefits related to customizability and convenience. MP3 is a classic disruptive technology.

Even today, it continues to have limitations along important dimensions such as audio quality. However, it is so much more flexible that people can consume music in entirely new ways, using MP3 players as portable jukeboxes. Companies such as Apple Computer Inc. used the simple, convenient technology to create booming growth.

The situation for Sony Corp. was completely different. MP3 technology looked unattractive...