Exploration and exploitation

Wait before you start experimenting and you will have to live with the feeling new options are too risky and costly. We have had the fortune to lead the latest edition of Fit for the Future, the leadership programme of Institut Mérieux where experienced managers get the opportunity to discuss their strategic challenges. These managers referred extensively to issues we could broadly link to the idea of complexity. For example, the health industry is said to have moved into a 3.0 era where efficiency is no longer the exclusive focus of all efforts (Nash 2008). Connecting information, supporting collaborative radical innovation, and managing multiple business models are new types of initiatives the company explores to contribute to manage patient outcomes and serve unmet medical needs. When trying to adapt to these trends, this company is faced with the classic trade-off exposed by March (1991). How do we best maintain an appropriate balance between exploration and exploitation, as both types of activities compete for scarce resources. The exploration of new alternatives reduces the speed with which skills at existing ones are improved. And improvements in competence at existing procedures make experimentation with others less attractive (Levitt & March 1988). Compared to returns from exploitation, returns from exploration are systematically less certain, more remote in time, and organizationally more distant from the locus of action and adaptation. It follows that exploration is frequently pushed to the side to the benefit of exploitation that delivers short-term, predictable outcomes.

Playing with the idea of time horizon, we suggested balancing three spaces. In the “Now” horizon, the focus is naturally on the exploitation where optimizing what is existing today is the rule of the game. In the “New” horizon, the company can try to integrate existing world standard that it does not master today. And in the “Next” horizon, the firm might want to experiment how to change the rule of the game and possibly disrupt its own market before competitors do so. In applying the 70/20/10 rule to the 3 time horizons for their budget allocation, companies can preserve and develop their current source of profit, while at the same time anticipate and experiment new possible options. We might, therefore, say that it is rational to explore new possibilities even if we don’t have reliable ways to calculate returns. This logic is true so long we apply it with a fraction of the business that does not put the firm at risk. The more the company postpones the exploration of emerging signals, the more it will have to invest heavily to catch up with the rest of the industry when weak signals become confirmed. And the more it will feel at risk. The adaptation to the digital world is a very good example of this phenomenon. In the health industry, our conversations would suggest, firms that waited long to start experiment digital tools and processes or new data-based business models are today faced with the impression this shift is urgent, costly and risky. Firms that embraced these new options early on have potentially built a competitive advantage.