How to Measure Innovation

NESTA, the independent British organization, is working on a new index to assess the state of innovation within specific industries

Since the 1970s, Britain's economy has made a dramatic shift from manufacturing to services, ranging from banking and finance to advertising and film production. But to date there's been no way to take stock of how innovative the companies and the industries actually are. Traditional methods of measuring innovation, such as the level of investment in research and development, don't tell the entire story.

In an effort to more adequately measure innovation—and its impact on Britain's entire economy—the National Endowment for Science, Technology & the Arts (NESTA), a nonprofit organization that promotes innovation, wants to create a new index, one that will be industry-specific and include what NESTA Executive Director Richard Halkett calls "the changing, unreported face of innovation."

The index would provide a more accurate picture of many sectors where R&D is not a major factor. Consider the financial-services industry, which has helped make London a pivotal place for global business but which is hardly involved with patents. "We lead the world in this sector," Halkett notes, "but when using existing metrics it looks like basket weaving." Why? Because large amounts of money within the financial-services industry are not going into R&D or patent production. Using the traditional manufacturing-based model of measuring innovation, Halkett says the conclusion would be that innovation is lagging in financial services, which is not the case. The same issues arise in other active British industries, such as film.

Enter NESTA's new Innovation Index, due in 2010. Like all indexes, it's intended as a road map of the economy. In this case, one that would measure the impact of innovation on all kinds of businesses within many sectors and make the findings available to the public, business leaders, and government policymakers. With greater insight into the main players and structure of the economy, these figures could use it as the basis for decisions that in turn might accelerate innovation in the private and public sectors.

Innovation Indicators

The Innovation Index is likely to look at a range of factors, such as organizational change, investment in management and skills training, and competitive performance over time, as well as include a peer review in which company executives both help to define the innovation indicators and rate each other. The latter, Halkett says, instantly pinpoints the companies considered innovative, though of course it's hardly a foolproof system as less visible companies might fall through the cracks. As yet, complete details of how the index will work have not been figured out. NESTA recently launched a "call for ideas" on subjects ranging from what the output of the index should look like to how to define innovation, which suggests they still have some way to go. But the overarching idea is that innovation today is multidirectional, not only about producing new products but also about services, technical standards, business models, and processes.

Overall, the new index will select indicators based on their importance and relevance to the innovation performance of individual sectors, as determined by NESTA experts and industry insiders. So in film, for example, the index will not only look at macro, national trends such as the number and quality of new titles released, but also how innovation impacts other sectors. For instance, Halkett points to the influence of the design industry on computer hardware with the success and influence of Apple's (AAPL) iPod. Within the service industries, which depend on skilled managers to develop new products, the index might imagine the skill level of the workforce and its flexibility.

Ranking Indexed Innovation

There is a growing number of innovation indexes out there, as governments, policymakers, and industry associations recognize the importance of innovation and have stepped up efforts to measure it effectively.

The European Union's European Innovation Scoreboard ranks the innovation of European nations (Finland and Sweden lead the way, Britain is sixth), while the Global Innovation Index, by the French business school INSEAD, puts Britain in third place behind the U.S. and Germany. Meanwhile, the FORA index, from a Danish public research agency, has Britain in sixth place worldwide for innovation.

This year, BusinessWeek joined forces with Standard & Poor's, the world's leading index provider, to create the Global Innovation Index (, 5/1/08). Aimed at investors, this index tracks the performance of 25 of the world's most innovative public companies, from Apple to Wal-Mart (WMT). A survey, conducted in partnership with Boston Consulting Group, solicits opinions from top innovation executives. The ranking also considers earnings and sales growth and R&D as a percentage of sales.

Driving Economic Policy?

The NESTA index—financed by NESTA itself and also by Britain's Innovation, Universities & Skills Dept., which provided the mandate to start the project—will attempt to distinguish itself through a more complex methodology. Halkett believes it will be useful to both large and small businesses, universities, and skills providers, as well as government officials looking to formulate economic and tax policies. It can also be used internationally, as a basis of comparison with other countries.

For the most part, innovation policy still isn't closely linked with large-scale economic policy, because there hasn't been a clear connection between innovation and productivity (although the U.S is notable for efforts in this area (BusinessWeek, 1/17/08)). With the upcoming NESTA index, "We want [that connection] to drive economic policy decisions," Halkett says.

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