Fitting In or Starting New?

An entrepreneur will not always succeed in positioning his latest innovation the next “new thing.” New research suggests that the creation of a new category depends not only on the novelty of the technology but also on whether the existing labels in the market are well understood.

People use categories to make sense of organizations in the marketplace. Categories help people navigate a wide array of offerings to find the companies that offer the products and services that they need. If a person wants to buy an SUV, she will expect the automobile to be truck-like, and would not be pleased if she went to a dealer that advertised SUVs only to find that they sold sedan-style cars. Categories are associated with implicit “codes” that reflect people’s expectations of what type of organization or product to expect. If an organization markets itself in one category but then does not fit with customers’ expectations for that category, it will have a hard time selling its products. It also will have a harder time attracting other customers who might be interested in its products but who do not pay attention to “typical” products from that category. Customers looking for sedan cars will not go to dealerships that only sell SUVs. Therefore, managers have a strong incentive to appropriately categorize their company and to conform to the implicit codes associated with that category.

On the other hand, managers may also be eager to break away and introduce the next “new thing” in the market. One way to do this is to be the first-mover in a new category that describes a new class of goods. But it is not guaranteed that a new category will catch on and pique customer interest. If an organization has developed a revolutionary technology, it might seem that it would be easy to develop a new category based on that technology. Indeed, much research shows that technological inventions can “disrupt” the market and lead to new categories of products and services.

However, in a study titled “Fitting In or Starting New? An Analysis of Invention, Constraint, and the Emergence of New Categories in the Software Industry,” University of Chicago Booth School of Business professor Elizabeth G. Pontikes argues that the relationship between inventing new technologies in “knowledge space” and creating new categories in “market space” is not so straightforward.

“We might think that ‘novelty’ in the market implies that an organization has developed a groundbreaking technology,” Pontikes says. However, it also strongly depends on whether existing categories are more or less “constraining,” according to Pontikes. The more nebulous existing categories are, the harder it will be to introduce a new one. This could explain why a new label fails to catch on even if the invention behind it is something technically different. “New technologies do lead to new categories, but only when existing categories are well-defined,” says Pontikes.

The Role of Category Perceptions

Pontikes proposes that whether new categories emerge depends on both new knowledge and the levels of constraint within the existing classification structure. Her research looks at knowledge space and market space as two separate domains in which organizations can act, emphasizing that there is a more complicated relationship between the two. In particular, the extent to which existing categories provide or lack constraint will influence how a novel invention will be received. Her proposal brings to the forefront the idea that categories can vary in the level of constraint imposed by expectations of consumers.

A car may be easy to define, but some categories do not elicit such strong expectations. The category for “e-business applications” is an example of a category that has gained widespread acceptance even though the public does not have a clear definition of exactly what products or services they should expect from a company that identifies as an e-business applications provider. When there is no widespread consensus about what category members should or should not do, then that category is said to be “lenient” and its members are less constrained. Entrepreneurs may market novel technologies under the umbrella of a lenient category without being questioned or ignored. However, they may have a harder time creating a new category, since the public’s understanding of the first category is unclear to begin with.

For an entrepreneur in a constraining category, on the other hand, observers can more easily recognize the differences between existing categories and a newly proposed label, which can facilitate an organization’s construction of a new category around a novel technology. In addition, an organization that creates something truly novel could violate expectations in such a way that it would be ignored or devalued by its traditional customers. Thus, for companies that develop radically new technologies, constraining categories both push and pull them into defining a new category for their products.

An example of a category that emerged around new technologies is collaboration software, which was pioneered by companies that were originally in videoconferencing. Collaboration software introduced a much more technically advanced product where remote users could modify documents and spreadsheets, and mark up presentations. Companies that developed this software invented new technologies not only for video cameras and telephony, but also for advanced mathematical algorithms and graphical display, which were different from technologies for traditional videoconferencing. Nevertheless, it is possible that videoconferencing could have evolved into a very broad category to include collaboration software. “The technologies for collaboration software were very different, but there’s not a strong reason that customers couldn’t have considered these products to be videoconferencing but with additional features,” says Pontikes.

Just like the car, videoconferencing had a very clear meaning in the eyes of consumers—they readily associate it with talking on a telephone with a video camera, and nothing else. Consequently, it was easier for collaboration software to elicit a new set of expectations and eventually evolve into an entirely new category. In other words, it was easy for consumers to see that collaboration software was not videoconferencing. And in this case, developing a new category also made it easy for organizations in collaboration software to credibly command a much higher price for their goods. “It’s not enough that the technology was new, but also that the existing category was constraining,” Pontikes says. “Videoconferencing was very well-defined and collaboration software didn’t fit into that category.”

Testing the Hypothesis: A Look at the Software Industry

Pontikes turned to the software industry to investigate whether organizations are indeed likely to create a new category when their inventions are different, depending on whether they belong to constraining categories. The software industry provides a good test case because it contains a myriad of labels, some of which are meaningful and some difficult to define, and technical knowledge is obviously very important in the industry.

In order to test this hypothesis, Pontikes coded a program to track the categories with which software companies affiliate, using their statements in press releases. She ran this program with over 260,000 press releases issued by software companies from 1990 to 2002, and constructed a data set that matches software companies to categories during this time period. Because any company can issue a press release, these data capture small companies and categories that would otherwise be hard to track, resulting in over 4,000 companies and 400 categories. In addition, these data capture the first time a label is used by a company, allowing for the study of category emergence. From these data she identified new category creation, and measured “leniency” for existing categories.

In addition, Pontikes used patent and patent citation data to identify organizations that created very novel inventions.

Allowing for the two measures to interact, Pontikes found what she expected—novel inventions lead managers to create new categories but only when the company is already in a constraining category. The more lenient a category is, the weaker this relationship becomes. For organizations in very lenient categories, the relationship between technical novelty and new category creation disappears. Managers are more likely to create a new category of goods when their companies both have created novel technologies and belong to a constraining category.

These results indicate that the evolution of categories in the marketplace is not simply the result of enterprising organizations that introduce new technologies. Novelty also depends on the existing category structure, which acts as the lens through which people view organizations.

A Lesson for Entrepreneurs

Pontikes’ research has implications for entrepreneurs who are trying to figure out the best way to position their latest invention in the market.

Often, companies will try to differentiate themselves from the rest of the industry in terms of their technology while giving little attention to the categories around them. “What my research shows is that no matter how new your technology is, if the categories around you aren’t well-defined it’s going to be hard to position that product as something new,” says Pontikes. “You’re probably better off saying that you’re exactly like what the other guys are doing.” Otherwise, the product itself may seem like a failure if the new label is not accepted.

An example of an unsuccessful software category is partner relationship management, which positioned itself against a very big class of software called customer relationship management (CRM). The label ‘partner relationship management’ failed to become popular because people did not have a clear idea about what CRM really means to be able to tell the difference between the two categories.

The lesson to be learned is to always consider the environment in which a new product will be placed against other categories—as much as the technology—when thinking about how it will best fit in. Whether or not an entrepreneur’s product will be accepted as something truly novel partly depends on how different the technology is and partly on how people’s expectations have shaped the evolution of labels in the market.

“Fitting In or Starting New? An Analysis of Invention, Constraint, and the Emergence of New Categories in the Software Industry.” Elizabeth G. Pontikes.