Linking Customer Interaction and Innovation - The Mediating Role of New Organizational Practices

Organization Science
Vol. 22, No. 4, July–August 2011, pp. 980–999

issn 1047-7039 eissn 1526-5455 11 2204 0980 doi 10.1287/orsc.1100.0584
© 2011 INFORMS
Linking Customer Interaction and Innovation:

The Mediating Role of New Organizational Practices
Nicolai J. Foss
Center for Strategic Management and Globalization, Copenhagen Business School, 2000 Frederiksberg, Denmark; and
Department of Strategy and Management, Norwegian School of Economics and Business Administration,
N-5045 Bergen, Norway, [email protected]
Keld Laursen
DRUID, Department of Innovation and Organizational Economics, Copenhagen Business School,
2000 Frederiksberg, Denmark, [email protected]
Torben Pedersen
Center for Strategic Management and Globalization, Copenhagen Business School,
2000 Frederiksberg, Denmark, [email protected]
he notion that firms can improve their innovativeness by tapping users and customers for knowledge has become
T prominent in innovation studies. Similar arguments have been made in the marketing literature. We argue that neither
literatures take sufficient account of firm organization. Specifically, firms that attempt to leverage user and customer knowl-
edge in the context of innovation must design an internal organization appropriate to support it. This can be achieved in
particular through the use of new organizational practices, notably, intensive vertical and lateral communication, rewarding
employees for sharing and acquiring knowledge, and high levels of delegation of decision rights. In this paper, six hypothe-
ses were developed and tested on a data set of 169 Danish firms drawn from a 2001 survey of the 1,000 largest firms in
Denmark. A key result is that the link from customer knowledge to innovation is completely mediated by organizational
practices.
Key words: interaction with customers; innovation; new organizational practices
History: Published online in Articles in Advance November 4, 2010.
Introduction development and financial performance may depend on

In terms of innovation performance, do firms gain from their internal organization. However, this work typically
being orientated toward, perhaps even working directly studies only isolated practices or considers such prac-
with, their customers and other users of their products tices to be part of the market orientation construct (e.g.,
and services? And if so, what role do firms’ organi- Slater and Narver 1994). Thus, it provides an incomplete
zational practices play in this process? A substantial account of how customer and user knowledge might
body of research, built since the 1980s, would seem be leveraged in the context of innovation. For example,
to confirm the first assumption but has not system- although interfunctional coordination (Slater and Narver
atically addressed the role of organizational practices. 1994) may increase the value and use of customer and
Thus, the user innovation literature (Lilien et al. 2002, user knowledge within the firm, it does not help to
Neale and Corkindale 1998, Rosenberg 1982, Urban and explain how the firm initially sources this knowledge;
von Hippel 1988) and substantial parts of the open inno- other organizational practices may be needed. In the fol-
vation literature (Chesbrough 2003, Laursen and Salter lowing we address, theoretically and empirically, how
2006, Lichtenthaler 2008)1 argue that established firms firms’ organizational practices influence their sourcing
can improve their innovation performance by working and use of external knowledge. There is some evidence
closely with users and customers in the innovation pro- to suggest that companies increasingly are changing
cess. However, this literature says little about the role their internal organization toward greater delegation of
of firms’ internal organization in this process. The mar- authority and better communication within the firm (par-
keting literature suggests that innovation may play a key ticularly along the lateral dimension) and performance
role in the understanding of the link between market ori- incentives (e.g., Zenger and Hesterly 1997). One of the
entation (i.e., being oriented toward customers as well effects of these organizational changes may be that firms
as competitors) and firm-level performance (Han et al. are becoming better at accessing, exploiting, and lever-
1998, Hurley and Hult 1998, Lukas and Ferrell 2000, aging customer knowledge in the context of innova-
Slater and Narver 1994), and it suggests even that firms’ tion. Specifically, our line of argument is that under
success in linking market orientation to new product many circumstances customers will either have initiated
980
Foss, Laursen, and Pedersen: Linking Customer Interaction and Innovation
Organization Science 22(4), pp. 980–999, © 2011 INFORMS 981
an innovation that eventually is commercialized by an interaction with customers over delegation, to knowl-
established firm (von Hippel 2005) or possess knowledge incentives and internal communication, and finally
edge critical to an established firm for the introduction to higher innovation performance.
of a product innovation (Urban and von Hippel 1988). If
the established firm has appropriate organizational prac-
tices for assimilating external innovations or knowledge, Customers, Innovation, and
then successful commercialization will be more likely. New Organizational Practices
We would suggest, first, that greater delegation of
decision rights increases the probability that external Context: The Role of Users and Customers in
knowledge will be brought inside the boundaries of the Product Innovation
firm; second, that intensive vertical and lateral com- The ability of firms to innovate is a central compo-
munication enables the dissemination of this knowl- nent in the processes of gaining and sustaining com-
edge inside the firm; and third, that it is possible to petitive advantage (Dierickx and Cool 1989, McEvily
incentivize employees such that knowledge will more and Chakravarthy 2002, Nelson and Winter 1982, Teece
likely be leveraged in the context of innovation. These et al. 1997, Zott 2003). Empirical studies demonstrate
“umbrella” organizational practices are often imple- that innovative firms show higher profits, higher mar-
mented via more specific organizational practices (e.g., ket value, better credit ratings, higher market share, and
extensive delegation of decision rights may involve higher probabilities of survival in the market (Banbury
broader job descriptions, projects, total quality manage- and Mitchell 1995, Blundell et al. 1999, Cefis and
ment initiatives, etc.). A key point is that the relevant Marsili 2005, Czarnitzki and Kraft 2004, Geroski et al.
practices are complementary with respect to leveraging 1993, Hall 2000). To capture the benefits of being
customer knowledge in the context of innovation. Based innovative, firms increasingly attempt to improve their
on our theoretical discussion, we can derive a set of innovation capacity by tapping into sources of exter-
related hypotheses. The empirical analysis draws on sur- nal knowledge (Chesbrough 2003, Fey and Birkinshaw
vey results from 169 Danish private firms; the survey 2005, Laursen and Salter 2006, Lichtenthaler 2008).
was conducted in 2001 and included the 1,000 largest It has long been recognized that interaction with cus-
Danish manufacturing and service firms. Our overall tomers (and users who may not be customers) can be a
finding is that there is no direct relation between cus- crucial antecedent to innovation (Freeman 1968, Linder
tomer involvement and innovation but that organizational 1961, Rosenberg 1982, von Hippel 1976). von Hippel
practices provide a strong mediating effect. (1976) documents the importance of the phenomenon
The main contribution of this paper is to introduce the and shows that more than 80% of innovations in the sci-
organizational dimension into the user innovation liter- entific instruments industry were invented, prototyped,
ature. This implies identifying important organizational and first field tested by instrument users rather than by
aspects of absorptive capacity in the context of user the instrument manufacturer. Subsequently, an impor-
innovation. On a related note, we extend the argument tant literature has emerged that analyzes the key benefits
in the innovation literature (e.g., Laursen and Foss 2003, from and obstacles to user involvement in the innova-
Love and Roper 2009) on the impact on innovation of tion process (for an overview, see Henkel and von Hippel
complementary organizational practices beyond its focus 2005). Laursen and Salter (2006) show that the two most
on exploiting and combining internally held knowledge important external sources of innovation among UK firms
to include knowledge held by external parties. The liter- are “suppliers” and “clients or customers”: 66% of the
ature on organizational complementarities suggests two sample of UK manufacturing firms indicated clients or
approaches: the interaction approach and the systems customers as a source of knowledge or information for
approach (see Ennen and Richter 2010). In a regression innovation, and 16% indicated that they rated this source
analysis setting, the interaction approach (e.g., Capelli very highly. Also, both innovation and marketing schol-
and Neumark 2001) examines the effect of a few organi- ars point to the potentially important role of customers
zational practices, typically two by two. In contrast, the and users in the innovation process. For example, Slater
systems approach (e.g., Ichniowski et al. 1997, Laursen and Narver (1994) find a significant and positive main
and Foss 2003) looks at the relative performance out- effect of “market orientation” (a construct that includes
comes of entire sets of variables, also in a regression “customer orientation”; Narver and Slater 1990) on “new
analysis. Our approach is akin to the systems approach. product success,” and marketing research is in general
However, the systems approach involves the lumping broadly supportive of the link between market orientation
together of a set of distinct organizational practices with- and various innovation measures (Han et al. 1998, Hurley
out specifying any causal relationships between them. and Hult 1998, Lukas and Ferrell 2000). Han et al. (1998)
We suggest the use of structural equation modeling (LIS- empirically find support for the mediating role of innova-
REL) to help overcome this problem because it allows tion in the link between market orientation and corporate
for a deeper causal structure running from broadband financial performance.
982 Organization Science 22(4), pp. 980–999, © 2011 INFORMS
In the present research, we focus on those firms that warrants more in-depth examination of various organiza-
introduce innovations to end markets. A substantial part tional practices.
of the user innovation literature is preoccupied with Unfortunately, the literatures referred to above are not
understanding the circumstances in which users may be completely forthcoming with respect to the types of
the initiators of what later become end-market innova- organizational practices that firms need to adopt when
tions (von Hippel 1976, 1988, 2005). Indeed, von Hippel interacting with entities external to the firm, such as cus-
(2005) describes how user inventions are often invented, tomers, in the context of innovation. A partial exception
prototyped, and field tested by users, but then stream- is the market orientation literature, which sometimes
lined and introduced to the end market by established includes organizational practices as an independent vari-
firms. Another part of the literature, with which the able. For example, Slater and Narver (1994) build a mar-
present paper is closely aligned, adopts a more strate- ket orientation construct that includes “interfunctional
gic management perspective in terms of concern with coordination,” and they use it to explain new prod-
how established firms can leverage interaction with users uct development. However, this organizational practice
is combined with other items to form a market orien-
to increase innovation performance (e.g., Lilien et al.
tation construct; thus, there is no causality postulated
2002, Neale and Corkindale 1998, Urban and von Hippel
between organizational practices and market orientation.
1988). In this context, von Hippel and colleagues focus
Hurley and Hult (1998) suggest that “participative deci-
on lead users, that is, users who perceive needs at an sion making” may play a role in the link between mar-
earlier stage in time than other users and also are posi- ket orientation and innovation performance but do not
tioned to benefit considerably by achieving a solution. consider other organizational practices. Narver et al.
Interaction between firms and these knowledgeable— (2004) include a measure of “bureaucratic organizational
sometimes even “tough”—customers (cf. Gardiner and form” in their study but do not examine how this vari-
Rothwell 1985), in which the customer provides impor- able interacts with the customer orientation variable in
tant knowledge and information to the producer or explaining new product success. Grinstein (2008) con-
directly participates in innovative activity, improves the ducts a meta-analysis of research on market orientation
resulting products or processes (Lilien et al. 2002, based on papers published over the period 1994–2006
Rosenberg 1982). This part of the user innovation liter- and concludes that customer orientation and interfunc-
ature takes this interaction as the unit of analysis and tional coordination have independent explanatory power
examines, for example, how cooperation improves both in explaining innovation consequences, but Grinstein
the capacity of the customer firm to transmit the knowl- does not consider how and why these two variables
edge that may be useful in the innovation process and could be related in determining innovation outcomes. To
the capacity of the established firm to absorb it. The be sure, although very valuable, these studies provide
open innovation literature (Chesbrough 2003, Fey and incomplete stories about how customer and user knowl-
Birkinshaw 2005, Gassmann 2006, Laursen and Salter edge is leveraged in the context of innovation. In sum,
2006, Lichtenthaler 2008) explores how firms more gen- although it has for long been known that producer firms
erally can make use of external knowledge to improve need a certain degree of absorptive capacity to benefit
their innovation performance. from externally developed knowledge—including users’
In short, these literatures claim a direct link from inter- knowledge—the internal organizational dimensions of
action with customers and users to innovation perfor- such absorptive capacity are unclear.
mance. And such a link may indeed exist. For example,
Inward- and Outward-Looking Absorptive Capacity
if research and development (R&D) personnel directly
In a seminal contribution, Cohen and Levinthal (1990,
responsible for the development and prototyping of new
p. 128) identified absorptive capacity as a determinant
products and services are able to interact directly with
of innovation performance, defining it as the “abil-
key users, then there is a direct link. In that case, the orga- ity to identify, assimilate, and exploit knowledge from
nizational problem is limited to whether the R&D per- the environment.” Most of the subsequent research
sonnel have an accurate understanding of customer/user on absorptive capacity focuses on knowledge-related
needs and are motivated to react in a way that furthers antecedents to absorptive capacity (e.g., R&D invest-
their organization’s goals. However, it may be that the ments), and very little examines how absorptive capac-
contact with customers or users is with, for example, their ity relates to organizational practices (but see Jansen
key account managers. In this case, the organizational et al. 2005, Volberda et al. 2010). Although Cohen
problem encompasses communication of the relevant and Levinthal (1990, p. 131) indicate that internal or-
knowledge to the appropriate employees and motivating ganization may matter for the identification, assimila-
the required behaviors. In this case, it is likely that differ- tion, and exploitation of external knowledge, they do
ent kinds of organizational structure and administrative not analyze in any great detail how and why organiza-
mechanisms may mediate the link between user and cus- tion matters. However, they introduce a useful distinc-
tomer knowledge to innovation rather differently. This tion between “inward-looking” and “outward-looking”
absorptive capacity. The former relates to the efficiency within the firm and rewarding employees for behaviors
of the firm’s internal communication, whereas the lat- that lead to knowledge being deployed in the context of
ter refers to its points of contact with external sources innovation.
of knowledge (Cohen and Levinthal 1990, p. 133). This
distinction provides a starting point for relating orga- User Innovation and New Organizational Practices
nizational practices to the successful use of external We argue that “new organizational practices” may serve
knowledge for the purposes of innovation. Specifi- exactly these purposes. It has been shown that new
cally, organizational practices have inward-looking or organizational practices have the potential to promote
outward-looking dimensions in the sense that some prac- improvements in innovative performance (e.g., Laursen
tices enhance the efficiency of internal communica- and Foss 2003), productivity (e.g., Datta et al. 2005,
tion whereas others help to establish points of contact Ichniowski et al. 1997), and profitability (e.g., Huselid
with external sources of knowledge. These dimensions 1995, Mendelson 2000). The studies cited all argue that
are likely to be complementary, because introducing these potential benefits can only be fully realized if firms
outward-looking organizational practices makes it more introduce a set of mutually reinforcing (i.e., complemen-
profitable (within limits) to introduce inward-looking tary) organizational practices.
organizational practices, and vice versa. In other words, The literature on these practices and their form
if a firm has in place a set of outward-looking organ- is extensive and identifies many specific new orga-
izational practices that allows it to detect and to inter- nizational routines, such as communities of practice,
act with holders of pertinent knowledge such as custo- corporate venturing, project organization, total quality
mers, then the value of inward-looking organizational management, etc. New organizational forms represent
practices will be enhanced because they can be used also new ways of linking decision delegation, communica-
to diffuse the external knowledge within the organization channels, reward systems, and arrangements geared
tion. Likewise, the value of outward-looking organi- toward achieving high levels of organizational per-
zational practices will increase if inward-looking orga- formance (Child and McGrath 2001, Colombo and
nizational practices are in place. Delmastro 2002, Zenger and Hesterly 1997). Table 1
maps the key contributions to the new organizational
Organizational Practices practices and market orientation literatures; it highlights
Internal organization traditionally is described in terms their main constructs and shows how they map into
of (combinations of) variables that relate to structure delegation, internal communication, and incentive sys-
(e.g., specialization, departmentalization, liaison groups, tems and a residual category (“other organizational vari-
hierarchical layers, etc.), communication channels, and ables”). Table 1 provides support for the conclusion in
reward systems (e.g., Burton and Obel 1998, Mendelson Guthrie (2001, p. 181) that “[t]he common theme in this
2000, Roberts 2007, Tushman and Nadler 1978). Many literature is an emphasis on utilizing a system of man-
of these variables are relevant to our understanding of agement practices giving employees skills, information,
how the knowledge residing in customers is linked to motivation, and latitude and resulting in a workforce that
the innovation performance of those firms that interact is a source of competitive advantage.” In this research,
with these customers. Specifically, organizational prac- we focus only on work practices that enhance inter-
tices may hinder or facilitate interaction with customers. nal information flows and give motivation (incentives)
This is partly a structural issue; for example, in the and latitude (delegation), and ignore practices designed
case of traditional hierarchical structures that imply lit- to improve employees’ skills (especially training and
tle delegation of decision rights to employees, it may recruitment and retention practices, which appear in the
be difficult to build close relations with customers and residual category in Table 1). We make this choice to
therefore will make it difficult for the firm to identify concentrate on a narrower set of practices, making the
and get access to the knowledge held by these customers. analysis more manageable. Moreover, the focus on del-
Similarly, organizations may find it difficult to dissemi- egation, internal communication, and incentives allows
nate this knowledge across organizational structures con- for a focus on the factors that directly affect the behav-
sisting of (rigid) departments and specializations (Cohen ior of given employees. Improving the skills of the pool
and Levinthal 1990). Finally, the reward systems in these of employees is much more long term in nature and is
hierarchical structures are unlikely to ensure that the rel- not so directly related to social behavior within the orga-
evant knowledge moves to where it is needed, because nization. Table 1 also shows that the literature consid-
they are designed for different purposes. Conversely, an ers different types of incentives; in this paper, because
internal organization that includes delegation of decision of our focus on innovation, we concentrate on “knowl-
making, communication channels, and reward systems edge incentives” (i.e., incentives for acquiring and shar-
may be designed to facilitate interaction with customers ing knowledge).
and access to the knowledge held by customers and We build on the insights of this literature and posit
to create the conditions for transferring this knowledge that new organizational practices have additional effects
984
Table 1 Comparison of Variables Used in the Literatures on New Organizational Practices and Market Orientation
Reference Unit of analysis Dependent variable Delegation Internal communication Incentives Other org. variables
Slater and Narver (1994) 107 strategic business Return on assets, sales Interfunctional Customer orientation
units within 2 firms growth, and new coordination (6 items)
(manufacturing and product success (5 items) Competitor orientation
forest products) (4 items)
Huselid (1995) 968 publicly listed Labor productivity, Labor-management Formal information Incentive plans/profit Hours of training,
firms (manufacturing Tobin’s q teams, quality circles sharing program, sharing, formal attitude survey,
and private services) complaint resolution appraisals, formal job analysis,
system merit-based internal promotion,
promotion employment test
prior to recruitment
Ichniowski et al. (1997) 36 steel finishing lines Percent uptime Teamwork (3 items) Communication Line incentives Skills training (2 items),
within 17 firms (2 items), job rotation employment security,
high screening
recruitment
Han et al. (1998) 134 firms (banks) Firm growth, process Interfunctional Customer orientation
innovation (technical coordination (6 items)
and administrative) (5 items) Competitor orientation
(4 items)
Ichniowski and Shaw (1999) 41 steel finishing lines Percent uptime, Teamwork (3 items) Labor-management Incentive pay (2 items) Recruiting (2 items),
within 19 firms percent prime yield communication employment security,
(2 items), job training (2 items)
flexibility (2 items)
Mendelson and Pillai (1999) 102 business units Return on sales, return Decentralization Information practices Incentives (3 items) Focus (3 items),
from 81 different on value added, (3 items) (8 items) interorganizational
firms (electronics sales growth network (5 items)
hardware)
Mendelson (2000) 60 business units Return on sales, return Decision architecture Knowledge Decision architecture Activity focus
(electronics on value added, (6 items, including transparency (6 items, including (6 items), (external)
hardware) sales growth 3 delegation items) (6 items) 3 items measuring information
incentives) awareness (8 items),
information age
network (6 items)
Lukas and Ferrell (2000) 194 strategic Product innovation Interfunctional Customer orientation
business units coordination (6 items)
(manufacturing) (5 items) Competitor orientation
(4 items)
Guthrie (2001) 164 firms Employee retention Teams, employee Information sharing Skill-based pay, Internal promotion,
(manufacturing and rate, labor participatory group-based pay, training efforts
private services) productivity programs performance-based (3 types)
promotion, employee
stock ownership
Organization Science 22(4), pp. 980–999, © 2011 INFORMS
Table 1 (cont’d.)
References Unit of analysis Dependent variable Delegation Internal communication Incentives Other org. variables
Capelli and Neumark (2001) Plants in Labor productivity, Self-managed teams, Scheduled meetings, Pay for skills and Use of computers, use
manufacturing and labor costs, sales TQM job rotation knowledge, profit of benchmarking
private services less labor costs sharing vis-à-vis other
(panel, no. of obs. organizations, firm
Organization Science 22(4), pp. 980–999, © 2011 INFORMS
433/666) pays for training

Colombo and Delmastro (2002) 438 manufacturing Change in the number Teamwork, number of Job rotation Individual line Type of strategic
plants (panel data) of managerial layers hierarchical layers incentives decision maker
Laursen and Foss (2003) 1900 firms Product innovation Delegation of Integration of Pay for performance Firm-internal and
(manufacturing and responsibility, functions, job firm-external training
private services) interdisciplinary work rotation, systems for
groups, quality collection of
circles employee proposals

Hamilton et al. (2003) Workers within a single Productivity Team vs. no-team Team vs. individual
firm (panel data) production piece rates
Datta et al. (2005) 132 manufacturing Labor productivity Self-directed teams Programs designed to Compensation based Tests administered
firms elicit participation on group prior to hiring,
and employee input, performance, pay is internal promotions,
complaint resolution based on a skill or intensive/extensive
system, provide knowledge-based recruiting,
information to system, formal intensive/extensive
management performance training
(performance and feedback
strategic plans)
Note. TQM, total quality management.

985
relative to those identified in the literature: delegating Interaction with Customers and
decision rights, supporting vertical and lateral commu- Innovation Performance
nication, and incentivizing knowledge acquisition and Although our focus in this paper is on understanding
sharing can help firms to better identify, assimilate, how established firms can choose organizational prac-
and exploit knowledge from the external environment tices that allow them more efficiently to tap and exploit
to become more innovative. Firms seem aware that the knowledge that resides with their customers, the part
their organizational practices influence their sourcing of the sources of innovation literature that focuses on
of external knowledge. For example, Dougherty (2001, users as the loci of innovation is also relevant because it
p. 625) cites a marketing manager at Texco reflect- helps to explain why users, including customers, often
ing on organizational changes designed to accomplish play a central role in the preliminary stages of the inno-
this aim: vation process. According to this stream of research,
there are two main reasons why users/customers con-
I came to this business seven years ago. It had a tradi- tribute to the innovation process. First, in many cases
tional organization with director of development [tech- they will be the main beneficiaries of the innovation (von
nology] and a bunch of engineers, and a marketing
Hippel 1988). For example, an airline may gain compet-
manager and salesmen. The salesmen would go and find
itive advantage from being the first adopter of a newly
customers and get a quote on a product, and bring it back
and drop it in a box, and the engineers would pick them developed fuel-efficient airplane. Thus, the airline has an
up and do them. The salesman would go back to the cus- incentive to codevelop the plane with the airplane pro-
tomer and show it to them and say “is this OK?” We ducer (cf. Rosenberg 1982).2 Second, customers often
were doing hundreds of these costings, and very few of posses “sticky” knowledge (i.e., knowledge that is costly
them would get to the sample stage, and of those, very to transfer) (von Hippel 1998).
few succeeded. Our hit rate was very low 0 0 0 0 Every- Stickiness may be due to various knowledge attributes,
thing the engineers worked on was screened through such as the way it is encoded (tacit or codified), or it
the sales people, and they never heard the voice of the may be caused by the attributes of the agents seeking or
customer 0 0 0 0 Now the new ventures team develops new providing the knowledge (e.g., their cognitive capacity
markets and innovations, and pulls in people from across and motivation). Thus, the airline may possess knowl-
the organization 0 0 0 0 [Consider] the weaving, dyeing, and edge about the performance and operating characteristics
finishing plants. We help them understand the needs and of a plane that may be an essential input for the mod-
the wants, do the QFDs [quality function deployments], ification to the airplane. However, this knowledge may
have the manufacturing people help with the QFDs, and be dispersed among a number of the airline’s employ-
the development engineers take the process engineers to
ees (who may have no incentive to share it) and will
several customers.
probably have a considerable “tacit” component (which
In this example, decision rights to “pull in people from impedes its articulation). Mobilizing this knowledge so
across the organization” were delegated to a new ven- that it can serve as an input to the innovative process
tures team, and development engineers were able to requires direct collaboration between the airline and the
make the decision to “take the process engineers to sev- producer (Rosenberg 1982, p. 124). From the point of
eral customers.” This reallocation of decision rights was view of the producer firm, the stickiness of knowledge
explicitly to improve the sourcing and use of knowledge implies that it will be advantageous to collaborate with
held by customers. Nevertheless, to access customer its customers (and users more broadly), because this will
knowledge, such changes need to be complemented with allow access to knowledge that the firm would be unable
other organizational practices if the knowledge is to to produce in-house—knowledge that may prove criti-
exploited successfully for innovation. Specifically, we cal to innovation success (Gardiner and Rothwell 1985,
argue that firms need to increase internal communica- Neale and Corkindale 1998, Pavitt 1984, Rothwell et al.
tion and to motivate knowledge acquisition and sharing 1974) and for the firm’s subsequent competitive advan-
and dissemination of the relevant knowledge inside the tage (Desouza et al. 2008, Lilien et al. 2002). How-
organization, enabling the combination and recombina- ever, getting access to this knowledge requires honing
tion of knowledge. the capabilities for cooperating (e.g., Dyer and Nobeoka
2000, Dyer and Singh 1998). We build on the strategic
management-oriented arguments in the user innovation
Theoretical Model and Hypothesis literature as well as arguments in the marketing literature
In the following, we develop a set of hypotheses con- (e.g., Slater and Narver 1994) and accept that customers
cerning the mediating role of new organizational prac- are an important source of the knowledge that forms the
tices with respect to linking the knowledge held by firm basis of innovation. This overall insight motivates the
customers to the firm’s innovation performance. The the- following hypothesis.
oretical model presented in Figure 1 summarizes our key Hypothesis 1 (H1). The more the focal firm engages
constructs and the hypotheses we develop concerning in interaction with customers, the better will be its inno-
their relations. vation performance.
Figure 1 Theoretical Model
Knowledge
incentives
H3 H6
+ +
H2
Interaction with + Delegation of Innovation
customers responsibility performance
H5
+
H4
H1 +
+ Internal
communication
The literature underlying Hypothesis 1 asserts that pressing because slow decision making will be pun-
there is a direct link from customers and users to inno- ished in such environments (Mendelson and Pillai 1999,
vation performance, for example, because users directly Zenger and Hesterly 1997).
cooperate with R&D personnel. However, it is also pos- A further reason why firms engage in extensive del-
sible that customer knowledge enters the firm in other egation of decision rights is related to the interactions
ways than via the R&D function. This raises the issue with customers for the purposes of gaining access to valu-
of which organizational practices should be introduced able customer knowledge. Some employees, by virtue of
to increase the probability that use will be made of this their job descriptions, have automatic rights to interact
knowledge in the context of innovation. with outside parties, for example, managers responsi-
ble for customer relations. Some firms have “gatekeep-
New Organizational Practices: The Link Between ers” (Allen 1977, Allen and Cohen 1969, Tushman and
User Interaction and Innovation Performance Katz 1980) that connect research teams with external
It is generally recognized that “[i]nformation and sources of knowledge while also filtering out noise.
knowledge are at the heart of organizational design” Delegation of responsibility is important for absorb-
(Holmström and Roberts 1998, p. 90), and that firms ing knowledge and information from customers: in
can design their organizations to promote the shar- information-rich environments, gatekeepers—and other
ing and recombination of knowledge resources (Foss staff working directly with customers—need to be able to
2003, Laursen and Foss 2003, Mendelson and Pillai make decisions with respect to the direction of an inno-
1999, Nickerson and Zenger 2004, Osterloh and Frey vation project because they are the people best able to
2000). As pointed out earlier, we extend this perspec- judge, absorb, and pass on the inputs from customers.
tive to the context of exploiting customers’ knowl- In other words, one reason for delegating decision rights
edge in the innovation process and discuss how various to employees working with customers/users is that these
new organizational practices can assist firms to lever- employees will often have specific knowledge concern-
age the knowledge held by customers in the context of ing customers and their ideas that is superior relative to
innovation. that of the firm’s management team. As such, delegation
is an outward-looking organizational practice. Firms also
Delegation as an Outward-Looking Organizational may actively encourage employees other than gatekeep-
Practice. The literature provides a number of cogni- ers and technical staff to seek information about mar-
tive and motivation reasons why firms delegate decision ket and technological trends, notably by interacting with
rights to employees. Thus, according to classical orga- customers, and to disseminate this knowledge internally
nization theory, delegation economizes on managers’ (Matusik 2002).
scarce mental resources and reduces the costs of trans- With respect to motivation, delegation is often argued
mitting, receiving, and processing information (Galbraith to increase the motivation for many (if not necessarily
1974). On a related note, delegation may colocate all) employees (e.g., Deci 1975, Gagné and Deci 2005,
decision-making rights with those who possess the Porter and Lawler 1968). Delegation thus has the dual
knowledge about what decision should (optimally) be effect that it empowers employees to make active efforts
made (Jensen and Meckling 1992); communicating this to identify and assimilate external knowledge and pro-
knowledge to hierarchical superiors may be costly and vides an incentive to actually engage in this activity. In
too slow. It has been argued that a fast-moving exter- sum, extensive delegation of decision rights is an orga-
nal environment makes extensive delegation increasingly nizational practice that firms can implement to improve
the identification of external knowledge that is poten- Hypothesis 4 (H4). The more the focal firm dele-
tially useful in the context of innovation. This reasoning gates responsibility, the more communication will take
motivates the following hypothesis. place inside it.
Hypothesis 2 (H2). The more the focal firm inter- Kogut and Zander (1992) argue that innovations are
acts with its customers, the more it will delegate the product of a firm’s “combinative capabilities” to gen-
responsibility. erate new applications from existing knowledge where
Communication and Knowledge Sharing as Inward- the working of such capabilities is mediated by the
Looking Organizational Practices. Interaction with presence of shared knowledge (see also Dougherty
customers in the context of innovation involves the trans- 2001). In this view, firms can gain competitive advan-
fer or exchange of often large amounts of customer tage through the ability to create and share knowledge
knowledge and information. It is often crucial that the more efficiently than competitors. A recent literature
knowledge or information transferred into the firm is dis- builds on network theory and the concept of social
tributed to other parts of the firm (Haefliger et al. 2008). capital to examine how intraorganizational channels of
Apart from the obvious case of best-practice transfer, communication positively mediate the relation between
in complex technical products it is important to trans- knowledge and outcomes such as product innovation
fer knowledge about modifications that relate to several (Hansen 1999, Tsai 2001, Tsai and Ghoshal 1998).
different components in the product (Baldwin and Clark Another research stream looks specifically at product
2000). The need for intensive internal sharing and com- innovation and examines the impediments to knowl-
munication of knowledge from customers would seem edge transfer among subunits within the firm (Henderson
to be particularly important when it is related to prod- and Cockburn 1994, Leonard-Barton and Sinha 1993,
uct architecture.3 Knowledge that is transferred between Szulanski 1996). It is argued that close and frequent
customer and firm and which concerns a complex prod- interactions between R&D and other functions, teams,
uct and/or has architectural elements is likely to require and subunits lead to superior innovation performance
intensive interaction between the two parties, but may because they lead to better integration and coordina-
require substantial interaction within the firm as well. tion of different bodies of knowledge (cf. Aoki 1986).
The latter aspect will require internal communication not Accordingly, we hypothesize the following.
only of the knowledge that relates to individual compo-
nents, but also about how components are related in an Hypothesis 5 (H5). The more the focal firm engages
architecture (Baldwin and Clark 2000). in internal communication, the higher will be its inno-
Save for the rare cases where the people who iden- vation performance.
tify potentially valuable external knowledge are those Paying Employees to Acquire and Share Knowledge.
responsible for applying it in an innovation, this knowl-
Knowledge acquisition and knowledge sharing behav-
edge will have to be communicated to all of the firm’s
iors are playing an increasing part in firms’ performance
units, departments, and staff involved in the innovation
measurement and reward systems (Laudon and Laudon
process. There are some well-known barriers to inter-
2002). They may be (but often are not) part of a formal
nal knowledge transfer (e.g., Cohen and Levinthal 1990,
knowledge management program and are introduced on
Lynex and Layzell 1998) that can be reduced through
the grounds that if employees are rewarded for upgrad-
the adoption of certain organizational practices. Specif-
ing and sharing knowledge, they will do so, and may
ically, firms that adopt outward-looking organizational
practices (i.e., delegation of responsibility), for exam- also actively try to seek out shareable knowledge (e.g.,
ple, to get access to the knowledge held by customers from customers).4 Rewarding knowledge acquisition and
should also adopt inward-looking organizational prac- sharing behavior compensates for the effort required
tices. Two highly relevant inward-looking new orga- to seek and share knowledge and also perhaps surren-
nizational practices are (1) provision of knowledge der potentially valuable bargaining chips (Brynjolfsson
incentives, i.e., rewarding employees for knowledge 1994). To the extent that such rewards have the intended
acquisition and sharing; and (2) internal communication effect, they may be seen to be outward- as well as
in the vertical and horizontal dimensions, including inward-looking organizational practices, because they
knowledge sharing. Thus, given that the adoption of not only motivate employees to share knowledge they
outward-looking organizational practices (delegation of already hold, but they also encourage the identifica-
responsibility) positively affects the adoption of inward- tion and assimilation of new knowledge (that can be
looking organizational practices, we propose the follow- shared later). Accordingly, we propose the following
ing two hypotheses. hypothesis.
Hypothesis 3 (H3). The more the focal firm dele- Hypothesis 6 (H6). The more the focal firm uses
gates responsibility, the more it will use knowledge knowledge incentives, the higher will be its innovation
incentives. performance.
Methods noted, however, that although the population and the

sample largely correspond on these objective variables,
Sampling and Data
we cannot rule out there being differences with respect
Our sampling frame is a group of Danish firms. The
to some of the questionnaire-based variables of interest
data were collected in a survey, conducted in 2001, of
in this study.
the 1,000 largest firms in Denmark. Although smaller
firms also engage in interactions with customers, in the
Measures and Operationalization
context of this paper, a focus on the largest firms is sen-
We use perceptual measures to operationalize the vari-
sible because the largest firms in Denmark are arguably
ables in this research. Below, we describe how constructs
disproportionately more engaged in innovation activities
were operationalized and evaluate the different forms of
and more likely to have adopted organizational practices
validity.
of knowledge sharing, delegation, and incentive pay to
facilitate innovation. Interaction with Customers. This construct mirrors
The research team developed the questionnaire during the extent to which the focal firm involves customers in
January to June 2001. To the extent possible, the ques- its innovation activities. It includes three items measured
tions were based on previous studies of organizational on a seven-point Likert-type scale from 1 (not at all) to 7
and human resource management practices, notably the (to a very large extent). For the first two items, we asked
scales developed by Lawler et al. (1998, pp. 200–223). managers to what extent they were (1) involving cus-
In June 2001, a private consultancy firm (PLS Rambøll) tomers in close collaboration on development projects
pretested the questionnaire; as a result, some ques- and (2) communicating intensively with customers. For
tions were revised to improve their clarity. In August the third item, we asked to what extent the overall strat-
2001, PLS Rambøll administered the questionnaire to egy of the firm emphasizes close collaboration and dia-
the 1,000 target firms. After two reminders, a total of logue with customers. Together, the responses indicate
207 firms had responded to the survey, a response rate the degree of involvement of customers in innovation
of 21%. However, because of missing answers, only 169 activities.
responses were usable for statistical analysis. The ques-
Delegation. Delegation reflects the extent to which
tionnaires were responded to by chief executive offi-
responsibilities and decision rights are delegated to
cers in most cases; in some, the respondent was the
employees. The construct is based on two items. On the
human resources manager or another top manager. The
first item we asked to what extent employees can influ-
169 firms included in the data set have an average of
ence their own job (measured on a seven-point Likert-
1,811 employees, with wide variation between some
type scale, with 1 being “not at all” and 7 being “to
very large firms at one end of the spectrum and a number
a very large extent”). The second item is a measure
of smaller firms with approximately 350 employees at
of the number of employees that are engaged in teams
the other end. On average, 28% of their sales are made
with a high degree of autonomy (1, 0%; 2, 1%–25%; 3,
abroad, which indicates that they are highly internation-
26%–50%; 4, 51%–75%; 5, 76%–99%; 6, 100%). The
ally oriented.
first item captures delegation of responsibility toward the
Nonresponse biases were evaluated by comparing the
individual, whereas the second item refers to delegation
industries represented in the sample with the popula-
at team/group level. Together, these two items form a
tion sample used. Applying a chi-square test, we can-
construct for the level of delegation in the firm.
not reject the hypotheses that the distribution of firms
across industries is equal between our sample and the Knowledge Incentives. This construct measures to
overall population at any reasonable level of signifi- what extent employees’ salaries are associated with
cance (at both the one- and two-digit Danish industry acquiring knowledge and knowledge sharing. Managers
code levels). In addition, we applied t-tests compar- were asked to indicate on a seven-point Likert-type scale
ing our sample and population means with respect to (1, not at all; 7, to a very large extent) the extent to
variables such as total sales (a measure of firm size), which (1) an employee’s salary is linked to the ability
profits, and year of firm foundation. For total sales, we and willingness to share knowledge and (2) the salary is
find that the two groups are virtually identical, whereas linked to the willingness to improve skills and upgrade
in terms of profits, respondents are slightly less prof- knowledge. The latter investigates searching for rather
itable than nonrespondents (difference significant only at than sharing knowledge (improving skills and upgrading
the 10% level). Similarly, on average, there is a weak knowledge is related more to receiving than transferring
tendency (difference significant only at the 10% level) knowledge). Moreover, we expect that in an organiza-
for responding firms to have been longer established tional setting, sharing of and searching for knowledge
than nonrespondents (1956 versus 1964). However, over- would be related in the sense that a successful knowl-
all, there seems to be broad correspondence between edge search is, to an extent, a positive function of the
the underlying population and our sample. It should be extent to which one shares knowledge with colleagues.
Internal Communication. This construct reflects com- Measurement Model. We create a measurement model
munication within the firm, across the lateral as well to assess convergent and discriminant validity. Table 2
as hierarchical dimensions. It is measured by two items reports the means, standard deviations, and correlations
that asked respondents to indicate the extent to which among all variables. The correlations provide initial evi-
(1) employees exchange information between different dence of high levels of convergent (i.e., high correla-
functional departments and (2) there is communication tions among items belonging to the same construct) and
between management and employees. Both items were discriminant validity (i.e., lower correlations with items
measured on a seven-point scale, ranging from 1 for “not belonging to other constructs). In fact, the coefficients
at all” to 7 for “to a very large extent.” among the items that belong to the same construct vary
between 0.38 and 0.64 (highlighted in bold), whereas
Innovation Performance. This construct is based on none of the other coefficients exceeds 0.34.
two items. Managers were asked to indicate the perfor-
mance of the focal firm compared with competitors on Convergent Validity. To ascertain whether the con-
the following two dimensions: (1) innovation capacity structs are internally coherent, we conducted several
and (2) profitability (both measured on a seven-point tests of convergent validity. These are reported in
scale ranging from 1 for far below average to 7 for Table 3, which is based on the saturated measure-
far above average). The argument for including prof- ment model where all interfactor correlations are speci-
itability to measure innovation performance is that the fied (Jöreskog and Sörbom 1993). First, Table 3 shows
Schumpeterian (Schumpeter 1912/1934) notion of inno- the strength of the linearity in relations between con-
vation pertains not only to the capacity to introduce “new structs and items—the R-squared values. In all cases,
combinations,” for instance, in terms of new products but the strength of the linearity is relatively strong with a
also to the economic significance of those new products. R-squared value of 0.36 or above. This is clearly above
Success will be reflected in higher profits. Moreover, the usual threshold of 0.20 for the R-squared value (Hair
et al. 1995). Table 3 also allows us to conclude that
the empirical literature points to the fact that innova-
the t-values for all items are highly significant (i.e., all
tions and profitability are intrinsically linked (see, for
are above 4.74) and that their (standardized) factor load-
instance, Geroski et al. 1993).
ings are strong (all above 0.60). Second, the reliability
of each construct is calculated, and all are above the
Construct Analysis recommended threshold of 0.70 (Gerbing and Anderson
The hypotheses are tested in a LISREL model that 1988). Also, when we consider extracted variance, the
allows for simultaneous formation of underlying con- picture improves: all constructs are above the recom-
structs (measurement model) and tests structural rela- mended threshold of 0.50 (0.52–0.61).
tionships among these constructs (structural model). The
advantage of applying a LISREL model for the estima- Discriminant Validity. Several measures of discrimi-
tion, rather than regression analysis, is twofold. First, the nant validity were obtained from the data. Discriminant
model allows us to deal with complex mediated relation- validity tests whether the correlations and causal paths
ships, which are central to this paper and are cumber- between the latent constructs are significantly differ-
some to deal with in a regression setup. Second, unlike ent from 1 (e.g., Burnkrant and Page 1982). Construct-
regression analysis, a LISREL model accounts for mea- ing 99.9% confidence intervals around the correlations
surement error in the presence of latent variables rep- and causal paths confirms that none of them is close
resented by a set of items. A disadvantage of LISREL to 1. Fornell and Larcker (1981) suggest a comparison
models is that control variables cannot be included in between the variance extracted for each construct and
the conventional way enabled in regression models. For the variance shared between constructs (the squared cor-
instance, dummy variables cannot be included, and it is relations between the constructs). These are presented
practically impossible to include control variables that in Table 3, which shows that the variance extracted is
contribute little to the overall model (Fletcher et al. clearly higher than the variance shared for all constructs.
2006). However, we use “group analysis” to test for In combination, these tests indicate that the discriminant
interaction effects among group variables (Jaccard and validity of the five constructs is very satisfactory.
Wan 1996). The validity of LISREL models is estimated Common Method Bias. Research involving cross-
by the validity of the entire model, that is, by its nomo- sectional data, such as those collected in this study, is
logical validity. However, before estimating the nomo- vulnerable to common method bias/variance. We took
logical validity of the model with the causal relations some precautions against this when designing the ques-
specified, it is important to judge its convergent validity, tionnaire by positioning the performance variables after
that is, the homogeneity of the constructs included in the independent variables to reduce, if not avoid com-
the model and its discriminant validity, or the extent the pletely, the effects of consistency artifacts (Salancik and
constructs are independent (Campbell and Fiske 1959). Pfeffer 1977). We also perform a common method bias
Table 2 Means, Standard Deviations, and Correlations for Variables Used in the Study
1 2 3 4 5 6 7 8 9 10 11
(1) Customers involved 1000

in close collaboration
(2) Intense communication with 0050∗∗∗ 1000
customers
(3) Strategy of close collaboration 0038∗∗∗ 0039∗∗∗ 1000
with customers
(4) Employees engaged in teams 0017∗ 0009 0004 1000
with high degree of autonomy
(5) Employees influence on own job 0025∗∗ 0024∗∗ 0025∗∗∗ 0039∗∗∗ 1000
(6) Salary associated with the 0026∗∗∗ 0032∗∗∗ 0018∗∗ 0024∗∗∗ 0034∗∗∗ 1000
ability and willingness to
share knowledge
(7) Salary determined by the 0021∗∗ 0026∗∗∗ 0021∗∗∗ 0028∗∗∗ 0028∗∗∗ 0064∗∗∗ 1000
willingness to improve skills and
upgrade knowledge
(8) Exchange of information between 0007 0008 0010 0015∗∗ 0033∗∗∗ 0029∗∗∗ 0020∗∗ 1000
employees across departments
(9) Communication among employees 0010 0024∗∗∗ 0015∗ 0016∗∗ 0032∗∗∗ 0026∗∗∗ 0022∗∗∗ 0042∗∗∗ 1000
and management
(10) Innovation capacity performance 0008 0014∗ 0008 0016∗∗ 0028∗∗∗ 0026∗∗ 0024∗∗∗ 0017∗∗ 0027∗∗∗ 1000
relative to competitors
(11) Profitability relative to competitors 0009 0006 −0002 0015∗ 0023∗∗∗ 0023∗∗ 0016∗∗ 0017∗∗ 0028∗∗∗ 0042∗∗∗ 1000
Mean 4021 5032 6026 3007 4097 3071 4032 4071 5053 5004 5015
Std. dev. 1084 1040 0096 1041 1028 1061 1044 1039 0097 1055 1017
Min 1 1 1 1 1 1 1 2 2 1 2
Max 7 7 7 6 7 7 7 7 7 7 7
Note. Coefficients belonging to the same construct are highlighted in bold.

∗
Significant at 5%, ∗∗ significant at 1%, and ∗∗∗ significant at 0.1%.
test, specifically, the single-factor procedure based on Structural Model. The second step in the analytical
confirmatory factor analyses (see Podsakoff et al. 2003). process is to form the structural model by specifying
We examine the fit of the single-factor model in which causal relations based on the hypotheses. The LISREL
all items are loaded onto one factor to address the prob- analysis is conducted iteratively to fine-tune the model
lem of common method variance. The logic underlying to obtain more coherent representation of the empiri-
the single-factor procedure is that if method variance is cal data. The LISREL analysis is aimed at confirming
responsible for most of the covariation among the con- a model based on specified causal relations. The test
structs, confirmatory factor analysis should indicate that consists of generating a structural model that includes
a single-factor model fits the data. Goodness-of-fit index relationships that accord with the hypotheses (see Fig-
ure 1). We test single causal relations with t-values and
(GFI) statistics for the single-factor model are presented
factor loadings between the model constructs. GFI val-
in Table 4: a GFI of 0.57 and root mean square error
ues are critical for an evaluation of the entire model.
of approximation (RMSEA) of 0.23 are not very rep- However, given their complexity, there is no consensus
resentative of the data. In fact, the single-factor model regarding the “best” index of overall fit for structural
is highly insignificant and can clearly be rejected. The equations. Thus, reporting of multiple indexes is recom-
improved fit of the alternative and more complex models mended (Bollen 1989).
listed in Table 4, compared with the simpler models, is
Goodness of Fit. We assessed the entire model by dif-
statistically significant. Although this statistical test does
ferent goodness-of-fit measures including the chi-square
not eliminate the threat of common method variance,
value, the GFI, and the nonnormed fit index, which
it provides evidence that interitem correlations are not are measures of the distance between the data and the
driven solely by common method bias. In our ordinary model, i.e., nomological validity (Jöreskog and Sörbom
least squares regression robustness checks (see below), 1993). The model has a chi-square value of 37.14 for 38
we conduct an analysis (not presented here for reasons degrees of freedom (43852
= 37014, p = 0051), providing
of space but available from the authors upon request) strong evidence that we cannot reject the hypothesis that
involving marker variables (Lindell and Whitney 2001, the estimated model does not differ from the data. In
Podsakoff et al. 2003). Although these marker variables other words, this finding is consistent with the idea that
in some cases have separate explanatory power, they do the model provides a good representation of the data;
not remove the significance of our key variables. thus, there is no significant statistical difference between
Table 3 Constructs and Items
Variance extracted Variance shared

Constructs and items Factor loading t-value R2 -value Construct reliability by constructs between constructs
Interaction with customers 0076 0052 0034

Customers involved in 0071 6075 0050
close collaboration
Intense communication 0084 9031 0071
with customers
Strategy of close collaboration 0060 5064 0036
with customers
Delegation 0071 0055 0034
Employees have influence 0077 8016 0059
on their own job
Employees engaged in teams 0071 5026 0050
with high degree of autonomy
Knowledge incentives 0076 0061 0028
Salary associated with 0081 10037 0066
the ability and willingness
to share knowledge
Salary determined by the 0075 9076 0057
willingness to improve
skills and upgrade knowledge
Internal communication 0070 0054 0028
Exchange of information between 0069 5053 0048
employees across departments
Communication among employees 0078 7033 0061
and management
Innovation performance 0072 0056 0014
Innovation capacity of focal 0079 4074 0062
firm compared to competitors
Profitability of focal firm 0071 4086 0050
compared to competitors
Notes. Factor loadings are provided for the saturated measurement model where all possible interfactor correlations are specified. All
factor loadings are highly significant at p < 0001 with a t-value above 3.30.
our theory-based model and the original data, indicat- the Bentler–Bonett normed fit index (NFI) represents
ing that we explained the original correlations at a level the proportion of improvement in fit relative to the null
not statistically different from the value of 1. The GFI, model while controlling for model parsimony. The value
which is based on residuals, shows a value of 0.96, obtained (NFI, 0.91) represents a good fit between model
which represents a very good fit (suggested GFI > 0090) and data. In sum, all three fit indices indicate good fit of
between the model and the data (Bollen 1989). Finally, the proposed model to the data.
Table 4 Goodness-of-Fit Statistics for Competing Specifications of the Model
1 2 3 4 5
Partial mediation Full mediation
Direct links I→D I→D
Measurement Single-factor (no mediation) D → S, C D → S, C
model model I, D, S, C → P I, D, S, C → P S, C → P
Chi-square (df) 33050 408020 160060 36060 37010
(34 df) (44 df) (40 df) (37 df) (38 df)
p = 0049 p < 00001 p < 00001 p = 0049 p = 0052
GFI 0096 0057 0082 0096 0096
GFI adjusted for df 0093 0036 0071 0093 0093
Parsimonious GFI 0060 0046 0060 0065 0068
RMSEA 0001 0023 0014 0001 0000
Comparative fit index 0099 0043 0066 0098 0099
NFI 0092 0036 0061 0091 0091
Parsimonious NFI 0057 0031 0044 0061 0064
Note. I, interaction with customers; D, delegation of responsibility; S, salaries linked to knowledge sharing; C, internal communication; P,
innovation performance; df, degrees of freedom.
Furthermore, if we compare the estimated path model delegates responsibility, the more it will use knowledge
with the (saturated) measurement model, we find that incentives”) and Hypothesis 4 (“The more the focal firm
the estimated path model fits the data better than the delegates responsibility, the more communication will
measurement model (an increase in the chi-square value take place inside it”): delegation significantly and posi-
of ã 2 = 306, but with the use of four fewer degrees of tively impacts on both knowledge incentives and internal
freedom). The parsimonious GFI is 0.60 for the mea- communication (with t-values of 6.01 and 5.44, respec-
surement model but increases to 0.66 for the estimated tively). It should be noted that in terms of the coefficient
model. This is further evidence that the estimated model estimate (0.71), the effect of delegation on knowledge
is superior to the measurement model. incentives is the strongest relationship in the model. We
also find strong support for Hypothesis 5 (“The more
the focal firm engages in internal communication, the
Results higher will be its innovation performance”), because the
Findings correlation coefficient between these constructs is signif-
The figures given for the estimated path and structural icant at the 1% level (t-value of 2.58). Similarly, there
models (see Figure 2) are standardized factor loadings is support for the hypothesis that the more the focal
of causal relations with t-values in parentheses (figures firm uses knowledge incentives, the higher its innovation
in bold relate to the structural model). performance (Hypothesis 6). In sum, the overall model
With respect to Hypothesis 1 (“The more the focal supports the idea that the link between interaction with
firm engages in interaction with customers, the better customers to innovation performance is indirect: it is
will be its innovation performance”), the relevant param- mediated through the set of organizational practices we
eter estimate is insignificant (t-value of −0084), so the consider here.
hypothesis is rejected. This implies that interaction with In addition, we track the total effect (the sum of direct
customers is not a sufficient condition for securing inno- and indirect effects) of all the constructs on innovation
vative performance. performance. We observe that internal communication
For Hypothesis 2 (“The more the focal firm interacts and delegation have considerably larger effects on inno-
with its customers, the more it will delegate responsi- vation performance (0.49 and 0.38, respectively) than
bility”), the results are consistent with the hypothesis, knowledge incentives and interaction with customers
because the parameter estimate for the effect of inter- (0.18 and 0.13, respectively). This reinforces the point
action with customers on delegation is positive and sig- that the effect of interaction with customers on innova-
nificant (t-value of 4.87). Moreover, we find evidence tion performance is mediated by organizational practices
supporting both Hypothesis 3 (“The more the focal firm and that firms will only achieve the full potential of their
Figure 2 Estimated Path Model
Salary linked to Salary linked to

ability to share willingness to
knowledge upgrade knowledge
Degree of 0.82 (10.37)*** 0.78 (7.69)***

influence on
own job Knowledge
Close collaboration Teams with incentives
on development significant 0.80 (8.16)***
0.68 (5.33)***
projects autonomy 0.71 (6.01)*** Innovation
0.38 (2.12)** capacity
0.66 (4.98)***
0.73 (4.86)***
Intensive exchange Interaction Delegation of Innovation
of information with customers responsibility performance
0.59 (4.87)*** 0.69 (3.61)***
0.85 (9.31)*** 0.66 (5.44)*** 0.59 (2.58)**
Profitability
Strategy of close
collaboration with 0.59 (4.81)*** Internal
customers –0.13 (–0.84) communication
0.79 (7.33)***
0.65 (4.27)*** Knowledge

Knowledge exchange across
exchange across hierarchical levels
departments
Notes. t-Values are given in parentheses. Numbers in bold pertain to the structural model.
∗
Significant at 5%m ∗∗ significant at 1%, and ∗∗∗ significant at 0.1%; two-tailed t-test.
interaction with customers if these organizational prac- industries. Also, it could be that a firm pursuing a more
tices are in place. diversified product strategy needs both more customer
interaction and a higher level of delegation. First, we
Robustness Checks conducted a group analysis for the two groups of firms:5
(i) firms with a high proportion of staff employed in
Degree of Mediation. Table 4 presents the GFI for a
R&D and (ii) firms with a low proportion of employees
number of alternative models, allowing for different lev-
in R&D. Overall, the model holds for both groups sep-
els of mediation. Model 3 includes no mediation, only a
arately (although some significance is inevitably lost in
direct link between interaction with customers and inno-
each case). This suggests that the results are not driven
vation performance. Model 4 includes partial mediation
by differences in knowledge intensity. Similarly, we con-
of delegation of responsibility, which has both direct and
ducted a group analysis for the group of the largest and
indirect links to innovation performance. In Model 5,
the group of the smallest firms in our sample. Again,
the links between interaction with customers and delega-
we found that the model, by and large, is confirmed
tion of responsibility to innovation performance are fully
for each of the two groups. As an additional robustness
mediated by knowledge incentives and internal commu-
check, we experimented by introducing industry-level
nication. With the exception of the insignificant link
R&D (for 29 industries, the highest number for which
(in Figure 2) from interaction with customers to innova-
tion performance, Model 5 is identical to our theoretical we had official R&D statistics). Once more, in the group
model. Model 3 with no mediation is clearly a poor rep- analysis we found that the results of the model do not
resentation of the data with 44052
= 16006 (p < 00001) differ significantly between firms operating in high- and
and an RMSEA of 0.14, which suggests that there is no low-intensive R&D industries. In addition to the group
direct link between interaction with customers and inno- analysis, we carried out four single-equation regressions,
vation performance. Both Model 4 with partial media- all including a set of control variables to test the six
tion and Model 5 with full mediation fit the data very relations that we hypothesized in this paper.6 Our con-
2
well, with 4375 2
= 3606 and 4395 = 3701, respectively. trols include variables reflecting whether the level of
Adding to Model 5 the extra link between delegation of education in the firm was perceived to be higher than
responsibility and innovation performance in Model 4 in competing firms, the proportion of employees work-
renders the new link insignificant, whereas the other ing in R&D, whether the firm has foreign ownership,
links retain their signs. However, the effect of knowledge two measures of the degree of product diversification
incentives on innovation performance becomes weaker within the firm, industry-level R&D intensity (29 indus-
and insignificant, whereas all other previously significant tries), and 19 industry dummies. The results correspond
links retain their significance. Yet the measures of par- to the findings from the LISREL analysis: the relation
simonious GFI and parsimonious NFI are slightly bet- hypothesized in H1 is insignificant, but all other hypoth-
ter for Model 5 (0.68 and 0.64, respectively) than for esized relations are at least significant at the two-sided
Model 4 (0.65 and 0.61, respectively), suggesting that 5% level. Another possible concern is whether there is
the additional link in Model 4 compared with Model 5 reverse causality between internal communication and
does not improve the model fit. Adding another arrow innovation. It would be particularly worrying if a firm
in Model 5 from knowledge incentives to internal com- relying on excellence in operations (or something sim-
munication does not affect the other results of the model ilar) for differentiation rather than on innovation were
in any important way (and the added effect becomes in less need of internal communication than a firm try-
insignificant). In sum, inclusion of the additional links ing to differentiate itself via innovation. To address this
reveals that our empirical model has a high degree of concern, we ran an extra set of regressions with internal
robustness to alternative specifications. communication determined by the proportion of employ-
The overall conclusion based on the test of alter- ees working in R&D and the variable reflecting level
native models is that the relation between interaction of education in the firm as predictors (to net out firm’s
with customers and innovation performance is clearly innovation aspiration in its internal communication). In
not direct but is fully mediated by the organizational the innovation performance equation, we inserted pre-
variables included in the model, so firms need to apply dicted values of internal communication in lieu of the
organizational variables to benefit from interaction with original values. Internal communication remains signifi-
customers. cant at the 1% level.
Alternative Explanations. To test whether our results

could be driven by alternative explanations, we carry Concluding Discussion
out a number robustness checks. These alternative expla- Since Burns and Stalker’s (1961) contribution, identifi-
nations include the fact that some firms in our sam- cation of intraorganizational antecedents to innovation—
ple are more knowledge intensive than others, that they such as organizational structure, human resource man-
are of unequal size, and that they come from different agement, and other organizational practices—has been a
central theme in research in organization studies, tech- These bodies of work tend to use relations between
nology management, and strategic management (e.g., users/customers (and other external sources of innova-
Damanpour 1991, Dougherty 2001, Dougherty and tion) and firms as their unit of analysis, leaving aside the
Hardy 1996, Laursen and Foss 2003, Mendelson and issue of how organizational factors may leverage user
Pillai 1999). Most of this research focuses on how the knowledge for innovation. By revealing firms in terms
firm can best leverage the knowledge that it already con- of their innovation context and involvement with cus-
trols in-house for the purposes of innovation. However, tomers, we add some of organizational components to
it does not address how the firm’s organizational prac- the user innovation literature.
tices can positively influence the sourcing of knowledge
from external parties, such as users and customers, and Limitations and Future Work
its subsequent exploitation for innovation.7 This paper has a number of limitations. Despite the fact
The contribution of the present study is to develop a that the top management’s view is very likely to be well
model that highlights the role of certain organizational informed, we cannot rule out differences in perception
practices as mediators between firms’ interactions with within the organization regarding variables such as del-
customers and their innovation performance. Specifi- egation and communication. For this reason, a research
cally, the model highlights the importance of new orga- design that involves multiple respondents could have
nizational practices for successful customer innovation advantages over the design used in this paper. The focus
from the point of view of established innovating firms. of this paper is on customer knowledge and how it is
In general, we find empirical support for our model: the leveraged by organizational practices in innovative activ-
effect of interaction with customers on innovation per-
ity. However, customers are not the only source of exter-
formance is mediated by new organizational practices,
nal knowledge that influences a producer firm’s ability to
and firms can only gain the full potential of their inter-
innovate. Chesbrough (2003) maintains that innovative
action with customers if these organizational practices
firms increasingly change their sourcing of new knowl-
are in place.
edge, adopting an “open innovation” model that implies
the use of a wide range of external actors and sources to
Contribution to Theory
help them achieve and sustain innovation. The notion of
A prevalent theme in the strategic management and inno-
“distributed innovation” (von Hippel 1988) suggests that
vation literatures is that firms increasingly need to rely
on external knowledge sources to gain and sustain com- external knowledge can be obtained from several exter-
petitive advantage (e.g., Chesbrough 2003, Dyer and nal sources. Moreover, Baum et al. (2000) show that
Singh 1998, Teece 2000). The purpose of the present within biotechnology, innovators rarely innovate alone,
work is to enrich our understanding of the role of new whereas Laursen and Salter (2006) demonstrate that a
organizational practices in the context of absorbing and firm’s ability to product innovate is strongly influenced
leveraging customer knowledge that could improve inno- by the openness of the firm’s external search strategy in
vation performance. The literature on new organizational terms of the number of external sources of knowledge
practices shows that these practices matter for orga- applied by the firm. Future research should be expanded
nizational performance, such as productivity and prof- to deal with the appropriate organizational responses to
itability (e.g., Ichniowski et al. 1997, Mendelson and a much wider range of external knowledge inputs. In
Pillai 1999). Our reasoning and results strongly support this paper, the empirical focus was on the Danish con-
the notion that such organizational practices also influ- text. Although we believe that our theory will hold in
ence how external knowledge that initially resided with other empirical contexts, future research could examine
customers is exploited and built on to produce innova- the generalizability of this work by using data from other
tions. The drivers of this process include organizational geographical contexts.
practices that impact on individual incentives to absorb Future work could also go beyond an emphasis
knowledge from outside the firm and share this knowl- on formal organization. The literature on organization
edge inside the firm, and to improve the capabilities of as an antecedent to knowledge sharing and acquisi-
individuals to absorb and share outside knowledge. tion mainly investigates either formal organization (the
From a somewhat different perspective, the present present paper, Jansen et al. 2005) or informal organiza-
work can be seen as contributing to the literature on user tion (see, e.g., Hansen 2002, Tsai 2001). However, there
innovation, which looks at how established firms lever- are reasons to expect that informal and formal organiza-
age users’ knowledge in the innovation process (Urban tion may interact in terms of their impact on knowledge
and von Hippel 1988, von Hippel 1986). This paper sharing and acquisition. For example, it is plausible to
also adds to the open innovation literature to the extent hypothesize that (formal) incentives for knowledge shar-
that this literature considers customers to be one of sev- ing will complement (informal) network ties with respect
eral external sources of innovation (Chesbrough 2003, to the impact on knowledge sharing. Future research
Fey and Birkinshaw 2005, Laursen and Salter 2006). should consider such interaction effects in greater detail.
Future research could also examine individual behav- the extent that such rewards are perceived as being control-
iors more explicitly. Individual action and interaction ling, this may crowd out the intrinsic motivation that some
are the microfoundation for understanding exactly how argue is crucial for the efficient functioning of communica-
organizational practices leverage customer knowledge tion and knowledge sharing inside firms (Osterloh and Frey
to produce innovation. Thus, organizational practices 2000). Although the jury is still out on this issue, psychology-
based arguments suggest that rewarding sharing knowledge is
impact on the incentives and channels of communica-
an organizational instrument that should be used cautiously.
tion available to individuals. Moreover, individuals differ 5
Group analysis bears some resemblance to including control
in several respects. For instance, the research presented variables in the regression analysis because it tests for inter-
in this paper can be seen as concerning organizational action effects of a group variable on the model parameters.
antecedents to boundary-spanning knowledge search 6
Results are available from the authors upon request.
(Rosenkopf and Nerkar 2001). Boundary-spanning indi- 7
In contrast, there is a substantial literature on how firms
viduals need incentives and decision rights to engage should adapt their organizations in response to the adoption
in such activities, as well as the possibility to commu- of already existing innovations (see, for instance, Bresnahan
nicate easily with the home organization. The research et al. 2002, Leonard-Barton and Sinha 1993).
methodology in this paper is, however, too “reduced
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Organization Science

Vol. 22, No. 4, July–August 2011, pp. 980–999

Linking Customer Interaction and Innovation:

Introduction development and financial performance may depend on

433/666) pays for training

circles employee proposals

Note. TQM, total quality management.

Figure 1 Theoretical Model

Methods noted, however, that although the population and the

(1) Customers involved 1000

Note. Coefficients belonging to the same construct are highlighted in bold.

Table 3 Constructs and Items

Variance extracted Variance shared

Interaction with customers 0076 0052 0034

Table 4 Goodness-of-Fit Statistics for Competing Specifications of the Model

Figure 2 Estimated Path Model

Salary linked to Salary linked to

Degree of 0.82 (10.37)*** 0.78 (7.69)***

0.65 (4.27)*** Knowledge

Alternative Explanations. To test whether our results

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Degree of 0.82 (10.37)* 0.78 (7.69)*