Bringing Your A-Game: What Game Theory Can Teach Us About Innovation Management

If you were one of the approximately 3-4 billion people who tuned into the world cup last year, chances are that work took a backseat to football on more than one occasion…

However, don’t start feeling guilty just yet. Beneath the excitement and panoply of the world cup lies a broad range of core mechanisms and mathematical formulae that are also highly relevant in the world of business. By understanding these mechanisms and formulae, you can gain a clearer picture of how best to focus and refine your innovation strategy to gain that all-important competitive advantage.

We’re referring, of course, to ‘game theory’: The field of study that examines the strategic interaction between multiple participants in situations containing set rules and outcomes. To quote Luke McKinney Game theory is simply “the study of how to choose the best move and get the most ‘stuff’ when other players are trying to take it.”

In this article, we’ll take a closer look at game theory and the role it plays in the world of business. We’ll also explore how the theory can amplify your innovation strategy by helping you change your game plan, analyze participant behaviour, and look beyond the stultifying rules impeding your competitors.

Eyes on the Prize: Introducing Game Theory

Firstly, it’s important to understand what the “games” identified in game theory are. Essentially, a game can be any interaction between multiple participants in which each person’s payoff (winning, losing, or drawing) is influenced by the decisions made by other participants.

Any situation involving multiple agents interacting with each other for quantifiable gains can be studied using game theory to help determine the most likely outcome of these interactions. To quote prestigious American political scientist Kenneth Waltz “The implication of game theory…is that the freedom of choice of any one state is limited by the actions of the others.”

Because of its wide-reaching implications, game theory has been used to assess everything from cold war policy, to the behaviour of organisms, to business mergers and acquisitions. The real use of game theory is that it provides key insights as to how and why agents make decisions under given circumstances, so that this knowledge can be put to practical use.

“The implication of game theory…is that the freedom of choice of any one state is limited by the actions of the others.” – Kenneth Waltz

Perhaps the most famous example of competitive game theory in action can be seen in the prisoner’s dilemma, first put forward by American mathematicians Merrill Flood and Melvin Dresher. In the dilemma, two prisoners are arrested on suspicion of robbing a bank and placed in solitary confinement. The police lack the evidence to convict both suspects of the principal charge of robbery, but they can hold both on a lesser charge. As such, the prosecutors offer each prisoner a deal. Each prisoner can either betray the other by accusing them of committing the principle crime (agreeing to the prosecutor’s deal) or remain silent. The prisoners’ options are as follows:

  1. Mutual Defection: If prisoner 1 and 2 both accuse each other, they will serve 2 years in prison.
  2. Singular Defection: If 1 betrays 2 but 2 remains silent, 1 will be freed, but 2 will serve a 3 year sentence (and vice versa).
  3. Mutual Cooperation: If 1 and 2 say nothing, both will only do a year for the lesser charge.
Game Theory Blog Image 1
A visual representation of the prisoner’s dilemma.

In this dilemma, mutual defection is the best decision a purely rational, self-interested agent could take. This is because prisoner 1 cannot be entirely certain that if he keeps quiet, prisoner 2 will also do the same.

Game theory utilizes mathematical models to determine the Nash equilibrium. Named after John Nash – the pioneering mathematician played by Russel Crowe in A Beautiful Mind –, this equilibrium is essentially the point in any “game” at which no participant has an incentive to change their existing strategy. In the prisoner’s dilemma, mutual defection reflects this state of equilibrium.

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Game Changing Potential: The Value of Game Theory in Strategic Innovation

Unlike football and bargain pleas, there are no set-in-stone rules that must be adhered to in the world of business innovation. Providing you act within the confines of the law, game theory asserts that you can and should change the rules of a game if it means placing yourself at a competitive advantage.

In this respect, placing great emphasis on adaptive innovation should be a priority – especially when you consider that your competition will likely be leveraging innovation to their own advantage.

The power of implementing adaptive innovation to create “new games” that will allow a player to enjoy a competitive edge is summarised by Allan Afuah – noted author and Professor of Strategy at the University of Michigan. “New game strategies often overturn the way value is created and appropriated. They can create new markets and industries, destroy or reinforce existing product market positions, and most important of all, they can be very profitable for some firms.”

A prime example of innovative game theory can be observed in Apple’s creation of the iPhone. In the early 2000s, phone companies such as Samsung, Nokia, and Research In Motion (the company behind BlackBerry) focused heavily on the shape, ergonomics, and size of their devices. Apple, after examining the competitive agents in their field, concluded that they could change the game by de-emphasizing hardware, and focusing more on software capabilities – an innovative strategy, informed by game theory, that led to the rise of the smartphone.

Game Theory Blog Image 2
iPhone’s ‘game changing’ approach to pioneering the smart phone was informed by their strategic assessment of where the competitors were deficient and acting accordingly to gain a competitive edge.

Moving the Goalposts: Corporate Crowdsourcing in Innovative Game Theory

In addition to providing a useful system by which to model and survey the competitive landscape, game theory strategy can also serve corporate crowdsourcing initiatives. When it comes to crowdsourcing ideas from employees or customers, it is crucial to understand the motivations of your participants, as successful participation can deliver significant bottom line results. According to game theory, these are the best two ways to organize your audience:

  1. The competitive model: Individual participants compete to find the optimal solution to a given problem, being incentivized with rewards.
  2. The collaborative model: Grouped participants working together to develop solutions to issues posed.

Once an approach has been selected, game theory can serve as an evaluative framework for crowdsourcing results. This approach can help observers ascertain which “game” (i.e what kind of interactive approach) yields the best results, while also helping you to identify the most productive participants in your system.

“New game strategies often overturn the way value is created and appropriated.” – Allan Afuah

Finding the Nash equilibrium for a set of important business decisions can prove invaluable for gauging the trajectory of your company’s innovation efforts. This is particularly the case when dealing with a large number of stakeholders via crowdsourcing efforts. To find the Nash equilibrium for a particular game, you would select your agents (your company and single or multiple competitors), and then pinpoint pertinent strategic choices open to these players (i.e should we change our product packaging). The potential outcomes that will result from the permutations of these choices can then be listed in a matrix graph, similar to that identified in the prisoners dilemma.

Once this is done, crowdsourcing efforts can determine the likely payoffs for the choices open to players. You would ask participants particular questions (i.e how much more likely would you be to buy this product if it was packaged differently?) and assign a numerical value for very likely (i.e 3) to not likely (i.e 0).

Game Theory Blog Image 3
Jake Nielson – Author and founder of The Innovative Manager website – provides an example of how Motorola and Samsung located the Nash principle in relation to whether to prioritize User or Carrier needs.

From this point, players can gain a better impression of whether a ‘new game’ should be implemented to disrupt that equilibrium. It’s also useful for identifying what innovation efforts would prove to be unproductive, putting you at a disadvantage to your competitor.

The Best Play: How to Implement Game Theory and Innovation to Benefit Your Business

The value that game theory offers any strategic decision maker cannot be underestimated, however in the sphere of innovation, the approach is truly invaluable. If you are using an innovation software solution which is flexible enough to allow you to employ the methodologies of game theory, it will allow you to deliver much more successful results on an ongoing basis for your company.

Also, if you are designing your crowdsourcing challenges with game theory in mind, you can identify key answers to strategic challenges and solutions which might not have occurred to you otherwise.

As important as it is to understand design thinking, operational excellence, Kaizen and all the other fundamentals when learning how to be innovative, it’s equally important to remember that everything is just a game, and to leverage this understanding to your advantage across any competitive scenario.

Although the nuts and bolts of game theory may not be exciting as the world cup, its potential as a driver of innovation certainly is. By using the approach to understand the rules that your consumers and competitors are operating within, you can put yourself in the optimal position to think outside the box, and change the game for good.

To discover more about the Qmarkets platform, and how it can help you leverage powerful insights from your staff and customer base, don’t hesitate to get in touch with us today!

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