Organizational Innovation in the Health Sector: Cost and Quality Solutions for Health Policy Barak D. Richman, Will Mitchell, and Kevin A. Schulman, Duke University Acknowledgment: There was no funding for this work. March 1, 2009 ABSTRACT Much of the health policy debate focuses on improving access to care by expanding insurance coverage. However, improving access will be difficult given the underlying problems of high costs and variable quality. In other innovation-intensive industries, new products and services introduce improvements in capability and affordability. We argue that the relative lack of organizational innovation in the health sector is one reason for difficulties in improving quality while containing costs. Policy approaches that encourage experimentation with new technologies and business models could offer creative solutions to cost and quality problems in the health care system. INTRODUCTION Health care is again a major domestic policy issue for the new administration. Although the U.S. health care system provides excellent care to many people, it suffers from limited access, high costs, and variable quality. 1,2 Most of the current debate focuses on improving access to health care by expanding insurance coverage, but improving access will be difficult without addressing the underlying problems of cost and quality. 3 The health sector’s inability to address problems of cost and quality stands in stark contrast to other innovation-intensive industries, in which new generations of products and services regularly introduce dramatic improvements in capabilities and affordability. “Organizational innovation” –-the creation of new management structures, processes, business models, and strategies within and across firms –- is responsible for many of the most dramatic advances in technology-sensitive industries, and the relative lack of organizational innovation in the health sector is one reason for the industry’s failure to improve quality while containing costs. Whereas recent scholarship in business strategy discusses flaws in the current structure of health care delivery -- including duplication of services, limitations of the electronic medical record, fragmentation of delivery, administrative weakness among providers, regulatory burdens, and defensive medicine 4,5 -- we focus on the possibilities of stimulating major organizational changes in the health sector. The health delivery sector has been strikingly ossified, in contrast with dynamic industries that regularly undergo major changes, including turnover of industry leadership. 6 Experiences from other technology-sensitive sectors suggest how organizational innovation can introduce new delivery systems and reform dysfunctional elements of the health care system. We describe strategies that have led to successful organizational innovation in other industries, propose managerial reforms that health care providers might employ to pursue organizational innovation, and suggest policy and institutional reforms that might spur organizational innovation in the health sector. THE VALUE OF ORGANIZATIONAL INNOVATION Many of the economic and social benefits of competitive markets arise from organizational strategies that create and implement new business models, which often reflect the entry of innovative new firms and/or expansion of existing firms with experimental technologies. Extensive research has documented how organizational innovation can improve product and service quality while dramatically reducing costs -- exactly the issues that are central concerns in the health care system. However, the concept of organizational innovation is absent from health policy debates and from most proposed solutions to health-system problems. Organizational innovation involves discontinuous changes that differ strikingly from incremental changes that respond to well-understood needs in the marketplace and impose few disruptions on personnel, systems, and interorganizational relationships. In contrast, discontinuous innovation disrupts both organizations and markets. As Joseph Schumpeter 7 put it, such discontinuous innovations “command a decisive cost or quality advantage that strike not at the margins of the profits and the outputs of existing firms, but at their foundations and their very lives.” Discontinuous innovation challenges firms to develop products or services that require transformations in core business skills, practices, and organizational structures. Such transformations are challenging for firms to navigate but offer the greatest opportunity for creating benefits for consumers, whether through lower cost and improved quality of existing goods and services or through new goods and services.