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Knowledge Absorption and Innovation in SMEs: A Pilot Study by Place and Economic Sector

Research Aims and Focus

This pilot research for Innovate UK examined the role played by knowledge transfer and knowledge absorption mechanisms as processes in understanding rates of innovation activity in small and medium-sized enterprises (SMEs), by place and economic sector. Pilot research was undertaken on SMEs in 3 economic sectors (manufacturing, high tech and services) based in 4 locations representing different types of local economies: Cornwall; Cumbria and North Lancashire; Edinburgh; and Essex including parts of East Anglia.

Research Questions and Methods

The study focused on 3 key research questions:

  1. What role does knowledge management and absorptive capacity play in innovation activity within SMEs?
  2. To what extent does innovation activity vary across different places and economic sectors?
  3. How does our understanding of variations in innovation activity by place and economic sector help contribute to a more targeted innovation policy for SMEs?

This study investigated SMEs for 3 key reasons: (i) limited coverage of SMEs in knowledge transfer and innovation research (ii) private sector predominance of SMEs in all places (iii) SMEs are a key focus of business development policies, including the Industrial Strategy. This exploratory study compared the ability of micro businesses and SMEs to recognise knowledge, capture it and successfully absorb it into their business models.

The research used two survey instruments: a questionnaire followed by in-depth interviews. The questionnaire was designed to capture a range of information about knowledge transfer and knowledge absorption. Focusing on examples from participants’ own experiences of implementing innovation in their companies, the interviews provided a follow up to the survey and explored 4 stages of absorptive capacity: (i) acquisition, (ii) assimilation, (iii) transformation and (iv) exploitation.

Summary of Key Findings

  • Conceptualising innovation: many study participants, particularly those in the ‘high tech’ sector, chose to focus the discussion on product development and new technology. Some also interpreted innovation to be about service innovation. A small number of respondents, particularly micro-businesses, viewed innovation very broadly, relating it to their business model to ‘do things better’ and as essential for business sustainability.
  • Acquisition: firms acquire knowledge mainly through collaborations and communications with external partners and some via internal creative capacity development. Study participants identified a wide range of sources of knowledge including: customers, suppliers, internal team members and industry networks. The use of more formal networks and groups was mentioned by several participants and a few had acquired knowledge from universities.
  • Assimilation: knowledge assimilation appears to be an inclusive process, with evaluation and decision making about new knowledge being carried out by internal employees. Medium sized firms adopt more formal procedures describing a ‘stage and gate’ process, looking at the fit with company product portfolio. Micro and smaller sized firms preferred informal processes to assimilate new knowledge. Many described a need to be inclusive in this process, involving a range of stakeholders, including customer consultations to obtain feedback on early ideas.
  • Transformation: knowledge is transformed either through trial, error and experimentation, or by adopting a systematic approach. Product development in high tech companies was often based on a structured process of prototyping, testing and experimentation. Two businesses noted help from universities at this stage as either a follow-up to knowledge acquisition or to access new specialist resources. In a small number of cases, participants indicated that the knowledge transformation process was not needed as the knowledge was already in a usable form.
  • Exploitation: success in going through the other three stages of absorptive capacity leads to effective exploitation. Participants in all the SMEs reported largely positive outcomes, namely: (i) objectives were achieved (e.g. new product or service launched and profitable); (ii) outcomes not yet achieved, had been modified or the project had changed direction; and (iii) successful and there were further unintended benefits.
  • Perceived aids to innovation: a number of success factors were identified that enabled innovation, combining informal stakeholder relationships with formal development processes. Other innovation enablers included: good engagement with customers and knowledge of the market; an innovation culture that accepts failure and risk-taking; and clear decision-making and accountability structures.
  • Perceived barriers to innovation: obstacles included: time constraints, competing priorities, and being distracted by customer suggestions that do not ‘fit their roadmap’. Application processes for grant programmes were often perceived to be difficult and bureaucratic. This was noted as a key barrier in accessing funding for innovation.
  • Place-based innovation: unique resources linked to specific geographical locations can be beneficial for innovation. In this study, the location of the business was of less importance to high tech and manufacturing businesses, which tended to collaborate internationally more than locally. In rural areas, access to skills was cited as an important issue. Many companies in rural areas had chosen their location for social reasons (e.g. quality of life, closeness to family, etc.). Some of these companies deliberately constructed their business around available rural assets.
  • Sector and place in the Industrial Strategy: the study found that sector plays a more important role than place in explaining the innovation output of the firms in our sample set. Service sector firms are relatively less innovative than those in the manufacturing and high-tech sectors. There was recognition by certain companies that the regional environment constrained growth, with some unable to access resources, skills and knowledge within their locality. Establishing a business in a specific location or region is therefore not sufficient to produce innovations: instead sectoral activity plays a critical role.
  • Factors explaining innovation capacity: employees’ training has no statistically significant impact on the number of innovations. Instead, mechanisms that encourage employees’ participation in knowledge creation and sharing activities make a substantial contribution to innovation output. These mechanisms differ significantly among the four regions. Implementation of policies and procedures (to codify, absorb and redeploy the external knowledge) notably contribute to the innovation output.
  • Knowledge absorption across regions: there were no major differences across regions in this regard, except for the participatory mechanisms of employees. This is due to firms with higher knowledge management and absorption capabilities being able to understand, assimilate and utilise knowledge, regardless of their location. Absorption from sources outside the regional boundaries (including global market influences) compensates for the regional disparity, triggering higher innovative performance in some firms.

Conclusion and Future Research

The intention of this study was to undertake pilot research to explore attitudes to innovation, knowledge transfer and absorption in SMEs, to investigate differences in sectors, regional variations and types of place (rural or urban). More innovative firms are better able to acquire, assimilate, transform and exploit knowledge. Industry structure plays a crucial role, since different industries provide different opportunities and challenges for growth and innovations. Hence industrial policy should focus on the role of industry structure alongside place in the growth of a local economy. This study begins to understand those SMEs which are ‘innovation followers’ and those with a sustainability orientation. There is scope to examine the questions in much more depth, with a more comprehensive study, using these preliminary findings as a basis for further discussion with funders and policy makers.

This research was led by: G. Shaw, with support from A. Marshall, D. Murphy, A. Rosiello and V. Sena and research assistance from C. Carr, O. Golra and S. Hickman.