This is an MIT Sloan Management Review article. As competition intensifies and profit margins shrink, managers are under overwhelming pressure to create value. Traditional prescriptions such as cost reduction, reengineering, and outsourcing, although critically important, cannot solve the problem. The need to innovate is greater than ever, but the focus of innovation must change, say the authors. By synthesizing societal trends and early experimentation in companies such as General Motors, LEGO, and Medtronic, the authors paint a picture of the "next practices" of innovation in which the locus of value creation will inevitably shift from products and services to "experience environments." The intent of experience innovation is not to improve a product or service, per se, but to enable the co-creation of an environment in which personalized, evolvable experiences are the goal, and products and services are a means to that end. Profitable company growth results from individual consumers co-creating their own unique value, supported by a network of companies and consumer communities. From that perspective, say the authors, managers must learn to view existing and emerging technologies not as enhancers of products, features, and functions, but as facilitators of experiences. They offer examples of how technological capabilities such as miniaturization, networked communication, and adaptive learning are fostering experience innovation at companies such as Sony, Apple, Microsoft, and TiVo, illustrating their contention that technology will be the key facilitator of the nascent trend toward experience innovation.

Major business trends such as deregulation, globalization, technological convergence, and the rapid evolution of the Internet have transformed the roles that companies play in their dealings with other companies. Business practitioners and scholars talk about alliances, networks, and collaboration among companies. But managers and researchers have largely ignored the agent that is most dramatically transforming the industrial system as we know it: the consumer. In a market in which technology-enabled consumers can now engage themselves in an active dialogue with manufacturers--a dialogue that customers can control--companies have to recognize that the customer is becoming a partner in creating value. In this article, authors C.K. Prahalad and Venkatram Ramaswamy demonstrate how the shifting role of the consumer affects the notion of a company's core competencies. Where previously, businesses learned to draw on the competencies and resources of their business partners and suppliers to compete effectively, they must now include consumers as part of the extended enterprise, the authors say. Harnessing those customer competencies won't be easy. At a minimum, managers must come to grips with four fundamental realities in co-opting customer competence: they have to engage their customers in an active, explicit, and ongoing dialogue; mobilize communities of customers; manage customer diversity; and engage customers in cocreating personalized experiences. Companies will also need to revise some of the traditional mechanisms of the marketplace--pricing and billing systems, for instance--to account for their customers' new role.