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Internet Economics and the Creative Destruction of Telecoms A Fletcher School Short-Course Instituto Superior Tecnico Lisboa, Portugal October 25-26, 2000.

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Presentation on theme: "Internet Economics and the Creative Destruction of Telecoms A Fletcher School Short-Course Instituto Superior Tecnico Lisboa, Portugal October 25-26, 2000."— Presentation transcript:

1 Internet Economics and the Creative Destruction of Telecoms A Fletcher School Short-Course Instituto Superior Tecnico Lisboa, Portugal October 25-26, 2000 Lee W. McKnight Associate Professor of International Communications Paul M. Vaaler Assistant Professor of International Business

2 Goodbye to the Old Regime of Telecoms in the US... 1.1 TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE RBOCs e.g., Bell Atlantic Fringe Players AT&T Carriers Long-Distance MCI/ Local Carriers Structure Dominated by a Heavily- Natural Monopoly Becomes... Telecommunications Industry Regulated, End-to-End and

3 Goodbye to the Old Regime of Telecoms in the US... 1.2 Telecommunications Industry Segments Separated By Regulation and Transformed By Selected Competitive Entry, Which Then Becomes… Broadcasters CBS Fox ABC/ Disney NBC Local Carriers RBOCs e.g.Bell Atlantic RCN Long-Distance Carriers Telco Equipment Suppliers Cable System Operators Time-Warner MediaOne AT&TSprint MCI/WorlCom Cisco Lucent Williams Motorola POST BREAK-UP TELECOMMUNICATIONS INDUSTRY SEGMENTS

4 Broadcasters CBS Fox ABC/ Disney NBC Local Carriers Bell Atlantic RCN Long-Distance Carriers Telco Equipment Suppliers Cable System Operators Time-Warner MediaOne AT&TSprint MCI/WorlCom Cisco Lucent Williams...A Single Super-Industry –Call It Digispace– With Few Intra- Industry Barriers to Entry, Cable, Wireless and Internet-Based Technologies Enabling Entry by Start-Ups, Industry Incumbents And Firms From Other IndustriesThought Previously to Be Unrelated. Excel MediaOne/AT&T MCI Zephyr Cisco Lucent World Com Bell Atlantic/GTE/Verizon RCN Sprint ABC/ Disney Fox CBS Time-Warner Qwest Level3 Motorola Microsoft Williams Enron DIGISPACE Hello to an Emerging New Regime for Telecoms in the US... 1.3 Telecommunications Industry Segments Separated By Regulation and Transformed By Selected Competitive Entry, Which Then Becomes… POST BREAK-UP TELECOMMUNICATIONS INDUSTRY SEGMENTS

5 And The New Regime for Telecoms in the US Means New Corporate Configurations... 1.4 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&Ts Vertically and Horizontally- Integrated Monopoly on the US Telecommunications Industry in The 1970s Drew Legal (Anti-Trust) Challenge. How Would AT&T Compete After the Old Regime Was Destroyed? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE

6 And The New Regime for Telecoms in the US Means New Corporate Configurations... 1.5 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&Ts Vertically and Horizontally- Integrated Monopoly on the US Telecommunications Industry in The 1970s Drew Legal (Anti-Trust) Challenge. How Would AT&T Compete After the Old Regime Was Destroyed? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE AT&Ts Corporate Acquisitions Since Break-Up: National Cash Register (Computers, Equipment) McCaw Cellular (Cellular Technology) TCI (Cable Services) Media-One (Cable Services) New York Local Telephone Services (CLEC) Tracking Stock for Wireless Group (Wireless) DIGISPACE AT&T Digi-Platfirm

7 And The New Regime for Telecoms in the US Means New Corporate Configurations... 1.6 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&Ts Vertically and Horizontally- Integrated Monopoly on the US Telecommunications Industry in The 1970s Drew Legal (Anti-Trust) Challenge. How Would AT&T Compete After the Old Regime Was Destroyed? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE AT&Ts Corporate Acquisitions Since Break-Up: National Cash Register (Computers, Equipment) McCaw Cellular (Cellular Technology) TCI (Cable Services) Media-One (Cable/Internet Services) New York Local Telephone Services (CLEC) Tracking Stock for Wireless Group (Wireless) DIGISPACE AT&T Digi-Platfirm AOL/ Time-Warner Digi-Contentcorp But AT&T is Not Alone..

8 And The New Regime for Telecoms in the US Means New Corporate Configurations... 1.7 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&Ts Vertically and Horizontally- Integrated Monopoly on the US Telecommunications Industry in The 1970s Drew Legal (Anti-Trust) Challenge. How Would AT&T Compete After the Old Regime Was Destroyed? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE AT&Ts Corporate Acquisitions Since Break-Up: National Cash Register (Computers, Equipment) McCaw Cellular (Cellular Technology) TCI (Cable Services) Media-One (Cable/Internet Services) New York Local Telephone Services (CLEC) Tracking Stock for Wireless Group (Wireless) DIGISPACE AT&T Digi-Platfirm1 AOL/ Time-Warner Digi-Contentcorp But AT&T is Not Alone.. Verizon Digi-Platfirm2

9 And The New Regime for Telecoms in the US Means Disruptive Technologies, Rivals and Economics... 1.8 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers RBOCs Became Baby Bells With De Jure and De Facto Protection From Would-Be Rivals What Happened to These Babies? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE

10 And The New Regime for Telecoms in the US Means Disruptive Technologies, Rivals and Economics... 1.9 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers RBOCs Became Baby Bells With De Jure and De Facto Protection From Would-Be Rivals What Happened to These Babies? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE Verizons Story Is Illustrative: Mergers & Acquisitions (e.g., Bell Atlantic, NYNEX, GTE), But… DIGISPACE Verizon Digi-Platfirm2

11 And The New Regime for Telecoms in the US Means Disruptive Technologies, Rivals and Economics... 1.10 RBOCs e.g., Bell Atlantic Fringe Players Local Carriers AT&T Long-Distance Carriers MCI Sprint RBOCs e.g., Bell Atlantic Fringe Players Local Carriers RBOCs Became Baby Bells With De Jure and De Facto Protection From Would-Be Rivals What Happened to These Babies? TRADITIONAL TELECOMMUNICATIONS INDUSTRY STRUCTURE Verizons Story Is Illustrative: Mergers & Acquisitions (e.g., Bell Atlantic, NYNEX, GTE), But… Still Reliant on Legacy Telco Technology Not Next Generation Internet, Wireless Firms Forced by 1996 Act to Allow/Encourage Entry Will DSL Technology Save Verizon? DIGISPACE Verizon Digi-Platfirm2 Zephyr Communications (Niche Internet Telephony For USBusines: 1/9 Verizons Unit Operating Costs Smaller, More Efficient Rivals

12 And the Ancien Regime of Telecoms in Europe... 1.11 In the 1980s, Several Telecoms Were Still Organized Like Political Agencies/Ministries; Some Had Become Corporatized SOEs; A Few Had Been Privatized; None Faced Real Competition. 20 Years On… Italy Telecom Italia France France Telecom Spain Britain Germany Deustche Telekom Telefonica British Telecom EVEN MORE STAID, AND STATE-DOMINATED THAN IN THE US Mercury

13 Has Been Replaced by Telecoms Industry Revolutions... 1.11 In the 1980s, Several Telecoms Were Still Organized Like Political Agencies/Ministries; Some Had Become Corporatized SOEs; A Few Had Been Privatized; None Faced Real Competition. 20 Years On… Meaningful Privatization, Liberalization Profitability Focus Cross-Border Investment (and Investors) Assertive Corporate Overseers Internal Diversification, Spin-Offs Organizational, Technological Experimentation (Alliances, WAP, GSM) Italy Telecom Italia France France Telecom Spain Germany Deustche Telekom Telefonica MORE VARIED EXPERIMENTATION, MORE PROFOUND RATE OF STRUCTURAL CHANGE COMPARED TO US Britain British Telecom Mercury Smaller National Wireless Firms Larger Regional Wireless Firms Attempted Alliances Attempted Mergers

14 1.12 Creative Destruction of Telecoms n Schumpeter Meets the Globalizing Internet Economy: –New Technological, Competitive, Organizational and Institutional Arrangements in the Industry Destroy Traditional Positions and Create New, More Fluid Ones. Telecoms Must Identify, Cope, Encourage and Exploit this Dynamic. –Survival Is At Stake: Death of the Lethargic; Riches for the Internet-Agile (Not Internet-Dependent).

15 1.13 Creative Destruction of Telecoms n Schumpeter Meets the Globalizing Internet Economy: –New Technological, Competitive, Organizational and Institutional Arrangements in the Industry Destroy Traditional Positions and Create New, More Fluid Ones. Telecoms Must Identify, Cope, Encourage and Exploit this Dynamic. –Survival Is At Stake: Death of the Lethargic; Riches for the Internet-Agile (Not Internet-Dependent). n General Trends for Creative Destruction and Telecoms: –The Destruction of Traditional Industry Positions –The Destruction of Traditional Competitive Dynamics –The Destruction of Traditional Regulatory Approaches –The Destruction of Traditional Organizational Structures –The Destruction of Traditional Technological Cycles –The Destruction of Traditional Social Assumptions

16 1.14 Outline of Sessions n Organized into Two Sessions Today (Morning, October 25): –This Session: The Concept of Creative Destruction and Implications for Telecoms Industry. –Later This Morning: Responding to Creative Destruction in the Telecoms Industry with Innovation: Products, Technologies and Organizational Forms. n Organized into One Additional Application Session Tomorrow (Late Morning and Afternoon, October 26): –Tomorrow: Simulated Negotiated Equity Offering to Foreign Investors Interested in Privatizing State-Owned Telecoms: Anatolia National Telecom. n Teaching Aims of These Sessions –Teaching Aim 1: Provide Conceptual Overview of Current Issues Upending Telecoms Industry and Compelling Managerial and Policy Changes –Teaching Aim 2: Apply Those Issues in Case Forcing Students to Value (Quantitatively and Qualitatively) Their Impact on Firms and States.

17 Internet Economics and the Creative Destruction of Telecoms A Fletcher School Short-Course Instituto Superior Tecnico Lisboa, Portugal October 25-26, 2000 The Creative Destruction of Telecoms Lee W. McKnight Associate Professor of International Communications Paul M. Vaaler Assistant Professor of International Business

18 What Is Creative Destruction? 2.1 The Concept: New Configurations That Change (Favorably) A Firms Production Function. Innovation vrs. Invention Subjective Definitions Ad-Man Mis-Applications

19 What Is Creative Destruction? 2.2 The Concept: New Configurations That Change (Favorably) A Firms Production Function. Innovation vrs. Invention Subjective Definitions Ad-Man Mis-Applications Applications: Describe Individual Firm and National Rivalry. Explain Changes In Industry Structure (Monopoly vrs. Non- Monopoly Structures). Justify Intellectual Property Protection Regimes.

20 What Is Creative Destruction? 2.3 The Concept: New Configurations That Change (Favorably) A Firms Production Function. Innovation vrs. Invention Subjective Definitions Ad-Man Mis-Applications Applications: Describe Individual Firm and National Rivalry. Explain Changes In Industry Structure (Monopoly vrs. Non- Monopoly Structures). Justify Intellectual Property Protection Regimes. Schumpeterian Articu- lation in 1930s-1940s Neo-Schumpeterian Revival (*Helpman,1998) *Helpman, E. (ed.) (1998), General Purpose Technologies and Economic Growth, MIT Press, Cambridge, MA,

21 Market and Industry Concepts 2.4 Market: Groupings of Firms Whose Products Are Close Substitutes from Consumers Perspective. Industry: Groupings of Firms with Same or Similar Products or Production Technologies from Suppliers Perspective

22 Market: Cross-Price Elasticity of Demand Industry: Standard Industrial Classifications (SICs). 1-digit: 1 = Primary (Mining) 2-3 = Secondary (Industrial) 4-7 = Tertiary (Services) Usually Means 4-digit SICs 3652 = Telephony 3623 = Semiconductors E c = dQ x * P y dP y Q x High Elasticity (+ or -) Implies Inclusion in Same Market. Low Elasticity Implies Separate Markets Also Think About Naïve Concepts of of Market and Industry Definition: Ask Experts, Geography, Inspection Market and Industry Measures 2.5

23 Market and Industry Measures 2.6 Elasticity as Customer Loyalty in the Internet Economy

24 Structure-Conduct-Performance Model: Explained Main Point: Structure Is Mainly About the Number of Firms In the Industry. Few Firms Mean the Ability to Coordinate on Price, Quantity and Certain Strategic Levers, and the Ability to Erect Entry Barriers and Gain Above Normal Returns Compared to Other Less-Concentrated Industries Concentration Ratio (CR4) 25% 50% 75% 100% 12345Firms % Sales First 4 Firms in Industry (CR4) Comprise 77% of Industry Sales Hirfendahl-Hirschman Index (HHI) Sum the Squared Firm Market Shares: s i 2 The higher the HHI number the more concentrated (and potentially collusive) the industry is. Conclusion: Structure-as- Concentration Matters Market and Industry Measures 2.7

25 5-Forces Expansion of the Entry (Mobility) Barriers Concept Industry Rivalry Customers Substitutes Suppliers Potential Entrants Each Relationship Mediated by Barriers and Bargaining Power Primus Inter Pares Market and Industry Analytics 2.8

26 *Firms within an Industry Using Same or Similar Strategies and *Enjoying Same or Similar Performance. *Industry Entry Barriers Are Low *Intra-Industry Mobility Barriers Are High Intra-Industry Strategic Groups Market and Industry Analytics 2.9

27 Intra-Industry Strategic Groups in Revolutionary Europe Market and Industry Analytics 2.10

28 Common Problem with Traditional Market and Industry Analytics Structure Conduct Performance 5 Forces Potential Entrants Customers Substitutes Suppliers Incumbents All Three Models Assume that Structural Factors at Industry or Sub-Industry Level are Fixed. Creative Destruction Implies Greater Structural Fluidity, Industry Heterogeneity 2.11

29 Telecoms Digispace Fluidity In Telecoms Digital Industry Space, Entry and Mobility Barriers Rise and Fall Unpredictably. What If France Telecom Spins Off: Media Phone-Book Wireless Fixed Line Network 2.12

30 Telecoms Digispace Fluidity In Telecoms Digital Industry Space, Entry and Mobility Barriers Rise and Fall Unpredictably. What If Smaller Privatizing Telecoms Ally or Partially Merge : Scale Economies Regional Scope Economies 2.13

31 Digispace Trends: Movt Towards Content Infrastructure Software/Content Other Wireless Firms NTT- Do-Co-Mo Industry Segment Becomes More Competitive and Less Profitable: Managers Look for New and More Profitable Segments 2.14

32 Digispace Trends: Movt towards Content Infrastructure Software/Content Other Wireless Firms NTT- Do-Co-Mo Mobility Barriers Suddenly Fall: Managerial Insight; Low Cost Design Assets 2.15

33 Digispace : Cognitive Creative Destruction Cisco Lucent AT&T Bertelsmann Bell Atlantic- Verizon Anderson Consulting Alcatel Toshiba 3Com Sony IBM TCI Intel Time Warner McCaw Viacom Computer Associates Motorola NBC New York Times Canon Hitachi NEC Kodak Matsushita Nintendo Hughes Polygram Apple Lotus Netscape Silicon Graphics Oracle Microsoft Siemans Disney Software Solutions Networking Equip Entertainment Internetworking Software Imaging/Display Communications Services EDS 2.16

34 Strategic Managers Make Investments Based on View of Industry and Sub-Industry Structures......And in the Process, They Change the Structure for Their Direct and Indirect Rivals Bottom Line: Strategic Managers Recognize That Telecoms Industry and Sub- Industry Structures are Increasingly Turbulent Due Even to Managerial Cognition Digispace : Cognitive Creative Destruction 2.17

35 The Importance of Unstable Turbulent Factors for Business Unit Performance How much of the Variance in Profits of a Business are Explained by: 1. Macro-Economic Factors 2. Corporate Factors 3. Stable Industry Factors 4. Stable Strategic Group Factors 5. Stable Business Unit Factors 6. Turbulent (Year-to-Year) Industry Factors 7. Turbulent Strategic Group Factors 8. Turbulent Business Unit Factors Data: U.S. FTC Line of Business Data (U.S. Firms) Data: French Sesame Business Data (French Firms) Data: US Compustat Industry Segment Data (U.S. Firms) 2.18

36 The Importance of Unstable Turbulent Factors for Business Unit Performance Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon Stable: ME1.___C2. ____ I3. _____ SG4. _____ BU5. ____ Turbulent: I6.___SG7. ____ BU8. _____ 2.19

37 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. ____ I3. _____ SG4. _____ BU5. ____ Turbulent: I6.___SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

38 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. _____ SG4. _____ BU5. ____ Turbulent: I6.___SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

39 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. _____ BU5. ____ Turbulent: I6.___SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

40 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. ____ Turbulent: I6.___SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

41 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6.___SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

42 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6. 17%SG7. ____ BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

43 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6. 17%SG7. 35% BU8. _____ Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

44 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6. 17%SG7. 35% BU8. 29% = 100% Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.19

45 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6. 17%SG7. 35% BU8. 29% = 100% Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.20 Bottom Line: In Turbulent Industries Short-Term Intra-Industry Group Structures (e.g., Alliances), and Short-Term Idiosyncratic Business Unit Factors Matter Most.

46 The Importance of Unstable Turbulent Factors for Business Unit Performance Stable: ME1. 1% C2. 8% I3. 2% SG4. 4% BU5. 4% Turbulent: I6. 17%SG7. 35% BU8. 29% = 100% Verizon Wireless Communications Telecoms Wireless BA-GTE--Verizon 2.21 Bottom Line: In Turbulent Industries Short-Term Intra-Industry Group Structures (e.g., Alliances), and Short-Term Idiosyncratic Business Unit Factors Matter Most. Surprisingly, Corporate Effects Matter Little

47 2.22 Creative Destruction and the Telecoms Industry: Implications n For Managers: –Creative Destruction As Risk/Opportunity-Filled Dynamic Driven by More Than Just Technology. Organizational Even Cognitive Drivers Matter. –The Fluidity of Industry-Wide Factors, and the Relative Unimportance of Industry Structure and Corporate Strategy/Management. –Focus on Transitory Group and Individual Business Unit Factors As the Industry Changes. Experimentation Within Corporation Is Brief. Spin-Off Happens Sooner Than We Think. n For Policy-Makers: –Industry Regulatory Approaches Have Fewer Broad, Long-Term Effects on the Entire Industry. Effects Tend to Vary Substantially Across Intra-Industry Groups, and Even More Across Individual Businesses in the Groups. –The Cost of Regulatory Avoidance May Be Low. When There Is a Choice Between Less or More Regulation, Choose Less. Market Dynamics Will Exert Its Own Discipline Helpful to Economy.

48 Internet Economics and the Creative Destruction of Telecoms A Fletcher School Short-Course Instituto Superior Tecnico Lisboa, Portugal October 25-26, 2000 Responding to Creative Destruction Lee W. McKnight Associate Professor of International Communications Paul M. Vaaler Assistant Professor of International Business

49 3.1 Creative Destruction and the Telecoms Industry: Firm Responses n Firm Responses: –Privatizing and Deregulating Telecoms to Induce Search for Efficiency and Opportunity –New Product Pioneering: First-Mover Advantages and Disadvantages in Creative Destruction n Implications and a Glance At Tomorrow –What Are the Implications for Managers and Investors Seeking to Create and Measure Value? Valuing the Privatizing Telecoms in an Emerging Market. –Negotiating For Value Creation in the Creative Destruction of the Telecoms Industry: The ANT Simulation

50 3.2 Privatization: What Is It? Shift In Control and Ownership Rights From State to Private Hands

51 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) 3.2

52 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) Overall Revenue for State-Owned Monopolist 3.3

53 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) Overall Costs for State-Owned Monopolist 3.4

54 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) Overall Revenues for Private Monopolist 3.5

55 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) Overall Costs for Private Monopolist Overall Profits for Private Monopolist 3.6

56 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) 3.7

57 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Welfare Gain From Productive Efficiency Increase Due To: 1) Simplified and Alligned Incentives. 2) Market for Managerial Talent 3) Highest Use (for Shareholders) of Assets Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) 3.8

58 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Welfare Gain From Productive Efficiency Increase Due To: 1) Simplified and Alligned Incentives. 2) Market for Managerial Talent 3) Highest Use (for Shareholders) of Assets Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) 3.9

59 Privatization: Economic Theory Costs and Revenues 0 Demand Price (Private Monopolist) Marginal Cost (MC=AC) (State-Owned, Welfare Maximizing) Marginal Cost (Private-Owned Profit Maxing) Quantity Produced (Private (State Monopolist) Marginal Revenue Welfare Gain From Productive Efficiency Increase Due To: 1) Simplified and Alligned Incentives. 2) Market for Managerial Talent 3) Highest Use (for Shareholders) of Assets Welfare Loss From Allocative Efficiency Decrease Due To: 1) Diminution of Non-Shareholder Interests 2) Drop Less Profitable Routes Price (State Monopolist) Important Model Assumptions: Price and Quantity Marginal Cost Meets Demand (For State-Regulated Monopolist) Price and Quantity Marginal Revenue Meets Marginal Cost (For Unregulated Private Monopolist) 3.9

60 Privatization: Economic Theory n The Organizational Effects: –Lower Employment: In Line With Curtailed Production in Established Lines of Business. Also, Former-State-Owned Enterprises Often Have Highly-Unionized, High-Cost Labor –Capital Investment: In Line With Increased Productive Efficiency in Established Lines of Business. Also, Former-State-Owned Enterprises Often Have Legacy of Constrained Choice in Capital Investment Suppliers –Corporate Diversification: Harder to Explain. Management Reaction to Environmental Uncertainty. Diversify Into Related and More Profitable Industries (Good). Diversify Internationally to Make Re-Nationalization More Difficult (Good/Bad). Diversify Either Way Because of Managerial Ignorance and or Hubris and Poor Shareholder Oversight (Bad) 3.10

61 Privatization: Organizational Theory Executive Management Line Management Looking Out for Enterprises Interests (Agents) Enterprises Board (Corporatized or Newly-Privatized) Looking Out for Firms Interests (Principals) 3.11

62 Privatization: Empirical Implications Executive Management Line Management Looking Out for Enterprises Interests (Agents) Enterprises Board (Corporatized or Newly-Privatized) Looking Out for Firms Interests (Principals) Implication 1 But The Board May Have State Representatives Ultimately Responsible to a Minister Rather Than to Private Individual or Institution. Result: Misalligned Incentives and Poor Oversight of Management Other Implications Lingering State Ownership May Be Positively (Shleifer & Vishny, 1998) or Negatively (Vaaler, 2000) Correlated With Performance. 3.11

63 Whats A New Product Pioneer? An Example From Router Business The Inventor: IBM Invented Router Technology for the Internet in the mid-1980s... The First Entrant With a Model for the Military and Government: But… Cisco Bought Router Technology, Mass-Marketed It in the 1990s…and Won. The First to Enter and Invest in Complementary Assets (Pioneer): Distribution ChannelsDistribution Channels Components Manufacturing AgreementsComponents Manufacturing Agreements Marketing and Equipment StandardsMarketing and Equipment Standards 3.12

64 First Mover Advantages Case 1 Case 2 Innovation: Rankings: 1st 2nd 3rd 4th Micro-Miniature Cell Phone 2nd Generation Cell Phone Learning Curve Barriers Pre-emption Barriers Behavioral Barriers Scale Economies Barriers Pre-emption Barriers Learning Curve Barriers 3.13

65 Understanding First Mover Advantages Conceptual Framework Environmental Opportunity 3.14

66 Understanding First Mover Advantages Conceptual Framework Environmental Opportunity First Mover Resources Capabilities Competitive Strategy Late Entrant Resources Capabilites Competitive Strategy 3.14

67 Environmental Opportunity First Mover Resources Capabilities Competitive Strategy Late Entrant Resources Capabilities Competitive Strategy First Mover Positional Advantages CostDifferentiation Learning Curve Behavioral Reputation Switching Cost Scale Economies Preemption Legal Non-Legal Understanding First Mover Advantages Conceptual Framework 3.14

68 Environmental Opportunity First Mover Resources Capabilities Competitive Strategy Late Entrant Resources Capabilites Competitive Strategy First Mover Positional Advantages CostDifferentiation Learning Curve Behavioral Reputation Switching Cost Scale Economies Pre-emption Legal Non-Legal Late Entrant Advantages imitation costs free-rider effects shifting industrial and techno- logical factors learning from first mover Understanding First Mover Advantages Conceptual Framework 3.14

69 Environmental Opportunity First Mover Resources Capabilities Competitive Strategy Late Entrant Resources Capabilites Competitive Strategy First Mover Positional Advantages CostDifferentiation Learning Curve Behavioral Reputation Switching Cost Scale Economies Pre-emption Legal Non-Legal Late Entrant Advantages imitation costs free-rider effects shifting industrial and techno- logical factors learning from first mover Overall Magnitude of competitive Advantage First Mover Performance -Profits-Market Share -Pricing-Other + +++ - +- Understanding First Mover Advantages Conceptual Framework 3.14

70 What if Two Pioneers Innovate Simultaneously But With Incompatibility? The Hold or Fold Game British Satellite Broadcasting (BSB) vs. Sky Television In the 1980s. Fog of War - Establishing Standards - Guessing Your Rivals Intent - Reputation for Toughness 3.15

71 What if Two Pioneers Enter A Turbulent Industry at the Same Time? The Hold or Fold Game Some of the Fog of War Is Irreducible, But: Reputations May Be Built Uncertainty Can Be Used Against Rivals 3.16

72 Key Implications: Creating and Measuring Value in Telecoms 3.17

73 Key Implications: Creating and Measuring Value in Telecoms 3.18 Given the Turbulence Engendered by Creative Destruction We Are Less Interested in Any One Right Point Estimate of Value. We Are More Interested in Understanding the Range of Reasonably Foreseeable Valuations for the Enterprise

74 Conclusion of the Presentation n Todays Two Sessions Today (Morning, October 25): –Point 1: The Telecoms Industry Concept Requires Revision to Remain Relevant to Strategic Decision-Making. –Point 2: In Some Telecoms Industrial Contexts the Strategic Manager Can Influence the Currents of Creative Destruction Through Structural Transformation (Privatization) and Through Strategy Transformation (New Product Pioneering). –Point 3: In Many Other Contexts, the Strategic Manager Can Only Plan for Creative Destruction Without Knowing its Specific Direction. n Organized into One Additional Application Session Tomorrow (Afternoon, October 26): –Session 8: Simulated Negotiated Equity Offering to Foreign Investors Interested in Privatizing State-Owned Telecoms: Anatolia National Telecom. –Teaching Aim: Give You the Opportunity to Apply Creative Destruction Ideas to Valuation, Management and Policy Issues Associated with Telecoms Enterprise Privatization in Emerging Economies 3.20


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