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Managing Networked Businesses

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1 Managing Networked Businesses
DEAS Seminar Series December 8, 2005 Tom Eisenmann

2 Platform-Mediated Networks
Network User A Network User B Platform Provider

3 Definitions Two interacting principals, called network users, access—through one or more intermediaries called platform providers—a common platform that facilitates the users' exchange. Network effect: Evident when a network’s value to a user depends on the number of other users with whom they can interact A platform encompasses infrastructure (e.g., hardware, software, communications networks), standards that ensure compatibility between infrastructure elements, and rules (sometimes expressed in contracts) that specify transaction terms and the rights and responsibilities of network participants.

4 Example: eBay’s platform includes:
Browser and Internet access (provided by 3rd parties) Registration process Website design (e.g., categories) Rules for bidding Bid tracking software Dispute resolution processes Links to PayPal (a payment platform owned by eBay) Feedback system Much more

5 Platform Roles: Sponsors and Providers
Platform providers facilitate network users’ access to platform Platform sponsors do not deal directly with users; rather, they hold property rights that determine: Who may change the platform’s technology Who may serve as provider Platform sponsors often serve as platform providers, e.g., Apple Mac, Skype, eBay

6 Platform Sponsorship Unsponsored platforms evolve through the collective action of many parties Examples: Internet, power grid Sole versus joint sponsorship Sole sponsor examples: eBay, Skype, Macintosh Joint: multiple parties share sponsorship through joint ventures, consortia, or associations with procedures for securing agreement, e.g., IEEE sponsorship of ; Java Community; realtor association

7 Proprietary vs. Shared Platforms
Proprietary platforms have a single provider -- often its sole sponsor (e.g., Skype, Monster.com) Shared platforms have multiple providers Jointly sponsored platforms are often shared (e.g., DVD; VISA; real estate association) A sole platform sponsor may license rights to serve as provider to multiple parties (e.g., Scientific-Atlanta set-tops; MBNA American Express card)

8 Categorization Based on Extent of Mutuality
Proprietary Shared Unsponsored (None, by definition) Internet Gas-powered cars Electric power grid Jointly Sponsored NYSE Careerbuilder DVDs, VHS Wi-Fi Universal Product Code VISA Java, Linux Real estate association Sole Sponsor eBay Macintosh Monster.com Skype Federal Express Adobe PDF Scientific-Atlanta set-top box American Express card

9 We can categorize platforms based on:
Extent of Mutuality: Sole vs. Joint Sponsorship; Proprietary vs. Shared Function: Connectivity, Complements, Matching Structure: One-, Two-, Three-Sided

10 Categorization Based on Platform Function
Connectivity network: platform facilitates point-to-point exchange of information, physical goods, or passengers (e.g., fax; IM; Federal Express; railroads) More points connected  more valuable network  more points connected  etc. Complement network: platform good is required to access variety of complements (e.g., console + games; credit card + merchant locations; fuel cell cars + refueling stations) More/better complements  more users of platform good  more/better complements  etc. Matching network: platform helps match potential transaction partners (e.g., eBay; NYSE; nightclub; talent agent) More buyers  more sellers  improved odds of suitable transaction and/or reduced price volatility  more buyers  etc.

11 Categorization Based on Platform Structure
“One-sided” networks: Most users regularly play both transaction roles, e.g., ers send and receive; stock traders buy and sell “Two-sided” networks: Most users are permanent members of one distinct group — a “side” — which transacts with a second group, e.g., gamers and developers; job seekers and recruiters Cross-side network effects are usually positive (e.g., job seekers prefer more recruiters, and vice versa), but can be negative (e.g., TV ads) Same-side network effects can be positive (e.g., value from sharing DVDs with friends); negative (e.g., job seeker prefers fewer closely-matched rivals); or neutral (e.g., job seeker doesn’t care about seekers who are hunting for other types of jobs) “Three-sided” networks: Many media businesses facilitate interactions between viewers/readers, advertisers, and 3rd party content providers

12 Our domain does not necessarily encompass:
Physical networks (e.g., gas utilities) Social networks (e.g., your golf buddies) “Ecosystems” comprised of large firms and their most committed suppliers and customers (e.g., Wal-Mart, Toyota)

13 Why study platform-mediated networks?
Comprise a large and growing share of global economy. Not just computers/media/telecom/Internet, but also: Financial services, e.g., ATMs, credit cards, stock exchanges Transportation, e.g., package delivery, fuel cell cars Retail, e.g., shopping centers, bar codes Energy, e.g., grid + appliances, wholesale power markets Health care, e.g., HMOs Confront distinctive management challenges

14 Distinctive Challenges
Strategic decisions are very complicated due to: “Multi-sidedness” of most networks Bifurcation of platform roles: sponsor and provider Mixed motivations: cooperation, conflict Concepts are new: academic research on “two-sided” networks only began five years ago Mistakes are common and can be fatal Yahoo, Amazon failed in U.S. auctions; eBay failed in Japan Collusion by NASDAQ market makers led to $1 billion SEC fine and set stage for ECN competition With Macintosh, Apple “forfeited 20th Century’s biggest business opportunity” Priceline tried to extend “name-your-own-price” model to groceries, resulting in $360 million loss

15 Distinctive Challenges, cont’d
Business Model Design Winner-Take-All Dynamics Platform Envelopment

16 Business Model Pop Quiz: Sexism Aside, Why Do Nightclubs Offer “Ladies’ Night” Pricing?

17 Which side should be charged in a two-sided network?
Assume marginal cost = 0 Case 1, with no network effect: monopolist prices each product to maximize P x Q Case 2, with network effect, shows how demand for products “A” and “C” each would grow (vs. Case 1) if quantity consumed on the other side increased due to a zero price Side C should be priced at zero if: ((P’A x Q’A) - (P*A x Q*A)) > (P*C x Q*C) Rule: Charge side that most highly values growth on the other side Nightclub pricing: “Men prefer quantity, women prefer quality”?!?

18 Winner-Take-All: Two Questions
#1: Will a WTA outcome prevail, i.e., will almost all network users affiliate with a single platform? Strong network effects increase WTA odds If not, we will observe one of the following outcomes: Multi-homing: most users on a given side affiliate with multiple platforms, e.g., credit cards; media players Mono-homing: most users on a given side affiliate with only one of several competing platforms, e.g., video game consoles; online subscription music sites #2: If a single platform prevails, will it be proprietary to a single firm, or shared by multiple firms?

19 Market Structure Examples

20 Credit Cards: Multi-Homing
WTA Potential? PDF: WTA Credit Cards: Multi-Homing Multi-Homing Cost High for document producers Low for readers Low for both sides, i.e., card holders and merchants User Demand for Transaction Partner Variety High for both sides User Demand for Differentiated Platform Functionality Low due to WYSIWYG; advanced functions can be provided selectively High: revolving vs. charge (i.e., pay-in-full with no preset limit)

21 If WTA, for Fighting vs. Sharing Compare Market Size x Market Share x Margin
If Fighting: If Sharing: Market Size Fear of stranding delays adoption Maximal network effect Market Share 100% or 0%! Depends on cost position, distribution, etc. Margin Monopoly pricing Upfront R&D, marketing cost Competition focused mostly on price?

22 Platform Envelopment Platform providers in separate but adjacent networked markets (A and B) share users Provider B enters A’s Market Provider B bundles products A and B, undercutting provider A’s “money side” Side 1 (subsidy) Side 2 ($$) Platform A Platform B

23 Envelopment in Digital Music
RealNetworks was dominant streaming media software provider in late 1990s Player was free to consumers; content providers were the “money side” Real Player was enveloped by Windows Media Player; WMP server software bundled into NT Real redeployed into Rhapsody subscription music Yahoo! enveloped Rhapsody, bundling Yahoo! Music with portal Yahoo! Music is vulnerable to envelopment by Apple iPod is vulnerable to envelopment by Cingular

24 Other Envelopment Examples
Internet Explorer vs. Netscape Cable- or IM-base VoIP vs. Skype, Vonage Nokia NGage vs. Gameboy Media Center PC vs. Scientific-Atlanta LinkedIn vs. Monster Networking DoCoMo FeliCa vs. credit cards Future? Microsoft Word vs. Acrobat Future? IBM vs. Akamai Future? Google Office vs. Microsoft Office

25 Defensive Strategies Innovate (e.g., Adobe moving from document presentation to document management) Cede and redeploy — preferably through platform envelopment! (e.g., RealNetworks move from streaming media to subscription media) Find a “big brother” (e.g., RealNetworks + Comcast, Cingular in response to envelopment threat from Yahoo et al. in subscription media) Sue (e.g., RealNetworks collects $760 million from Microsoft)


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