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How Profits Shift when the Basis of Competition Shifts

Aroop Gupta, 9/20/2016

Integration and modularity have been key approaches to success and failures of firms in different contexts. The theory calls for a modular approach when the functionality is good enough (measured on the performance parameters of basis of competition) and an integrated approach in the exact opposite circumstance.

However what I want to draw your attention to is how the ability to command a premium shifts while moving from an integrated to modular approach. The ability to command a premium shifts to entities in the value network that addresses a new ‘Job’ of the consumer and integrates around it. This despite the fact that these entities may be built on top of the value network of the original technology. Apple’s iPhone is an example of this.

If we go back in the history of the mobile phones, we discover that they were born out of a struggle to stay connected on the go. The earliest of phones were bulky, had limited functionality, and making calls were expensive. The early performance parameters were voice clarity and less call drops. In such a scenario, it made perfect sense for telecom operators to integrate along with the handset providers. However as the functionality improved along the original performance parameters, consumers started wondering what else could they do with this device in their hand.

There were some attempts to address unmet jobs in the late 1990’s to early 2000 and both handset providers and network providers participated in addressing the Jobs. From handset providers side came multimedia phones offering cameras and music. Early multimedia phones like Blackberry and Nokia Communicator also offered high performance demanding consumers to check emails and manage calendars on the go. Network providers also introduced value added services, such as Blackberry services and information services that were in response to sending text messages. As this was occurring, the entities that were able to address consumer ‘Jobs-to-be-done’ were better able to command a premium. Like Blackberry and Nokia Communicator handsets commanded a price premium. However the struggle still remained in the form of being dependent on applications and services that were developed by the providers.

The real big change emerged in the year 2007 when Apple introduced and i-Phone. To put it in Steve Job’s words it was “An iPod, a phone, and an Internet communicator.” It opened up the doors to a multiple Jobs that the consumer could do when paired with its value network – the Apps store. The Apps store provided a platform that any software developer could use to come up with an App focused to address a ‘Job’. The i-Phone on the other hand was as good as a mini computer which ensured that these applications ran smoothly on the consumer’s end. It was this integration of the device with the Apps store that allowed the phone to command a premium price and even after nearly a decade, each new version of the iPhone still commands a premium price.

So what happened to the premiums of network service providers while the iPhone was on the rise? One would assume that given their important role in the value network they too should be able to command a premium. After all, a smartphone would have to drop its ‘smart’ tag without a mobile or broadband network. To understand this a little bit let’s take a look at the mobile network providers market of UK. While the prices of a basket of mobile services were in the decline since 2003, one would imagine that the introduction of iPhone would arrest the decline. However despite innovations in mobile broadband space, the decline continued. Between 2003 and 2012 prices of a bundle dropped nearly 40%. Because the network service providers were not integrated around the value network consumers cared about, prices dropped accordingly.

There may be similar patterns in other industries as well. The technology that created an industry has little ability to command a premium once its performance is good enough. In such a circumstance, the focus shifts to an entity that the integrates around the new ‘Job to be Done’ of a consumer and the profits follow integration. Think about it: do you pay for the engine of a car or do you pay for the Jobs that the car helps you get doner? Despite the fact that the engine is the most important component in the functioning of the car, your consumer behavior indicates where price premiums will go.

Please refer to the attached pdf for data points and analysis.