Title: Changing Industry Ecosystems: How Firms Adapt, Position, Compete, and Organize Discipline: Strategy Date: 01/2005 Download: DOWNLOAD PAPER Executive Summary: Changing Industry Ecosystems: How Firms Adapt, Position, Compete, and Organize Industries can be viewed as economic complex adaptive ecosystems—a complexity science view of industry. The evolution of an industry’s life cycle and the potentially disruptive change imposed on it by outside forces, specifically technological change, are blended together to illustrate the interdependencies of firms—their strategies, organization structures, and competitive reactions to each other. For a firm, knowing where they are positioned in an industry’s environment —Fast Growth; Wild, Wild West; Steady Evolution; and Creative Destruction—can lead to strategies for more effectively competing in their industry’s ecosystem. The research by strategy professor David Lei and Chair of Management and Organizations John Slocum offers insights which may help explain what one’s competitors are doing and why. Conversely, the relationship between and importance of strategy and organization structure can be connected in a way that is meaningful to managers operating and making decisions in the different industry ecosystems. The Nature of Change The life cycle stages of an industry and the rate of technological change are two drivers that have significant impact on industry evolution and an industry’s ecosystem distinguished as: Fast Growth; Wild, Wild West; Steady Evolution; and Creative Destruction. Although firms in an industry ecosystem compete with one another for customers, they are also highly interdependent in the sense that they share the same changes that affect an industry over time.  The parallel growth and decline of semiconductor, telecommunications, and even Internet-based “dot.com” firms during the late 1990s reveals to an amazing degree the shared fate that tied these firms together within their respective industry ecosystems.  Lei explained, “This way of viewing an industry in a sense helps you understand and stay engaged in the nature and kind of change you can anticipate.” Change is often gradual and highly predictable as product and process technologies follow a well-defined progression.  However, industries are subject to periods of “disruption,” whereby new technologies can redefine an industry’s structure in unpredictable ways.  Disruptive technologies which characterize the creative destructive environment can “shake up” a dominant design (i.e., way of conceiving and commercializing a product/service offering) and established firms to such an extent that an entire industry can be transformed in a short time. For example, the latest advances in medical technology have raised considerable hope that entirely new forms of treatments and less-invasive surgical procedures will be developed shortly.  These technologies would provide entirely new treatment regimens that represent bold opportunities for the rise of new firms. More often than not, a new technology destabilizes the industry’s pre-existing equilibrium and a transformed industry ecosystem replaces it.  In recent years, for example, this pattern has emerged numerous times within several different industries, such as photography, telecommunications, and financial services. “For example, Merrill Lynch was faced with e-trading at a time when stock trading was (and still is) a huge portion of their profit sanctuary. When part of your profit sanctuary disappears because it becomes a commodity-like business, it forces you to reframe and revamp all things connected to it,” Lei stated. “The impact of such change can have cataclysmic or cascading effects on all things connected to it.” Each of the industry ecosystems generates a different set of strategic imperatives for managers. To operate effectively in each type of industry environment, managers may select among four business strategies:  Concept Drivers, Pioneers, Consolidators, and Concept Learners (see Industry Ecosystems chart). These ‘archetypes’ have strategies and organization structures which are inherent because of the state of the industry and the change which is occurring. Lei explained, “Strategy is about choices and selection; the nature of the competitive environment shapes, constrains, and molds the possible types of strategies that can emanate from that particular environment.” Strategy and Competing in Different Ecosystems These strategic archetypes are focused at the line of business level within the firm. Firms facing an ecosystem characterized by steady evolution are driven towards crafting business strategies that align with the Consolidators. They have developed a broad-line of standard products for customers and focus primarily on cost reduction and scale.  Conversely, pioneers that aggressively pursue new technologies and strive to be first-movers in the marketplace tend to dominate the Wild, Wild West. For example, Ampex (a pioneer) developed the first video recorder, but JVC and Sony (both consolidators) eventually mass-produced it. Similarly, Bowmar (a pioneer) created the first pocket calculator, but Texas Instruments (consolidator) captured the mass market because of its distinctive manufacturing competency.    While each archetype tends to be focused on doing one thing extremely well, each firm positions itself to exploit an ecosystem.  That is, they create competencies and complementary assets to take advantage of their strategy. In the research, a unified strategic framework developed by Hambrick and Fredrickson is used to analyze the strategic pillars used by a firm to compete. Some compelling patterns and differences emerge that exist across the four ecosystems: Concept Drivers Concept drivers are firms competing in fast-growth industries that create a value proposition which is highly differentiated from those of its rivals.  Brinker International and Discount Tire are examples of concept drivers that have created and shaped a core product concept that enables them to achieve a competitive advantage.  These firms invest heavily in market research and product R&D to craft a product or service design that is highly replicable or “scalable” across markets. Building and extending their competitive advantage is oftentimes through internal development and related acquisitions to complement their existing product lines. Brinker’s acquisition of The Corner Bakery was synergistic because it had operations, such as Chili’s, On The Border and Romano’s Macaroni Grill. Brinker was able to replicate its supply chain, logistics systems, hiring practices, market research capabilities, and other competencies to service this new arena. Centralization of key processes, such as merchandising, logistics, inventory management, purchasing, and human resources are important to achieve consistency of operations.  However, a strong product focus may sometimes reward managers to become overly focused on their individual units’ performance at the expense of the overall firm. If growth and expansion are not carefully managed, there is a high risk of excessive product proliferation that may actually confuse the customer, cannibalize the unit’s offerings, and bring out products that are not needed.   Pioneers Pioneers are risk-takers that thrive in highly uncertain, dynamic environments where barriers to entry and exit are often quite low. In addition, pioneers face a high degree of uncertainty regarding customer expectations. These firms are often small and possess a deep knowledge about leading-edge technologies. Pioneers rely on agility and speed of product development to create bold new product ideas that keep competitors from copying their initiative. For example, Chicopee Mills first introduced the disposable diaper in 1932. By 1956 only one percent of the market was buying them because of the cost – around $.09 per diaper. In 1962, Procter & Gamble acquired the company. Through their efficient marketing and manufacturing capabilities, P&G drastically reduced the cost to less than $.03 per diaper. Today, Pampers commands 15% market share of this $19 billion market. Pioneers need to keep their R&D wellsprings full with a continuous flow of new ideas and emerging technologies to create opportunities for application in numerous product markets by other firms. Pioneers are particularly attractive acquisition candidates for established firms seeking to learn and to build entirely new core competencies, like P&G did with Chicopee Mills. However, they often represent a difficult cultural and organizational fit with the management practices and routines that are embedded in an established firm’s organization. Pioneers tend to populate those fast-moving industries driven by high levels of R&D spending and fast product innovation. Pioneer companies such as Vonage, 8x8, and others have begun offering Voice-over-Internet-Protocol (VoIP) technology that enables savvy users to place long-distance calls over the Internet. With many large corporate buyers as heavy users of VoIP technology, Vonage and 8x8 are directly challenging established long-distance firms, such as AT&T and MCI, with their dramatically lower costs and ease of network installation. These pioneer firms have started discussions to form marketing and technology development alliances with Regional Bell Operating Companies to learn more about users’ needs. Leadership in pioneer firms tends to be highly dependent on a singular-focused CEO who may become overly “wedded” to a particular technology or product design at the risk of ignoring other developments or trends in the industry. With organic structures, R&D-driven cultures, and few manufacturing capabilities, these firms can accelerate the pace and scope of their product innovations. Focusing on leading-edge technologies whose ultimate market applications are unknown, they face the risk of “technological overkill” and often reveal a lack of marketing competencies. Consolidators With mature life cycles in the midst of slow growth,  consolidators seek to maximize the benefits of cost and process efficiencies in their attempt to garner industry-wide economies of scale.  Wal-Mart and CVS in the retailing industry and Lenovo in electronics and PC manufacturing in China are examples of consolidators. “Do not be first, be the best” captures the zeitgeist of these firms. Consolidators frequently attempt to work closely with their core suppliers to share the risks of future product development and new market entry. Consolidators may even look to their suppliers not only for necessary inputs, but also as an outsourcing platform in taking on a greater role (and cost) in the firm’s overall value creation process (e.g., Wal-Mart and Procter & Gamble). They must also become adept at sequentially orchestrating and managing an expansive web of suppliers that are becoming important sources of process technologies in their own right. Consolidators tend to be run by strong leaders who crafted tightly-knit cultures. These cultures ensure that the company’s values are inextricably linked to its goals. Sam Walton at Wal-Mart Stores, Meg Whitman at E-Bay, and Liu Chuanzhi at Lenovo all fostered cultures that infused employees with day-to-day behaviors consistent with the firms’ goals. Consolidators’ large size though, means they are likely to become highly risk-averse, bureaucratic, and smother innovation. Cumbersome reporting relationships and growing bureaucracy can breed slow, cautious, and inflexible decision-making.  Even those consolidators who invest heavily in product innovation are likely to be slower than a concept driver or pioneer to market. Concept Learners Concept learners are firms that successfully acquire new knowledge and competencies as well as harness change to create new value propositions. In a mature industry that faces a high rate of technological change, firms must adapt quickly to create new products and services based on a rapidly evolving technology or new means of serving a customer. Concept learners actively seek knowledge about emerging technologies and developments in other industries to redefine their core products. They are also willing to “unlearn” pre-existing core competencies that can become core rigidities in the creative destruction of their ecosystem. The primary realignment occurs in the firm’s core technology base which is confronted with rapid obsolescence from a more vibrant or more cost-effective substitute. Many concept learners approach product development by attempting to “incubate” a variety of technological “seeds” that lay the foundation for different product designs. Joint ventures and strategic alliances represent important complementary vehicles for concept learners, especially with partners that are likely to possess important related technologies. One of the biggest organizational challenges for concept learners is how best to reposition themselves to learn about new customers and developments beyond their immediate focal market or industry. The medical devices industry confronts the challenge of harnessing new forms of technology with increasing frequency. For example, the development of next-generation pacemakers, telemedicine products, minimally-invasive surgical tools, and self-regulating pumps has incorporated many technology developments, processes, and ideas that were originally conceived from outside the industry by other firms. Thus, concept learners face a much more complex set of organizational challenges than pioneers, consolidators, or concept drivers. Concept learners in turn must manage two different mindsets and possibly two or more different perspectives that shape how managers view their customers. Implications for Management When competing in an industry ecosystem, firms need to develop important sources of competitive advantage that build upon their own unique strengths, core competencies, and complementary assets.  As firms jockey for stronger market position, they will seek to develop strategies that best match their vision of the industry with the resources at hand. For concept drivers, they need to focus their strategies on defining a unique product or service concept that enables them to expand the range of markets they serve. Concept drivers need to engage in a high degree of marketing and innovation to sustain the cutting-edge feel to their products or services. Developing a replicable business model that erects strong barriers to imitation (especially by way of branding, service delivery, or product design) from rivals is central to the concept driver’s future prosperity. Oftentimes, the companies that create radically new products are not necessarily those that succeed in the mass market.  Pioneers are rarely able to explore new technologies quickly enough and to create an organization design that can serve the mass market.  To survive in their ecosystem, pioneers must have a deep knowledge of technology, strong financial backing, and be interested in pushing its envelope. Pioneers need to create organic management systems so they can quickly respond to the developments of new technologies. Learning new technological skills and information is prized and rewarded. Their competitive advantage stems from their ability to remain flexible and to hit a moving target. Customers of pioneers often share an enthusiasm for technology and value a pioneer’s performance much like investors do. For consolidators, these firms need to focus on refining key value-creating activities such as manufacturing, logistics, and reaching a large customer base. Particularly in high-technology markets, consolidators can often seize large market share by creating a product that is good enough for the vast majority of users.  When they are able to do this at a much lower price, consolidators can transform the ecosystem to make it much more advantageous for them to compete. Concept learners face a difficult balancing act.  The advent of rapid technological change in mature markets means that concept learner firms are compelled to develop entirely new competencies and even mindsets in order to adapt. Creative destruction in an industry means that winning products quickly become dinosaurs as new technologies lay the groundwork for next-generation innovations.  Concept learners must continue to scan the environment to learn about new technologies and other developments that could trigger massive disruption in their industry. Once the period of creative destruction in an industry ends, concept learners will need to develop new sets of core competencies that will enable them to recast themselves as either concept drivers or consolidators to compete in a later time period.  This is because the industry has evolved to a more steady state (thus requiring a consolidator strategy), or fast growth (thus requiring a concept driver strategy). Organizational structures need to foster the needs of this innovative culture. Managers operating in highly diversified firms need to formulate business unit strategies that best match the industry in which each strategic business unit resides. Lei said, “Consider IBM with its many lines of business. The lines of business need to be broken down as they relate to their own respective competitive environment, i.e., multiple lines of businesses each with their own landscapes or ecosystems.” In essence, a growing number of firms in a wide range of industries will face the challenge of meeting and adapting to the imperatives that accompanies technological change. “Firms may move through different ecosystems over time; those that do migrate across, usually do so in areas where re-invention is occurring,” Lei concluded. The full article “Strategic and Organizational Requirements for Competitive Advantage” is forthcoming in Academy of Management Executive.