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The Model Our model, shown in Figure 1, posits that a new technology such as the Internet can lead to creative destruction through four means: creating new value, rendering functional capabilities obsolete, rendering architectural capabilities obsolete, and reducing product costs. Creating new value. Customer value comes in different forms: product features, timing, and product mix. The Internet improves all these forms of value. Better coordination between and within a firm, via intranets and exchanges, means firms can invent products or services with better features for customers, e.g., make-to-order customized cars. The Internet can also increase customer value by increasing the mix of products a firm offers. As of May 1999, for example, Amazon.com offered 16 million items for sale on its store front.
Rendering functional capabilities obsolete. In performing their activities, the functions that comprise a company’s system must interact with each other. Building a car requires not only knowledge of design, manufacturing, and marketing, but also knowledge of the linkages between these functions. The impact of the Internet in this area varies by industry: it depends on the extent to which the Internet offers new and better ways of performing each function. The Internet may not fundamentally change the way cars are manufactured, for example, but it does radically change the way clients invest in stocks. Rendering architectural capabilities obsolete. Architectural capabilities refers to knowledge of how the functions interact with each other. The more different functions can coordinate their activities, the more effective they can be. With the Internet, functions that were physically separated in a bricks-and-mortar world can now communicate and exchange information that they could not before. Companies can make information available to far-flung employees by using a corporate Intranet, for example. Reducing Costs. For many industries, the Internet can lower transaction costs, e.g., the costs of searching for sellers and buyers; collecting information on products; and negotiating, writing, monitoring and enforcing contracts. For products such as software, music, and video that are in digital form, the Internet can also sharply reduce transportation costs. Since production usually involves an exchange of information, the Internet can also reduce production costs. These then, are the four ways that the Internet can effect creative destruction. The depth and impact of each of the four determinants, however, depends on another variable: the extent to which the value added is information.
Applying the Model For the purposes of our study, it made sense to apply the model to different industries, according to the way in which they use technology. Several years ago, J.D. Thompson proposed that the technologies on which firm activities in different industries rest can be divided into three groups: long-linked, mediating, and intensive. We found this a useful means of categorization. Long-linked industries are ones in which inputs are transformed into outputs by a set of sequentially interdependent activities, say X, Y, & Z, in which activity Y can be performed only after successful completion of activity X, and Z performed only after successful completion of Y. A chip maker will start fabricating the chips only after they have been designed, and assemble and test them only after they have been fabricated. Manufacturing firms are predominantly long-linked.
The Impact of the Internet on Different Industries Table 1 summarizes the results of the impact of the Internet on industries grouped by the three technologies. For long-linked industries, the Internet drastically improves communication and coordination between and within stages, X, Y, and Z. Such an improvement can result in, for example, improved car quality and lead times. It also potentially has a huge impact on the linkages between stages. However, many of the core concepts that underpin each functional area remain the same. The Internet may allow auto design and development groups to obtain information directly from customers, or allow manufacturing to follow the design and development of a car as it progresses. It may even let customers check the status of their cars as they go through the assembly line. But it does not affect as deeply a firm’s knowledge of the fundamentals of thermodynamics, combustion engineering, and metallurgy on which internal combustion engineering rests. The Internet is therefore an architectural innovation to firms whose products/services rest on long-linked technologies. Now, changes in linkages can trigger enough changes in components to result in improved cost or value to customers. A build-to-order system that relies on the Internet can drastically reduce shipping costs, for example. But such a system would require shorter lead times from the existing 30-60 days that it now takes from metal forming to complete car. For mediating technology industries, the impact of the Internet is deeper. Mediating technology firms can use the Internet to reach greater numbers of customers, and to offer customers larger networks and greater convenience. A banking client using the Internet can not only perform banking transactions 24 hours a day, she can also examine her account transactions and the status of a loan application. The Internet also creates entirely new value networks for mediating technologies – e.g., business-to-business exchanges, which act as intermediaries between buyers and sellers where parties can go to find information about potential partners. Since the Internet is a superior linking technology compared to many bricks-and-mortar mediating technologies, it renders obsolete many bricks-and-mortar functions and underlying capabilities. Pre-Internet, stock brokers were a key resource for most brokerage clients. With the Internet, they are not important for many clients, who have access to much investment information and can make their own choices. Unlike long-linked technologies, where the value added and delivered is both information and physical components, the value added and delivered in mediating technologies is all information. Offline, brokerage customers would talk to brokers on the phone, and brokers would send investment and research reports by mail. In an Internet world, the client has direct and instant access to numerous investment reports on the Web, and to his or her account. Thus, any capabilities that a broker developed in a bricks-and-mortar world to interact with his or her research department to more efficiently get research reports to customers or to more quickly enter orders for a client are now obsolete. The Internet has also allowed companies using mediating technologies to reduce costs: the per-trade cost for brokerage firms has dropped from $180 to about $8.
The core concepts that underpin each of the functions that are drawn on to effect change in the object in an intensive technology are not changed by the Internet. But the linkages among them do. In a hospital, for example, the core concepts on which x-ray, laboratory work, surgery, and occupational therapy rest are not changed radically by the Internet. But in an online world, x-rays do not have to be physically delivered in person. Moreover, physicians and specialists from anywhere in the world can collaborate in examining the x-rays in real time. Thus, architectural capabilities that served firms well in a bricks-and-mortar world may be rendered obsolete by the Internet.
Conclusions The impact of the Internet on the four determinants of creative destruction suggests that mediating technologies should have the highest level of creative destruction. For long-linked and intensive technologies, the Internet has the same impact on the four determinants of creative destruction. However, the value added by or delivered to each function for intensive technologies is largely information, while that for long-linked technologies is largely in physical components or materials. Therefore we propose that the Internet causes more creative destruction in intensive technologies than in long-linked technologies. Of course, creative destruction can be operationalized by several measures. This includes the market value of start-ups, number of new entrants, number of incumbents that fail, number of incumbents that exit businesses, rate of drop in incumbent profits, increase in the ratio of new entrant profits relative to incumbent profits, number of entries by new firms, number of new entrants relative to number of incumbents, and reduction in incumbent sales and profitability are all possibilities. Given the high level of activities that the Internet is generating in business and the potential for research on its impact on competitive advantage, our propositions are only the start of what can be fertile ground for theory development.
Allan Afuah is professor of corporate strategy and Hallman fellow of electronic business at the University of Michigan, and Christopher Tucci is professor of entrepreneurship and innovation at NYU Stern.
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get at these large questions, we constructed a model of the Internet
as creative destroyer. Then we applied the model to three broad industry
groups, defined by the ways in which they use technology. The results
provide some interesting conclusions and guides for further research.
ediating
industries are ones that use technologies to link clients or customers
who are interdependent or would like to be. Mediating technologies
can potentially exploit the network externalities (the value that
clients derive from a network based on the size of the network itself.)
Commercial banks, which link borrowers and depositors; investment
banks, which link issuers of equity to investors; and the telephone
system, which links people who want to communicate are all good examples
of this category.
ntensive
industries utilize intensive technology to effect a change of
some object. And the mix of resources they use to do so is a function
of the feedback that they get from the object. Consider a hospital
in which the object is a patient who gets admitted and may require
some combination of dietary, x-ray, laboratory, and housekeeping services
as well as such specialties as pharmaceutical services, occupational
therapies, social work, and spiritual or religious services. The resources
used and the order in which they are used are a function of the state
of the patient and the results of the patient using the other resources.
Universities, hospitals, research laboratories, and management consulting
firms are primarily based on intensive technologies.
or
intensive technology industries, the Internet can also have a significant
impact. Most of the value that intensive technology firms offer customers
comes from the information asymmetry that exists between firms and
their clients. A mathematics professor adds value by imparting some
of the knowledge he has that students in his classroom do not. With
the help of the Internet, the same professor potentially can teach
millions of students at their workplaces or homes. Frequently asked
health or consulting questions can also be made available to clients
via a Web site, 24 hours a day.