WCM Educational Recap #9: Intro to Tech Strategy

Recapped by Morgan Tannis

This week, we discuss Integrator, Aggregator, and Platform business models, disruptive innovation, and tech M&A.

The Offline Economy

Value Chains

• The series of business activities needed to create and deliver a product or service
• Suppliers → Distributors → Retailers → End users
• Known in the offline economy as a “supply chain”

Generating Outsized Profits by Controlling Value Chains

• Horizontal Monopolization: By acquiring competitors in the same level of the value chain (supplier acquires supplier, distributor acquires distributor), firms consolidate power and scale
• Vertically Integrating Backwards: By acquiring competitors in prior levels of the value chain (retailer acquires distributor, distributor acquires supplier), or developing those capabilities in-house, firms streamline operations and costs

Pre-Internet, delivering vertical solutions meant controlling distribution. There were more end-users than suppliers, so owning the supplier relationship provided more leverage.

Integrator: A firm that vertically integrates backwards to generate value.

The Digital Economy

• Free Distribution: YouTube incurs no marginal cost when you watch a video
• No Transaction Costs: Firms face no friction when interacting with consumers

Aggregate demand (rather than monopolize supply) and integrate forwards (rather than backwards) to win in the digital economy.

Aggregators

Overview

• In the digital economy, suppliers are commoditized, and users can be consolidated
• Aggregators win by providing a great user experience to attract numerous consumers and suppliers
• Example Aggregators: Google, Airbnb, Netflix, Amazon, Meta

Aggregation

Before the internet, supplier-integrated firms serviced different groups of customers. Now, individual suppliers are commoditized and aggregated in a single place along with consumers.

Key Characteristics

• Direct Relationships: Personalized payment based (Amazon), account-based (Netflix), or user-based (Google) relationships with each consumer differentiates Aggregators
• Zero Marginal Costs: Digital goods incur no marginals COGS or distribution costs
• Demand-Driven Multi-Sided Network: Aggregators facilitate access between end-users and suppliers

Important Aggregators

• Airbnb: Commoditizes rooms and collects all hospitality consumers on a single platform
• Netflix: Aggregates shows from numerous studios and collects all entertainment consumers on a single platform

The Law of Conservation of Attractive Profits

Breaking up formerly integrated value chains destroys incumbent value while simultaneously allowing new entrants to integrate different parts of the chain and capture new value.

Conservation of Attractive Profits: Taxis vs. Uber

Taxis:

• Cars & Dispatch: Integrated
• Hailing & Payment: Commoditized

Uber:

• Cars: Commoditized
• Dispatch, Hailing & Payment: Integrated

Integrators: Operating Orthogonally to Aggregators

How Disney+ Survives Against Aggregators

Disney+ is an integrator. It is tightly integrated with Disney’s value chain (content, distribution, and merchandising) which keeps consumers locked in the Disney ecosystem.

Aggregators vs. Integrators

Content:

• Aggregators: Content agnostic (Facebook reduces all content to similarly-sized rectangles in your feed)
• Integrators: Predicated on differentiation (content created by Disney must be unique to Disney)

Value Capture:

• Aggregators: Provide leverage (modularized content creators use Google to recoup costs by spreading content broadly)
• Integrators: Capture margin (Disney is focused on capturing margin from its differentiated content)

Monetization:

• Aggregators: Serve the maximum number of consumers (Google and Facebook reach billions, receiving a few cents from each)
• Integrators: Monetize consumers to the maximum extent (Disney limits its TAM but increases $/user)

Platforms vs. Aggregators

Platforms provide an interface on which other applications, processes, or technologies are developed. Instead of the Platform interfacing with customers directly, 3rd Parties are responsible for acquiring customers. Microsoft, the Apple App Store, and Epic Games are Platforms.

Value Chain:

• Aggregators: Controls customer relationship
• Platforms: Facilitates relationships between 3rd-party suppliers and end-users

Network Effects:

• Aggregators: Internalizes their network effects and commoditizes their suppliers
• Platforms: Externalizes their network effects to create a mutually beneficial ecosystem.

3rd-Party Suppliers:

• Aggregators: Mainly reduced to competing on price
• Platforms: Compete on product and brand differentiation

Economic Value:

• Aggregators: Captures the majority of the value created within the value chain
• Platforms: Captures minority of the value in the ecosystem it has created

Disruption and Innovation

A process by which a small company with few resources successfully challenges incumbents. Not all innovations are disruptive.

Sustaining Innovation

Improving the level of performance currently provided by an established product.

• Evolutionary: Expected improvements (faster car, longer battery life)
• Revolutionary: Unexpected improvements (the first car, the first battery)

Since evolutionary changes are incremental, and revolutionary products are generally sold on luxury markets, sustaining innovation does not significantly affect the existing market.

Disruptive Innovation

Creates a new market by providing a unique value proposition that overtakes an existing market.

• Tends to be produced by outsiders rather than existing market-leaders
• Initially simpler, cheaper to make, smaller, and more affordable to use, is rarely profitable or widely received

Eventually, entrants move upmarket by delivering the performance that mainstream customers require and preserving the advantages that drove their early success.

The Theory of Disruptive Innovation

Disruptive innovation is the transformation of an expensive, complicated product into something affordable and accessible, allowing many more people to use the product or service

Characteristics of Successful Disruptive Innovation

• Enabling Technology: Innovation which decreases price and increases accessibility
• Innovative Business Model: Targets non- or underserved consumers
• Coherent Value Networks: All stakeholders prosper from the disruptive innovation

Tech M&A

Scale M&A

Overview

• Buyer seeks enlarged presence in a core market to achieve economies of scale
• Bottom-line focused

Goals and Outcomes

• Expense Reduction: Consolidation of operations to reduce overhead and admin costs
• Capital Accumulation: Generates revenue for investments
• Research and Development: Acquisition of business intelligence and trade secrets

Scope M&A

Overview

• Buyer expands into new markets
• Top-line focused

Goals and Outcomes

• Expanding Value Proposition: Capturing new monetization capabilities, technological infrastructure, and brand power
• Access to New Markets: Increasing customer base in high-growth markets
• Diversification: Decreases susceptibility to market fluctuations and product cycle downturns

Tech M&A Drivers

• Cloud: The accelerated transition to the cloud generates cloud infrastructure and SaaS M&A
• Connectivity: 5G is generating demand for cybersecurity and automation companies
• Data: Firms are pursuing deals to access proprietary data

Key Takeaways

• Disruption can significantly affect the structure of value chains
• Aggregators commoditize suppliers and collect consumers in a single place
• Platforms have the potential to create an ecosystem that captures significant value
• While Integrators internalize network effects, Aggregators externalize them