Transcript
Industry Convergence and the Transformation of the Mobile Communications System of Innovation Elmar Gerum, Insa Sjurts, Nils Stieglitz
Elmar Gerum, Philipps-University Marburg, Department of Business Administration and Economics, Universitaetsstr. 24, 35032 Marburg, Germany
[email protected] Insa Sjurts, HMS Hamburg Media School, Finkenau 35, 22081 Hamburg, Germany
[email protected] Nils Stieglitz, Philipps-University Marburg, Department of Business Administration and Economics, Universitaetsstrasse 24, 35032 Marburg
[email protected] (corresponding author)
FIRST DRAFT 07/19/2004 Please do not quote. Comments very welcome.
Abstract: The mobile telecommunications industry experienced fast and largely unexpected growth during the last decade. Rapid innovations have characterized industrial dynamics, leading to a transformation of the market structure of the mobile communications industry and changes in the business strategies of key actors. The paper explores the significance of industry convergence for understanding the evolution of the mobile communications industry and its sectoral system of innovation.
JEL-Codes: L22, L63, O31, O32
Keywords: Innovation, industry convergence, sectoral system of innovation, mobile communications, industrial dynamics
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The mobile telecommunications industry experienced fast and largely unexpected growth during the last decade, developing from a small niche market to an integral part of the “new digital economy” (Christensen/Maskell 2003). Rapid innovations have characterized its evolution, leading to a transformation of the market structure of the mobile communications industry. For example, third-generation wireless access technologies have just begun to be introduced in the marketplace, while fourth-generation technologies are already at the drawing board. ‘Smart phones’ may radically alter the dominant design of terminal devices, while network operators launched successful new mobile services like NTT DoCoMo’s iMode or the Multimedia Messaging Service (MMS). Because of these diverse innovations in technologies, goods, and services, the mobile communications industry is said to be converging with the consumer electronics, the Internet services, and the information technology industry. Traditional theories and frameworks developed in the strategic management and industrial organization literature are often a blunt tool to capture the dynamics of changing industry structures (Li, Walley 2002; Krafft 2004). Porter’s (1980) widely used 5-Forces framework may be a good starting point for understanding the eventual impact of new technologies, goods, and services on traditional market structures and value chains, but it utterly fails to analyze and explain the emergence and diffusion of innovations (Stieglitz 2004). This severely limits its usefulness for informing management practice and its value as tool for strategic analysis in highly dynamic industries. Furthermore, while industry convergence is a ubiquitous concept to describe industry evolution in telecommunications and other industries, its precise meaning often remains vague (Katz 1996). If industry convergence is to be more than a popular buzzword, the concept needs more analytical clarity. In our paper, we try to deal with these two problems. Firstly, we make use of the sectoral system of innovation framework, which originated in evolutionary economics, to analyze innovations and industry dynamics in mobile communications, and expand it into a tool for strategic management. Secondly, we draw on the taxonomy developed by Stieglitz (2003) to sharpen the concept of industry convergence and apply it to the mobile communications industry. The taxonomy distinguishes four types of industry convergence that have different ramifications for industry dynamics and business strategies. We show that these types of industry convergence shaped the past and present evolution of the mobile communications industry at different times and for different actors, and that industry convergence remains an essential concept to understand the future prospects of the industry. The paper is structured as follows. Section 1 introduces the general framework of sectoral system of innovations, which forms the theoretical backbone of our discussion of the mobile communications industry. In section 2, we give a brief overview of the industry convergence taxonomy. In the rest of the paper, we use the taxonomy to analyze changes in the mobile communications industry. Section 3 explains the emergence of wireless digital standards through a process of technological convergence and its impact on the mobile communications system of innovation. Section 4 outlines the coming of the mobile Internet and the subsequent convergence of mobile communications and Internet services. Section 5 shows how new access technologies emanating from a neighboring industry opened up new technological opportunities in mobile communications, while section 6 provides a look at product convergence in terminal devices. Section 6 offers some final conclusions.
1. Sectoral systems of innovation The sectoral system of innovation approach has been developed in evolutionary economics to provide a framework for studying the forces that shape the creation and diffusion of innovations in industries. Malerba (2002, p. 250) offers the following working definition of a sectoral system of innovation: “A sectoral system of innovation and production is a set of new
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and established products for specific uses and the set of agents carrying out market and nonmarket interactions for the creation, production and sale of those products. A sectoral system has a knowledge base, technologies, input and an existing, emergent and potential demand”.1 Very broadly, the actors of a sectoral system of innovation consist of firms, non-firm organizations (e.g. regulatory bodies, universities, or standard committees), and individuals (e.g. consumers, entrepreneurs, scientists). The relationships and interactions between these actors can be conflicting (e.g. competition), complementary, or a combination of the two (‘coopetition’). In the strategic management literature, Brandenburger and Nalebuff (1995) captured these basic relationships between strategic actors in the “value net” (see figure 1).
Competitors
Suppliers
Firm
Customers
Complementors
Figure 1: The generic value net. Source: Adapted from Brandenburger, Nalebuff (1995), p. 60
An Schumpeterian conception of competition and industry dynamics underlies the sectoral system framework. To sustain long-term competitive advantages, firms are constantly forced to create and bring to market innovations. Uncertainty about the consumers’ preferences but also about the possibilities and limitations of new technologies characterizes the management of innovations. Thus, trial-and-error and the interactions of the supply side (creation of innovations, variety) and the demand side (selection of innovations) shapes innovations, and the resulting learning processes of firms about technologies and consumers’ preferences constitute important drivers of industrial change. The creation and diffusion of innovations in a sectoral system is heavily influenced by its technological regime. The technological opportunities, the degrees of cumulativeness of technological knowledge, the sources and characteristics of relevant knowledge, and the appropriability conditions characterize a technological regime. The technological opportunities influence the rate and direction of innovations in a sectoral system. High technological opportunities enable rapid innovations, signified by continuous introduction of new products and processes. High technological opportunities may allow for the continuous entry of new innovators, especially if established firms fail to exploit these opportunities. The opportunities of a new technology tend to decline over time, as the technology matures and its refinement follows a well-defined technological trajectory (Dosi 1982). The direction of innovations depends on how firms search and exploit the technological opportunities. In case of demand-pull innovations, the known and emergent 1
Carlsson, Jacobsson, Holmen, Rickne (2002) and Malerba (2002) offer a more complete and thorough theoretical discussion of sectoral systems of innovation.
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preferences of buyers and consumers directly influence the innovation strategies of the firms. Technology-push innovations, on the other hand, are driven by the technical possibilities of new technologies, and firms often have to actively develop a demand for new products. The technological opportunities a given firm may exploit depend on its technological competencies. Firms need to possess or have access to the necessary technical knowledge and skills to successfully seize the opportunities and innovate. Thus, because of firm-specific differences in the technological competencies, firms in the same sectoral system often exhibit a different menu of innovative opportunities (Teece, Rumelt, Dosi, Winter 1994). The cumulativeness represents a degree on which the generation of new knowledge builds upon the current technological competencies of the firm. Incremental innovations draw on existing competencies and therefore tend to reinforce the competitive positions of established firms. Tushman and Anderson (1986) therefore called this type of innovation “competenceenhancing”. Radical or “competence-destroying” innovations, in contrast, exhibit a low cumulativeness of knowledge, since new competencies are needed to exploit the opportunities and existing technological competencies become, at least in part, obsolete. Radical innovations in combination with high technological opportunities often open a window of opportunity for the successful market entry of new firms, because incumbents may fail to adapt their technological competencies. Internal sources for new knowledge are mainly feedbacks from an industry’s own technological advances and learning.2 Suppliers and consumers may both play an active part in the creation of new knowledge (Hippel 1988). Advances in scientific understanding and technique, usually provided by public actors as universities and government-sponsored research organizations provide an additional important external source of new knowledge. Linkages between private and non-private organizations are required to develop these advances into new technological and business opportunities. New knowledge may also originate in other industries that are not part of the sectoral system of innovation and which constitute external sources. How firms gain access to new knowledge depends on its transferability and its means of transmission (Malerba, Orsenigo 2000). Codified scientific knowledge can be easily transferred via academic journals, conferences, etc. Tacit knowledge usually has to be developed internally through learning processes. While codified knowledge often diffuses rapidly in a sectoral system of innovation, the lower accessibility of tacit knowledge restricts its dispersal and is a major reason of persistent differences in the competencies of firms. Firms choose cooperative strategies like strategic alliances or corporate networks to gain access to tacit knowledge and use it together. Knowledge may also be transferred via product modules as in the case of off-the-shelf technologies (Baldwin, Clark 1997). In this case, the technology users need to know how to use these modules, but not how to produce them. In other words, firms need system integration capabilities to integrate various modules for a final product (Pavitt 2003). Lastly, the appropriability conditions influence how innovators protect innovative rents from knowledge spillovers and imitations. For example, patents and other intellectual property rights increase the appropriability of innovations by restricting the use of technological knowledge by competitors. Likewise, tacit knowledge (e.g. trade secrets) restricts the diffusion of knowledge and increases the appropriability of innovations. Even if technological knowledge diffuses quickly and is not protected by intellectual property rights, complementary assets of innovators (Teece 1986) like brand reputation, efficient manufacturing plans, or distribution channels provide important barriers to imitation. 2
Klevorick/Levin/Nelson/Winter (1995) give a detailed overview of the sources of technological opportunities in different sectoral systems of innovations.
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Taken together these four conditions of the technological regime shape the creation and diffusion of innovations in a sectoral system and, ultimately, the business strategies of its actors.
2. Types of industry convergence Industry convergence constitutes an important concept to understand technology and product evolution in general, not just digital products (Adner, Levinthal 2001). Stieglitz (2003, 2004) differentiates between four types of industry convergence (see table 1). These types of industry convergence differ in their impact on industry dynamics and business strategy.
technological convergence product-based convergence
substitutes
complements
technological substitution
technology integration
product substitution
product complementarity
Table 1: Types of Industry Convergence. Source: Adapted from Stieglitz (2003), p. 182
Technologically convergent industries produce different goods and services with similar technological competencies. Two generic types of technological convergence are possible. The first type involves a new technology replacing distinct technologies in established industries (industry convergence by “technology substitution”).3 General-purpose technologies that can be applied to various industries usually trigger technology substitution. Since general-purpose technologies are applicable to a range of industries, firms are able to specialise in their commercialisation. This often leads to a process of vertical disintegration and the creation of supplier industries upstream from traditional markets (Arora, Fosfuri, Gambardella 2001). Since the 1960s, semiconductor technologies have been widely diffused in many established industries such as the automotive, the computer, the consumer electronics, and telecommunications industry. Older, analogue technologies have become and are still being replaced by semiconductors. During the same time, a specialised semiconductor industry emerged. In the second case of technological convergence, various technologies previously associated with different industries are fused or integrated, thereby giving rise to entirely new product markets (“technology integration”). The integrated technologies are complementary, because their interactions allow firms to develop new products. Therefore, following Tushman and Anderson (1986), while technology substitution is competence-destroying, technology integration is competence-enhancing. Associated with technology integration are two interdependent learning processes involving product development and the underlying ‘fusion’ of technologies. These trial-and-error processes represent the key drivers of industry dynamics in technology integration. The emergence of the handheld computer industry represents an example for technology integration. Technologies from the computer, the consumer electronics, and the telecommunications industries were integrated to produce the first handheld computers in the early 1990s. In the handheld computer industry, the start-up 3
Substitution and integration of technologies or products also take place within a single industry and without any associated industry convergence. However, we shall only use the terms as related to industry convergence. Hence, to keep things simple, we will speak of technology substitution instead of ‘industry convergence by technology substitution’ and so on.
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company Palm was able to draw the right conclusions from the two learning processes. Besides controlling key technologies, Palm was able to access and integrate missing technological capabilities through off-the-shelf products and, to a lesser extent, strategic alliances. Despite the widespread entry of established firms from computers, telecommunications and consumer electronics, Palm emerged as the dominant firm. Industries characterized by product-based convergence offer new substitute or complementary product functions (Greenstein, Khanna 1997). In the former case, an established product from one industry evolves to integrate product features that are similar to those of another product in a different industry (“product substitution”). Firms pursue this type of product convergence by expanding their established products with new features from other industries. They tend to build on their existing technological and complementary capabilities in developing hybrid products. An example of convergence by product substitution is the dynamic relationship between the markets for mainframes and minicomputers during the 1970s (Bresnahan, Greenstein 1999). Mainframes were used for general purposes, while minicomputers were employed for conducting highly specialized and repetitive single tasks. Accordingly, they differed substantially in terms of product characteristics and were considered distinct product markets. Technological innovations in semiconductors led to increased computing power for minicomputers that allowed their employment for more complex, general-purpose tasks. In the case of industry convergence by “product complementarity”, two formerly unrelated products develop into complements, which create a higher utility for its users if used together. We call this type of product-based convergence ‘product complementarity’. Because standards enable the complementary use of products, standardization is the key driver of this type of industry convergence. For example, Internet technologies sparked a process of industry convergence through product complementarity. It was only after the commercial diffusion of the Internet that computers and fixed-line telephone networks came to be widely perceived as complementary products in both business and households. In the rest of the paper, we show how these types of industry convergence relate to the evolution of mobile communications industry and discuss how they have shaped the mobile communications system of innovations. Specifically, industry convergence by technological substitution led to the emergence of second-generation digital access technologies like the dominating GSM standard. Product innovations as NTT DoCoMo’s i-Mode service or the European WAP standard started a convergence process by product complementarity by enabling the mobile access to the Internet, which may pick up steam through the diffusion of third-generation generation access technologies. W-LAN or Wi-Fi represents an alternative, competing access technology that emanated from an industry formerly not associated with the mobile communications system of innovation, the computer networking industry. Wi-Fi came about through a process of technology integration of networking technologies with radio technology. Lastly, these developments influence product innovations in terminal devices. Mobile phones integrate more and more product features from other industry as digital photography, handheld computers, or video gaming. The result is an industry convergence by product substitution in mobile terminal devices.
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3. Industry convergence by technology substitution: the establishment of the GSM standard The digital GSM (Global System for Mobile Communications) standard was developed during the 1980s.4 At least in Europe, equipment suppliers, network operators, terminal device suppliers, and consumers represented the key private actors of the mobile communications system. Figure 2 shows the value net of the system of innovation. Important public actors that played a prominent role in establishing GSM as a pan-European standard were CEPT and later ETSI.5
Network Operators
Equipment Suppliers
Customers
Terminal device vendors
Figure 2: The traditional value net of the mobile communications system of innovation, mid-1990s. Source: Adapted from Gerum, Sjurts, Stieglitz 2003, p. 62
Demand-pull pressures characterized the development that eventually culminated in GSM. The modestly successful first-generation standards only allowed for very restricted international roaming, offered poor voice quality, and did only accommodate a limited number of subscribers. Thus, network operators were looking for new technologies to extend the market and offer a higher product value to their customers. To create second-generation access technology, the equipment suppliers looked to semiconductor technology for meeting the network operators’ demand. Semiconductor technology has proven to be a generalpurpose technology, which made a substantial impact in automotive, computers, consumer electronics, and many more industries (Pavitt 1987). In mobile communications, semiconductor technology created the technological opportunities to develop a new access technology, which relied on the digital transmission of signals. Semiconductors made its first inroads into telecommunications during the mid-1960s (Duysters 1996). First-generation mobile access technologies introduced during the early 1980s relied on digital switches, but transmission of radio signals still was analogue. New technological competencies were required to exploit the technological opportunities generated by semiconductor technologies and to develop digital access technologies. The radio base station of wireless networks became technologically more 4
We do not attempt to give a full overview of the emergence and development of second-generation mobile access technologies, only insofar as it relates to industry convergence. More detailed studies, which also discuss standards in Japan and the USA are provided by Kano (2000), Steinbock (2003), and Hommen, Mannien (2003). 5 Funk (2002) analyzes the committee-based standardization and the interactions between private and public actors that led to GSM.
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complex, requiring technical competencies in new technological fields like semiconductor, computer hardware, and especially software.6 While equipment suppliers could draw on their technological competencies acquired in the development of first-generation analogue technologies, digital technologies required new technical skills and even made some of the traditional competencies obsolete. Thus, the cumulativeness of new knowledge was limited and the convergence by technology substitution proofed to be competence-destroying. Because of technological interrelatedness, the competence-destroying nature of digital technologies also applied to terminal devices. Mobile phones based on the GSM standard became technologically more complex, requiring the same broad technical skills needed for radio base stations. Table 2 shows the technology evolution of mobile phones in the case of Ericsson, with digital technologies (“computers”) as a new technological field for GSM. Product Generation (mobile phones) NMT-450 NMT-900 GSM
Number of Technologies
old n.a. 5 9
new n.a. 5 5
total 5 10 14
obsolete n.a. 0 1
R&D Costs (base =100) 100 200 500
%age of Main Technologies Technical Acquired Fields Externally (a) 12 E 28 EPM 29 EPMC
No. of Patent Classes (b) 17 25 29
[n.a.] =not applicable (a) “Main” > 15% of total engineering stock. E = Electrial; P = physics; K = Chemistry; M = Mechanical, C= Computers (b) Number of International Patent Classes (IPC) at 4-digit level
Table 2: Increasing technological diversity in Ericsson’s mobile phones. Source: Adapted from Granstrand, Patel, Pavitt (1997), p. 15
To meet these technological challenges, the equipment suppliers refined and widened their technological competency base through higher investment into research and development, the acquisitions of competing firms with complementary technological competencies, and a greater reliance on international technology alliances with other private actors.7 Cross-licensing became an important instrument to gain access to missing technologies, and provided an convenient way to keep new firms from entering the industry (Bekkers, Verspagen, Smits (2002). Alcatel, Ericsson, Motorola Nokia, and Siemens, all major patent holders, emerged as the key equipment suppliers for the GSM standard by the mid-1990s. These firms increasingly pursued a multi-technology strategy: They diversified their technological competencies to meet the requirements of the more complex innovation process in mobile communications, while scaling back their activities in other industries.8 The refocusing allowed the equipment suppliers to concentrate on the very demanding competitive landscape of mobile telecommunications. Their broad technological competencies and the technical interrelatedness of network equipment and terminal devices put them in a competitive position to not only dominate the equipment markets (base stations, switches) but the terminal device market as well, because it allowed them to apply their newly acquired technological skills in digital technologies to both markets. The cross-licensing agreements strengthened the appropriability conditions in both markets by preventing many competitors, 6
According to Steinbock (2001), p. 110, the GSM project was dubbed “the Great Software Monster” by Nokia engineers. 7 McKelvey, Texier, Alm (1998) analyze Ericsson’s build-up of technological capabilities, while Palmberg, Lemola (1998) and Sadowski, Dittrich, Duysters (2003) chronicle Nokia’s entry into mobile communications and the internal development of internal technologies. 8 See Palmberg, Lemola (1998) for the case the Nokia. Granstrand (1998) provides an theoretical discussion of the multi-technology firm, while Gambardella, Torrisi (1998) show that the multi-technology strategy is a common response to industry convergence by technological substitution.
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especially the Japanese, from entering the industry until the late 1990s. Thus, the leading equipment suppliers also came to dominate the terminal device market by the mid-1990s (see table 3). Due to an uneven rate of change in the technologies underlying the components of a mobile network – base stations, switches, terminal devices – and strong interdependencies between components, the tight coupling provided by vertical integration of research and development, production, and marketing became the prevailing organizational structure of equipment suppliers (Davies 1999; Brusoni, Prencipe, Pavitt 2001). The development and introduction of GSM saw also a diminishing role of network operators in the innovation process, with the sources of new technical knowledge gravitating towards the equipment suppliers. While network operators had played an important role as innovators and system integrators in analogue standards, they lost this position during the transition to GSM. Their main contribution increasingly was to create and expand markets for mobile communications. Hence, network operators concentrated on building new competencies for operating a mobile network and marketing mobile telecommunications services. Brand reputation, customer service, or efficient billing processes became more important for the commercial success of operators than technical expertise. This process of vertical specialization between network operators and equipment suppliers started in the early stages of GSM standardization and was largely completed by the mid-1990s.9 Equipment Supplier Ericsson Nokia Siemens Motorola Alcatel Lucent Matra Italtel Nortel Philips
Market share (%) switching 48 14 21 1 10 2 2 0 1 0
Market share (%) base stations 37 22 2 13 10 4 3 5 0 2
Market share (%) mobile terminals 25 24 9 20 6
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Rank on total GSM market 1 2 3 4 5 6 7 8 9 10
Table 3: Equipment suppliers market share of the 33 largest GSM networks in Europe (1996), world-wide market share of GSM terminals (1996). Source: Adapted from Bekkers, Verspagen, Smits (2002), p. 174
Thus, technological substitution and the adoption of digital technologies based on semiconductors had far-reaching consequences for the mobile communications system of innovation and the division of labour between its key actors. The technological trajectory established with GSM shaped innovations for all actors in the value net, with voice communications being the driving force. In terminal devices, portable handsets were established as the dominant design and continuing miniaturization allowed for both cost reductions and quality improvements throughout the 1990s (Funk 2002). In network equipment, vendors improved quality of service and network management capabilities, while operators heavily invested into network coverage and introduced new products like pre-paid cards to extend the market. In the later 1990s, despite rapid growth, many equipment suppliers and network operators began to realize that the market for mobile voice communication services would be saturated in a few years. Witnessing the stunning success of the Internet in fixed-line telecommunications and of simple data transmission via the Short Messaging Service (SMS) in mobile communications, mobile multimedia data services were identified as a new growth opportunity for the industry. This shared industry vision of the “mobile Internet” led to two 9
See Rao (2001), Holmen, Mannien (2003), pp. 117-119, Fransman (2003), pp. 216-233, Krafft (2004). Japan’s network operator NTT DoCoMo was an important exception to this trend.
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interrelated developments. Firstly, multimedia services require broadband access, which GSM could not provide. To provide higher bandwidth in wireless networks, the development of third-generation standards gained momentum and culminated in the IMT-2000 standard family, with UMTS (Universal Mobile Telecommunication System) being the key European standard (Sabat 2002; Glimstedt 2003). The creation of third-generation standards was very much technology-driven, because it was not clear which services were to be offered by this new access technology. Secondly, network operators and equipment vendors searched for possibilities of allowing Internet access and multimedia data services through existing GSM networks, thereby gaining valuable business experience in offering data services and preparing the grounds for a successful introduction of third-generation standards. Taken together, these two developments triggered a new round of industry convergence, triggered by the emergence of the “mobile Internet” (Steinbock/Noam 2003): This time, the mobile communications industry was to witness a convergence by product complementarity of mobile terminals, wireless networks, and Internet services.
4. Industry convergence by product complementarity: the advent of the mobile Internet Two features characterize industry convergence by product complementarity: the importance of technical standards that enable the complementary use of products, and the relevance of new actors that offer complementary products for the sectoral system of innovation. For the mobile Internet, two levels of standards seem to be especially relevant. Broadband access standards enable the connection between terminal devices and wireless networks, while communication protocols allow the wireless retrieval of data services. The speed of this type of industry convergence critically depends on what kinds of standards emerge and how they are established (Greenstein, Khanna 1997). As we shall show in this section, differing strategic choices concerning standardization by equipment suppliers and network operators account for the early success of the mobile Internet in Japan and its belated commercial takeoff in Europe. The complementarity of formerly separate products also means that new actors gain importance of the exploitation of technological opportunities and the success of innovations. In the past, Internet services and mobile communications developed autonomously. This is changing, since new access technologies and communication protocols allow the Internet to be accessed from mobile handsets. From the perspective of the mobile communications industry, Internet services turn into a new source of knowledge for innovations and their vendors become new relevant actors, thereby transforming the established sectoral system of innovation. Figure 3 depicts the new value net for mobile communications.
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Internet Services
Equipment Suppliers
Network Operators
Customers
Terminal Device Vendors
Figure 3: Mobile internet and the transformation of the value net. Source: Adapted from Gerum, Sjurts, Stieglitz (2003), p. 122
The product complementarity of mobile terminals, wireless networks, and Internet services entails new interdependencies of actors in the innovative process. The commercial success of third-generation access technologies like UMTS depends on the introduction of attractive new mobile Internet services. Furthermore, new handset designs have to be forthcoming to access these services. This interdependencies in the value net may be illustrated by the introduction of the Multimedia Messaging Service (MMS). The upgrade of existing GSM networks to the packet-switched GPRS (General Packet Radio Service) standard enabled the higher bandwidth needed for the wireless transmission of multimedia messages, while handsets with colour screens and built-in digital cameras were provided by mobile phones vendors. Internet content providers offered additional services like daily news, sport events, and so on. Hence, the interdependencies of innovations in the case of product complementarity increases the need to coordinate activities between different actors in the value net. Overall, industry convergence by product complementarity therefore influences business strategy through standardization and the interdependencies of innovations. In mobile communications, actors have reacted differently to these challenges. In the mid-1990s, Ericsson and Nokia began in-house research to develop a communication protocol to enable wireless access to Internet services from GSM networks. Both companies hoped for additional revenues through the sale of Internet-enabled handsets. They later teamed up with Motorola and the US start-up Unwired Planet that had been developing a wireless communication protocol based on the XML programming language for some time. The result of this strategic alliance was the Wireless Application Protocol (WAP).10 To promote WAP as an open standard, the partners established the WAP forum in 1997 and WAP-enabled handsets started to come to market during 1999. Technology-push characterized the creation of the WAP standard, because it was not developed with specific services or customer segments in mind. Furthermore, its development reflected the vertical specialization in the mobile communications system of innovation: The equipment suppliers created the standard, while network operators or Internet content providers only played a very limited role in its development. WAP turned out to be a commercial disappointment. Its inventors failed to take account of the ramifications for the all actors in value net. The low bandwidth of GSM networks and the time-based charging structure made wireless access to 10
See Sigurdson (2001) for a detailed analysis of the creation of the WAP standard.
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data services a slow and expensive experience. WAP’s incompatibility with HTML, the Internet’s communications protocol, forced content providers to reprogram their web pages, thereby increasing the costs for providing content. Thus, its high price and the absence of content slowed the diffusion of mobile Internet services in Europe. Even after the introduction of GPRS, a packet-switched access technology that increased bandwidth of GSM networks and allowed different charging structures, the diffusion of mobile Internet services in Europe was slow, with MMS being a notable exception. Things turned out to be remarkably different in Japan, where mobile Internet services were introduced in the late 1990s. While specific regional factors, e.g. a low PC usage and PC-based Internet access, supported the introduction of the mobile Internet, the strategic choices made by network operator NTT DoCoMo were far more significant (Kodama 2002; Ratliff 2002). Unlike European network operators, NTT DoCoMo devised a coherent business strategy to meet the challenges of industry convergence by product complementarity. NTT DoCoMo took possible mobile Internet services as a starting point for business and chose the appropriate technologies accordingly. A demand-pull approach therefore characterized its approach to exploiting technological opportunities. Unlike European network operators, NTT DoCoMo had retained extensive in-house R&D capabilities that provided crucial system integration competencies and allowed the company to play an active role in the innovative process. Initially, NTT DoCoMo wanted to provide wireless data services to business customers, but quickly adapted its business plan to focus on the young mass consumer market (Jonason, Elliason 2001, p. 343). Hence, the data service was branded as the non-technical “imode” service and launched in early 1999. Older, reliable technologies were selected to provide the i-mode services. For the access technology, NTT DoCoMo relied on its second generation, largely packet-switched network PDC-P that already provided the failed DoPa service for business customers (Ratliff 2002, p. 58). The network only offered limited bandwidth, but NTT DoCoMo developed a pricing model that countered this weakness. Besides paying a monthly subscription fee for accessing the i-mode service, users are charged according to the volume of data transmitted. This allowed NTT DoCoMo to offer always-on functionality for its i-mode service, which facilitates wireless access of data services. Moreover, the packet-switched network made possible micro-payments via the telephone bill.11 This feature only became available to European network operators after the introduction of packet-switched GPRS in the early 2000s. To decrease download times, NTT DoCoMo introduced a new communication protocol, cHTML (compact HTML), which was compatible to standard HTML.12 By choosing a compatible standard, NTT DoCoMo increased the content provider’s cumulativeness of knowledge, because they were able to build on their existing Internet offerings. Unlike WAP, NTT DoCoMo positioned i-mode as a proprietary standard, thereby enhancing its appropriability conditions. NTT DoCoMo entered strategic alliances to coordinate the interdependencies in the value net. For i-mode enabled handsets, NTT DoCoMo cooperated with Japanese handset vendors Fujitsu, NEC, Matsushita, and Sony. NTT DoCoMo pushed for steady improvements in the design of handsets to increase the added value of i-Mode for consumers. For example, i-mode handsets featured a special i-mode button for fast access and easy navigation, while colour screens and Java-enabled handsets were introduced to enhance multimedia services and allowed content providers to pioneer new services. NTT DoCoMo also established highpowered incentives for content providers to offer i-mode services (Fransman 2003, pp. 24611
Jonason, Elliason (2001) provide an in-depth analysis of the interdependencies between product development and pricing in the case of the i-mode service. 12 The small Japanese company Access developed the cHTML standard and also provided the browser software that enables Internet access in i-mode handsets.
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247). I-mode’s official content providers only pay a small, fixed percentage (9%) for the marketing and billing service provided by NTT DoCoMo. Since the content provider’s total fee is based on the generated revenues and thereby on the success of a given service, they are highly motivated to experiment with new services that take advantages of mobile communications, instead of offering traditional Internet services. In addition, while i-mode is a proprietary standard, unofficial content providers may also offer i-mode compatible sites, but they do not benefit from NTT DoCoMo’s billing services and cannot be reached from the official i-mode menu. Taken together, official and unofficial content providers provided an unsurpassed range of services to i-mode consumers. While NTT DoCoMo found it hard to repeat i-mode’s success in other countries, some salient features of its business strategy have broader implications for the future of mobile Internet. Firstly, NTT DoCoMo clearly understood the challenges involved with industry convergence by product complementarity, standardization and interdependencies. The business strategy addressed these challenges. Secondly, while open standards played and will continue to play a key in mobile communications, proprietary standardization remains a viable strategic option. For example, as we shall discuss in section 6, Microsoft attempts to market a proprietary operation system standard for mobile devices. Thirdly, the success of the mobile Internet critically depends on product innovations in data services and content. New mobile services must take advantage of the unique features of mobile communication to deliver added value to customers. Judging from the past success of the Internet and of i-mode, a preoccupation with a killer application to launch the mobile Internet for the mass market is ill founded, because the variety of attractive services explains their commercial success. Thus, m-commerce, mobile video conferencing, location-based services, mobile gaming, etc. will all be a feature of the mobile Internet. It follows that the success of the mobile Internet depends not so much on technologies, but on attractive services. Technologies enable new services, but they often do not provide added value by themselves. Lastly, strategic alliances appear to be a dominant approach to coordinate the interdependencies in the value net. Market-based coordination may be an effective coordination mechanism if slow, incremental innovations characterize a sectoral system of innovation. Strategic alliances allow for tighter coordination of interdependencies between actors, but are less resource demanding and more flexible than vertical integration. Coopetition – the occurrence of cooperation and competition at the same time – represents a central feature of these alliances: Actors cooperate to coordinate their respective innovative activities to offer added value to customers, but they are competitors for the created surplus (Sjurts 2000). For example, NTT DoCoMo and content providers collaborate to provide the i-mode service, but they compete for the share of revenue going to NTT DoCoMo for billing and marketing. The diffusion of the mobile Internet and the consequent industry convergence by product complementarity has further ramifications for the mobile communications system of innovation. Competing access technologies for wireless data transmission have emerged, which represent a partial substitute for the third-generation mobile communications standards like UMTS. These competing technologies, Bluetooth and especially W-LAN, do not originate in the mobile communications system of innovation, but in the computer networking industry because of the integration of technologies from the computer and the telecommunications industry. They thus represent a case of industry convergence by technology integration. Furthermore, the mobile Internet has sparked product innovations in mobile devices that bring about an industry convergence by product substitution in the terminal device market.
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5. Industry convergence by technology integration: the emergence and evolution of Wi-Fi Wi-Fi (or Wireless Local Area Network, W-LAN) came about through the integration of technologies from the computer networking industry and the mobile communications industry (Fransman 2003, pp. 7-8; Economist 2004). The Ethernet technology, which originated in the computer industry, was integrated with spread spectrum and radio technology from mobile communications. The result of this technology integration was the creation of an entirely new market segment – the market for wireless home networking equipment.13 The technology also enables wireless data transmission in public networks. Accordingly, Wi-Fi represents an alternative access technology for the mobile Internet (for an in-depth analysis, see Lehr, McKnight 2003). The historical roots of the technology that became Wi-Fi (“wireless fidelity”) lay in the decision of the US-American Federal Communications Commission FCC taken in 1985 to open several bands of wireless spectrum for communications uses without government license.14 Spread spectrum technology, originally developed for military use, offered a promising technical solution to avoid interferences from other equipment that used the same frequencies. Initially, computer network vendors Proxim and Symbol developed proprietary technologies to seize the technological and commercial opportunities of wireless networking, but market growth was very sluggish. Thei0r proprietary standards failed to catch on and severely restricted the market potential. In 1988, the computer company NCR Corporation planned on using wireless networking technology to hook up cash registers and approached the Institute of Electrical and Electronics Engineers (IEEE) to develop an open standard for wireless networking. In the late 1970s, IEEE’s 802.3 committee had defined the successful Ethernet standard that caused the growth of the computer networking industry during the 1980s. Initially, Digital Equipment Corporation, Intel, and Xerox had developed the Ethernet technology, but they opted for an open standard. The result of NCR’s initiative was the 802.11 committee that agreed on a formal specification for a standard in the year 1997. During the next two years, the 802.11a (which operates in the 5.8 GHz band) and the 802.11b (2,4 GHz) standard variants were developed. Vendors from both the computer networking (Intersil, 3COM, Aironet, later acquired by Cisco, Symbol) and the mobile communications industry (Lucent, Nokia) were first movers in bringing to market equipment based on these standards. These companies formed the Wireless Ethernet Compatibility Alliance (WECA) to foster the growth of 802.11b as an open standard and to ensure compatibility between products from different vendors. For marketing purposes, the brand “Wi-Fi” was introduced. One of the first commercial products based on Wi-Fi was Apple’s AirPort that offered a wireless connection to the Internet for laptop computers. Wi-Fi made its first inroads into the home-networking industry during the same year. Moreover, public places like restaurants and coffee bars began to offer wireless Internet access for their customers. Start-up companies (e.g. MobileStar or Wayport), but also Internet service providers (ISPs) like iPass or Earthlink began to build Wi-Fi access networks or offered installation and maintenance of Wi-Fi hotspots (Sabat 2002). At first, laptop computers were the main access devices, but Wi-Fi enabled PDAs followed during the last two years, with mobile smart phones following in 2004. The emergence of Wi-Fi profoundly changes the mobile communications system of innovation. Vendors from the computer networking industry constitute a new source of 13
Bluetooth represents another wireless access standard that originated in the computer industry. Keil (2002) analyzes the standardization of Bluetooth through strategic alliances. 14 Specifically, the FCC opened the so-called “garbage bands”, at 900 MHz, 2.4 GHz and 5.8 GHz, which were already used by devices that used radio-frequency energy for purposes other than communications, e.g. microwave ovens.
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knowledge for the industry. This has opened up a host of technological opportunities. For example, WiMax, a new wireless access technology based on Wi-Fi, is expected to be launched in late 2004, with Intel, Alcatel, Proxim, Siemens and Fujitsu as main developers and standard champions. The incumbent equipment suppliers in mobile communications have reacted to this changing competitive landscape by investing into this new technology and focusing on the wireless public access market, but the market currently is dominated by computer networking companies (e.g. Avaya, Alvarion, Cisco Systems, Proxim, Symbol Technologies). For network operators, the growth of public hotspots after 2001 spelled bad news. As a partial substitute for GPRS and especially UMTS, Wi-Fi threatens the additional revenue streams they expected to come from a higher demand for wireless data transmission. After initially leaving the Wi-Fi public access market to start-ups and ISPs, network operators as T-Mobile and Vodafone entered the market as soon as it became clear that Wi-Fi is a viable technology for wireless data communications.15 Because network operators can draw on their complementary competencies (brand recognition, network maintenance, marketing), they are in a formidable position to dominate this market segment. In access devices, handsets with Wi-Fi functionality have been launched in 2004, reflecting the trend towards ‘smart phones’.
6. Industry convergence by product substitution: smart phones The advent of the mobile Internet has far-reaching consequences for the mobile terminal market. Wireless data communications challenges the voice-centric product design of mobile phones. Besides more incremental innovations, which added multimedia capabilities without changing the dominant design of mobile phones, mobile access devices have appeared that combine the functionality of mobile phones with products from other industries in a single product architecture. Examples are the popular camera phones, Nokia’s N-Gage mobile gaming phone, and smart phones as the combination of a Personal Digital Assistant (PDA) and a mobile phone. These hybrid devices are a main driver of industry convergence by product substitution: By incorporating features from two formerly distinct industries, camera phones and smart phones (partially) substitute for separate mobile phones, digital cameras, and PDAs. The industry convergence by product substitution leads to a redrawing of industry boundaries and, hence, to a renewed ambiguity about competitors, customers and suppliers for all actors in the converging industries. It is far from clear how large the demand for hybrid products in mobile communications really is. Many customers who only want a mobile phone for wireless voice communications might be unwilling to pay a higher price for integrated digital imaging or PDA functions. Moreover, due to inherent design compromises, a hybrid often delivers a lower functionality than two separate, specialized products. For these two reason, the business opportunities created by the new market segment of hybrid products are highly uncertain. In our case study, we shall concentrate on the emerging segment of smart phones, which incorporate features of mobile phones and PDAs (Stieglitz 2004) Advances in semiconductors, display technology, and power management support the development of hybrid mobile phones and created the required technological opportunities. Continuous improvements in semiconductors, especially though highly integrated system-ona-chip (SOC) designs, allowed for the rapid miniaturization of mobile devices and brought new technology suppliers (e.g. Intel) into the mobile communications system of innovation, while traditional, relatively power hungry liquid crystal displays (LCDs) might be replaced with new organic light-emitting diodes (OLEDs) and thin-film polymers in the future. This not only causes market ambiguity, but technological uncertainty as well. At the same time, the mobile handset value chain becomes more vertically specialized, because technologies like 15
Gerum, Sjurts, Stieglitz (2004) provide an in-depth discussion of network operators’ strategic responses to WiFi.
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radio ships or sophisticated SOCs can be bought off the shelf and electronic manufacturing services (EMS) allow outsourcing of production (Sturgeon 2002; Krafft 2004). Some EMS vendors already offer custom-designed handsets as original design manufacturers (ODM). ODMs produced more than 9 percent of mobile handsets in 2002; the figure is expected to rise to 30 percent by 2005. This process of vertical disintegration of the mobile phone value chain lowers the barriers to entry and depresses the appropriability conditions for all handset vendors. Thus, complementary assets like brand recognition or distribution channels gain in importance for protecting innovative rents. Early attempts at developing smart phones were the Simon PDA, developed by IBM and BellSouth and Nokia’s Communicator, both introduced in 1996. These devices had very rudimentary PDA features and could not be considered substitutes for a PDA. Moreover, the dominant design of the PDA, the Palm Pilot, eschewed any wireless communications features. The mobile handset and the PDA industry developed autonomously throughout the 1990s (Stieglitz 2003). This was starting to change in 2001, when established mobile handset vendors (e.g. Kyocera, Samsung, Motorola, Nokia) and PDA makers (e.g. Handspring) began to introduce smart phones, with many others following the next years. In 2003, according to researcher IDC, about 11.3 million smart phones were shipped worldwide, up from 3.6 million in 2002. At the same time, the PDA industry declined five percent, with only 11.5 million units shipped. The researcher Gartner Inc. blames this decline on industry convergence by product substitution, since smart phones increasingly substitute for low-end PDAs. Thus, even PDA vendors that choose not to develop hybrid products came under increasing competitive pressures. The same could happen to mobile phone vendors if the smart phones become a mass-market product. Thus, firms from both converging industries tend to be involved in the development of hybrid products. They take their respective product designs (e.g. mobile phones or PDAs) as the starting point for product development and extend the functionality of their products. Bresnahan and Greenstein (1999) have termed this process “indirect market entry”. Thus, the cumulativeness of knowledge in this type of industry convergence usually is high, restricting the importance of new entrants for industrial dynamics. With a market share of more than 50 percent in 2003, first mover Nokia dominates the smart phone segment. In 1996, Nokia released the Communicator, an early cell phone/PDA hybrid. While not very successful commercially, it initiated Nokia’s on-going involvement in the development of smart phones and was thus an important learning experience. In 1998, Nokia was a founding member of Symbian, a joint venture set up by Ericsson, Motorola and PDA maker Psion (Ancarani, Shankar 2003). Symbian was formed to promote Psion’s EPOC operating system, originally developed for Psion’s handhelds, as the standard operating system for wireless communications. With Psion’s expertise and the backing of many mobile phone makers, the Symbian operating system is a strong contender in the emerging market segment for smart phone operating systems, with over 10 million SymbianOS-enabled smart phones shipped in 2003. In 2004, Nokia acquired Psion’s stake in Symbian and is now the largest shareholder of the joint venture. The Finnish company has realigned its business strategy towards hybrid phones, with smart phones and the mobile gaming hybrid N-Gage as flagship products. It invests almost 80 percent of its research and development budget into software development for hybrid phones and reorganized its organizational structure to better target different market segments. In 2004, Nokia’s new business strategy ran into trouble, because sales of smart phones lacked behind expectations, while Nokia’s mid-range mobile phones came under increasing market pressure and lost market shares. Nokia’s recent troubles signify the challenges of industry convergence by product substitution, since the future demand for smart phones is highly uncertain.
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In the PDA industry, market leader Palm initially chose not to develop smart phones, concentrating on stand-alone PDAs with wireless data communications capabilities instead. It expected smart phones to remain a niche market. Confronted with declining market growth and a deteriorating market share in the PDA industry, Palm reconsidered its business strategy. Firstly, it acquired rival Handspring, a spin-off by former key employees of Palm. Handspring had concentrated on the development of smart phones since 2000. In 2000, Handspring shipped the VisorPhone module for its Visor PDA. Developed together with Belgian company Option International, the VisorPhone added voice and data communications to the Visor. In late 2001, Handspring released a smart phone, the Treo, which became the company’s core product. Through the merger with Handspring Palm augmented its product line-up to include smart phones and acquired key technological competencies for the in-house development of hybrid devices. Secondly, Palm intends to licence its operating system PalmOS more aggressively to mobile phone vendors. PalmOS has been the dominating operating system in the PDA industry, but only very few companies licensed PalmOS for use in mobile phones. To offer prospective licensees an independent source, Palm split up into two separate legal entities, PalmSource (software) and PalmOne (hardware). So far, PalmSource has found it very hard to contest Symbian in the OS market for smart phones, with Kyocera, Samsung, and PalmOne the only smart-phone licensees. Additionally, one of its main licensees, Sony, recently announced its withdrawal from the PDA industry, focusing on Symbian-based smart phones in the future. Microsoft is another key private actor who backs the development of smart phones, but the company has chosen a very different strategic approach. After the launch of the PocketPC operating system, Microsoft has become an important player in the PDA industry. Based on PocketPC, Microsoft developed a specialized operating system for smart phones, but it initially was unable to gain any licensees among established mobile phone vendors. Thus, Microsoft opted to seize the opportunities created by the vertical disintegration of the mobile handset value chain. Microsoft formed strategic alliances with network operators, e.g. O2, Orange, and T-Mobile, and the Taiwanese ODM HTC. HTC designed and produced smart phones with Microsoft’s OS, while network operators branded and distributed the handsets. This strategy enabled Microsoft to gain a foothold in the market for smart phones OS. Since then, Motorola and Samsung have also released smart phones featuring Microsoft’s operating system. It is far too early to predict how the mobile handset industry will evolve in the next years and how large the demand for smart phones turns out to be. What is already clear is that industry convergence by product substitution has been a major driver of industry dynamics in the past and present. The hybrid camera phones have been extremely successful, while sales of smart phones lagged behind expectations. Key players like Nokia, Palm, and Microsoft have adapted their business strategies to the changing system of innovation in mobile communications and the emerging market segment for smart phones. Strategic alliances form a key part of these strategies. The main motive for entering strategic alliances seems to the sharing of resources, e.g. access to technological competencies or complementary resources developed in other industries. For example, Nokia and Psion cooperated in the Symbian joint venture, while Handspring collaborated with technological suppliers from the mobile communications industry. This contrasts with the case of product complementarity, in which the coordination of activities constituted the major objective of strategic alliances. It remains to be seen how successful these strategies turn out to be, but the concept of industry convergence will play an important role to understand the evolution of mobile handsets in the future.
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7. Conclusions Our discussion barely touched upon many interesting changes in mobile communications that need more analysis. Our goal was not to provide an in-depth analysis of the past and future evolution of mobile communications in general or give a detailed account of its sectoral system of innovation. What we tried to argue is that industry convergence is a fundamental concept to understand the industrial dynamics and business strategies in mobile communications and the transformation of its system of innovation. Different types of industry convergence can be distinguished that differ in their ramifications for industrial dynamics and business strategy. We outlined how these convergence types relate to mobile communications and sketched their impact on the industry. An important tool to understand these ramifications for researchers and management practice is the sectoral system approach. It allows to analyze the dynamic impact of industry convergence and to understand the actors and forces that shape the creation and diffusion of innovations in converging industries. The paper attempted to demonstrate the general usefulness of this approach for studying the mobile communications system of innovation. Technological opportunities, the cumulativeness of the knowledge, sources of new knowledge and its transferability and the appropriability conditions characterize the technological regime of a sectoral system of innovation. They describe the ‘supply side’ of an innovation system. Their dynamic interplay with the existing, emergent, and potential demand brings about successful process and product innovations, and firms that understand this interaction better than competitors and deploy their corporate resource accordingly gain and defend competitive advantages.
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