“Modular economy”? What, the economy now comes in easy-to-assemble pieces from Ikea?
Yes, except for the Ikea part. And it makes a difference in strategy for everyone from entrepreneurs to investors to competitors.
There was a time when vertical integration was in vogue. Ford, for example, could transform raw materials out of the ground into finished vehicles at its gargantuan (1½ square miles!) River Rouge Complex.1 Vertical integration is attractive because you control everything and it’s hard for competitors to duplicate. The downside is that it can be hugely expensive, difficult to modify or update, and hard to manage. Ford found it so. Other than a 3,000-place parking lot for a nearby Ford facility, the old Rouge was gone as of 2008.
Companies enter into partnerships as varied as keiretsu and affinity programs. There’s vertical and horizontal integration there, but it’s looser. The combination of integration and looseness is what makes it attractive: you can coordinate skills and build scale without having to manage the whole army. By partnering, for example, airlines don’t have to buy more aircraft to lose your bags at exciting new destinations.
Private label and outsourcing are another kind of relationship. You focus on what you do best and you buy others’ scale, expertise, management, and capital. Beyond simplicity and convenience, you might even get better quality and/or lower costs than you could achieve on your own. That’s why Amazon hires FedEx, UPS, and the USPS rather than fielding its own fleet of delivery trucks. At fast-food restaurants you don’t know the brand of the food you’re eating — sometimes you’re lucky to know the species — but you know whether you’re drinking Coke or Pepsi.
The digital era has introduced a major new way that companies interact. The companies don’t have to talk to each other; they don’t even have to know each other exists. They create modules, not unlike Lego® pieces, and they talk. All a company has to do is introduce their modules to someone else’s and then let nature take its course. The frisky modules spawn new products and services with the Darwinian speed not of everlasting sharks but of caffeinated bacteria.
That modularity isn’t merely convenient and efficient. It does more than unleash a flood of services with perverss conzonantz and mssng vwls. It changes how companies compete.
Think about cloud computing, offered by Amazon Web Services, Google Cloud Platform, IBM Cloud, Microsoft Cloud, and so on.
A web-based start-up before cloud computing would have to invest in servers, facilities to hold the servers, machines to cool the facilities that hold the servers, people to maintain and protect the machines, facilities, and servers, and so on. That’s expensive, time-consuming, and distracting. It requires scale, experience, and capital to do it right. It was a form of required but undesired vertical integration.
Cloud computing changes that. You get the services you need without delay, you can adjust your capacity as you grow or shrink, and you don’t have to manage all those wires and acronyms. That, in turn, radically changes the economics of your business, your competitors’ businesses, and investors’ decisions.
For the companies that define modules — that is, that create “platforms” — scale is more important than ever. Apple is popular for developers because it is popular for customers, and vice versa. That positive feedback loop makes it very hard for competitors to break in against Apple, Facebook, YouTube, and WordPress. It takes a Google or a Microsoft to seize a wobbly seat at the table. It’s not clear that even Netflix has that kind of structural advantage in its market.
For the companies that plug modules into platforms — that is, that create applications — scale is less important than ever. Whether they’re developing for the web, Apple, or someone else, more and more of the infrastructure is free (provided by the platform) or easy to get (cloud computing). It’s easier than ever to invent and launch a new e-service, and to compete against those already there. There’s nothing inherent in a game, car pick-up service, or blog about competitive strategy (uh oh), that helps incumbents fend off interlopers.
With low, low barriers to modular entry, companies should consider not only their competitive strategies — differentiate! — but also their exit strategies. Perhaps investors in Uber should cash out now, if Uber lets them, because 1) how much higher can it go?, and 2) it might be hard for CEO Travis Kalanick to run the business from a South Korean prison.
Who will make money? A lesson from the California Gold Rush of 1849. A few people struck it rich with gold, but it was said that the only people who reliably made money were those who sold pickaxes and shovels.
1 Don’t you love weird ways to give an impression of size? The average airline seat in economy class takes roughly 4 square feet. If it could fly, River Rouge could transport about 10½ million uncomfortable people. Truly uncomfortable, because I didn’t leave room for aisles.