The Best Kind of Digital Transformation

Digital transformation is the evolution of a legacy business model as it adapts to a changing industry landscape. There are multiple ways to transform a business to be digital, but not all of these methods are equally successful.

There are four main strategies for digital transformation: Platform Innovation, Industry Consolidation, Going Mobile First, and Complementing the Platform.

The biggest factor in determining which path is appropriate for a company is how proactive the executive leadership is in identifying the threat and taking action.

In order to understand what kind of digital transformation is appropriate for your company, you must first understand the threats relevant to your industry. Therefore, one must understand the platform business model and whether or not it can enter an industry.

Platform Innovation

Platform Innovation is the most proactive approach any company can embark upon for digital transformation and it also has the best risk/reward ratio relative to the other available options. Being a first mover to execute upon Platform Innovation will almost always provide a large strategic advantage over all existing and new competitors.

What does this path involve? Building or buying a platform business and scaling it to become a modern monopoly.

Fortunately, large legacy businesses have a number of advantages when considering this approach: access to consumers and/or producers, access to capital, an existing brand and consumer trust, and industry and regulatory knowledge.

However, trying to embark on Platform Innovation too late can be an expensive and treacherous path.

Look to Circuit City or Caldor as an example, which both went out of business in large part due to the growth of Amazon’s B2C product marketplace.

In another example, Amazon was founded in 1994 and Walmart didn’t start its own marketplace initiative until 2009. Then, in 2016, Walmart bought Jet.com, a startup product marketplace for $3.4 billion because Walmart executives saw the startup outperforming their own marketplace initiative in a very short period of time with no existing brand equity.

It is highly doubtful that Walmart and Jet.com will be able to be unseat Amazon as the #1 product marketplace in the B2C market, but they could still attain a powerful #2 position in e-commerce.

As I’ve written about previously, Walmart wouldn’t have needed to buy Jet.com if it had been able to make its own marketplace initiative more successful on its own. Instead, its digital transformation was much more expensive and less innovative.

Industry Consolidation

Highly fragmented industries tend to be ripe targets for platforms to thrive. By coordinating the value creation from large networks of individual producers, platforms can bring significant efficiencies to consumers by reducing the typical search and transaction costs.

As a result, instead of going on the offense and engaging in Platform Innovation, some industry leaders will decide to play defense and work to consolidate supply in the industry to prevent a platform from gaining a foothold.

Marriott bought Starwood Hotels in 2016 for $13 billion to add 330,000 hotel rooms to its inventory and become the largest hotel chain in the world with over 1 million aggregate rooms. On the whole, the hotel industry has roughly 7 million rooms.

Airbnb, the platform disrupter in this vertical, added over 2.3 million rooms to the extant 7 million hotel room inventory, expanding supply by about 33%. The top 10 hotel chains controlled a little more than 5 of the 7 million hotel rooms, so Marriott now has the most bargaining power amongst its peer group to negotiate better rates with online tourism agencies and other industry players.

While this approach can provide advantages to the industry consolidator in the short- to mid-term, it requires significant resources and time to properly execute a large acquisition and integrate the new company into the existing company, often much more than is needed for Platform Innovation.

This focus can distract the company from working on the long-term threat of a platform continuing to disrupt the industry, especially as Airbnb pushes ahead to create an “experience marketplace” to create a set of offerings that will rival the concierge service typically found in hotels.

If Airbnb is able to continue to expand its supply of rooms and create a more competitive experience offering, the industry consolidation of hotel rooms could prove futile to prevent the threat of platform disruption over the long term.

Industry consolidation could also be leveraged for a small to mid-size player in an industry with potential platform disruption. If that company’s executive team sees disruption on the horizon, they could proactively seek buy-out offers before the rest of the industry realizes the true extent of the platform threat.

Complement the Platform

If a platform is rising to power and your business can’t engage in Platform Innovation, a motivated business could work with with the platform and make sure it’s the platform’s most valuable partner. This approach could yield short to mid-term benefits, but it could also bear significant long-term risk, as the platform will often commoditize its partners as it gains more scale and market power.

Look at Samsung, the first major smartphone OEM that converted its entire product line to Android. The Google team valued this huge influx of resources and focus on making great Android phones, so it helped enable Samsung to create a number of best-selling phones. However, as Android gained more power in the OS ecosystem for smartphones, it became very clear that Samsung could never break away from the firm grip of Android, despite having several parallel initiatives attempting to create its own Samsung OS.

Going Mobile First

Rethinking your linear business model through mobile and connected technologies can bring a great deal of efficiencies for your internal operations and more satisfaction to your customers.

A company could approach this as either an effort to “plug holes” in the existing ship. This approach could be used while exploring Platform Innovation and expecting a new ship, the platform model, to lead the company into the future business landscape.

Companies not threatened by platform disruption, should assess if modernizing their end-to-end technology will fundamentally improve the service and value they provide to their customers. Blockbuster vs. Netflix is the classic example where the digitization of videos led Netflix to rethink its distribution model.

This shift to digital made Blockbuster’s retail locations to become a huge liability that eventually led to the company’s bankruptcy. Netflix isn’t a platform and the supply of the movie and TV industry is still very consolidated. However, by being the first to modernize its end-to-end delivery of its service, Netflix was able to obliterate Blockbuster’s value proposition and, ultimately, their stock price.

The Digital Future

In conclusion, the biggest change to existing industry value propositions over the next 20 years will either come from A) platforms rising to power in an industry, or B) mobile and connected technologies breaking old cost structures while preserving the presence of linear consumption models in industries where supply is consolidated amongst a few key players.

Capturing any kind of intense disruption in an industry is very difficult for an existing business to do. It requires the business to restructure itself while continuing to run the old, existing model in tandem.

For executive management operating in a public environment, this can be a daunting task and requires a long-term vision. Beware, where there is great risk, there is great reward. Since platforms experience winner-take-all dynamics, there will usually be only one or two winners in an industry.

If your existing business is able to successfully evolve into the dominant platform, the modern monopoly, your business will be much stronger and more valuable than its linear predecessor.

Filed under: Innovation Leadership | Topics: digital transformation, platform innovation