As global enterprises seek to adopt digital business models, they need to understand the fundamentals of digital platforms and their many implications. Organizations need to decide on their business model as well as their digital platform objectives. Will they pursue closed or open systems? Free or charged? Cooperative or competitive? Because supply and demand effects can be significant, organizations might need to establish new roles and governance as well.
I offer a brief summary here of our research into platform economics and its implications for businesses. For a full discussion and further research findings, please read more here.
Overview: Platforms and Ecosystems
Platforms have been defined in various contexts by different people over the years, but the common underlying theme is that a platform is the set of components used in common across a product family whose functionality can be extended by third parties (Boudreau 2007) and which is characterized by network effects (Eisenmann, Parker & Van Alstyne 2006, 2011). As such, Apple’s iTunes and iPad, most computer operating systems, smartphones, game consoles, eBooks, social networks, and medical HMOs all qualify as platform markets; common components shared and extended by third parties.
Gawer (2009) defines platforms as the building blocks that act as a foundation upon which an array of firms-- often called a business ecosystem-- can develop complementary products, technologies or services. One must be very careful, however, to distinguish between industry platforms and product platforms, which simply represent reconfigurable building blocks, like Legos,™ that do not involve innovation by other parties.
All components of a platform are rarely developed within a single firm and in fact, for most successful platforms, it is the ecosystem spawned by these platforms that gives the platform its strength. In a typical platform market, value is exchanged between participants in a triangular relationship where the platform provider extracts rent by charging one side of the market for access rights. Furthermore, because of the nature of networks, platforms, and the ecosystems that arise around them, do not have standard linear supply chains.
To understand platforms, you need to first understand two-sided networks, also called two-sided markets. These are economic exchanges with two distinct user groups that provide each other with network benefits (see figure 1, from Eisenmann, Parker, Van Alstyne, 2009). Example markets include credit cards, composed of cardholders and merchants; HMOs (patients and doctors); operating systems (end-users and developers), travel reservation services (travelers and airlines); Yellow pages (advertisers and consumers); video gamgae consoles (gamers and game developers); and communication networks, such as the Internet.
Benefits to each group exhibit demand economies of scale. Consumers, for example, prefer credit cards honored by more merchants, while merchants prefer cards carried by more consumers. They are particularly useful for analyzing the chicken-and-egg problem of standards battles, such as the competition between VHS versus Beta, Blu-Ray versus HD-DVD, or HTML5 versus Adobe Flash. They are also useful in explaining many free pricing or "freemium" strategies where one user group gets free use of the platform in order to attract the other user group. Two-sided markets represent a refinement of the concept of network effects. They were conceived independently by Parker & Van Alstyne (2000; 2005) to explain behavior in software markets, and by Rochet & Tirole (2001) to explain behavior in credit card markets.
The platform provider and/or sponsor is an intermediary facilitating exchange –value lies in the ability to facilitate an exchange that would not otherwise happen. Successful platforms help to consummate a match. Who gets charged by the platform helps define how the platform ecosystem grows.
- In our recent in-depth study of International Post Corp., we applied this historical context and the concepts of platforms and two-sided networks, to offer options that the Post members could follow in their move toward digitization.
- Posts have been trying to address the move to digital communication by launching applications such as hybrid mail, secure digital eBox, digital identities, and other products and services. We believe that the Posts, with their diverse assets and competencies, can generate revenue if they go beyond standalone products and become digital platform players.
Specifics of IPC will be discussed in my next blog.
MARSHALL VAN ALSTYNE is associate professor of information economics at the Boston University School of Management and research scholar at MIT. His research focuses on information access, technology and networks. His MIT thesis work introduced "cyperbalkanization," describing the influence of IT on social fragmentation. Subsequent work introduced "two-sided" market theory used to develop platform business models. He is currently studying information markets and open innovation systems.
Marshall studied computer science at Yale and managerial economics at MIT, and he holds patents on protecting communications privacy and managing email lists. His work on communication flows was among the first to measure individual dollar output from the use of IT, and his theories of network businesses are now taught in more than 50 business schools worldwide. Science, Nature, the New York Times & the Wall Street Journal, all cite his work.