Open it

The human, technical and economic benefits of open ecosystems and the connected community are so dramatic that it seems nothing can stop them.  On the other hand, a problem internal to the community itself might be posed by the actions of a rogue operator — for example a patent troll or hostile takeover opportunist.  In an open, connected economy, the role of senior leaders includes being alert for challenges to the integrity of the community and leading preemptive, corrective or defensive action as necessary.  Overall, the connected community and its ecosystems are growing, scaling and differentiating as organizations.  This provides an opportunity for new forms of co-leadership across the community.

Cadence, ARM Holdings

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 There are at least two places from which a challenge to openness in the connected community and its ecosystems might arise.

The first could come from within the general body of membership, by any one of a large number of players who might decide to maximize its short-term gain at the expense of others.

The second could come from one of the large, wealthy firms in the community, who might decide to acquire or “roll up” others and consolidate a central portion of the value chain under their control.  This can be a cheap way to grow short-term revenues, but over time this strategy will reduce the diversity of the value chain and ecosystems where it is used — thus weakening the whole.

A third challenge — not to openness but to overall strategic understanding — is emerging as the connected community reaches toward new levels of global scale.

Threats to openness from members within the connected community

Last year leaders in several companies noticed that well-known activist investors were joining the board of the struggling MIPS Technologies, a microprocessor design company with a number of important patents.  A group of companies across the community, most not publicly identified, came together and bought the core of the MIPS patent portfolio, putting it firmly in hands friendly to open ecosystems and effectively making it a public resource.[i]

In another case, a company began acquiring companies in a manner that raised concern among its closest trading partners. Their concern was that the company would achieve a controlling position in a key element of technology, become a single source, and attempt to extract higher than appropriate prices. In this case the trading partners helped a second company get established. They provided themselves a second source and ensured constructive competition.

I learned of at least one case where a company spurned a long-time supplier to start a business to supply itself — and to take products to market against its ally.  Leaders of the aggrieved company confronted their former customer and argued that this action betrayed their trust.  Though the former customer did not reverse itself, it is thought by observers that the resulting conflict and bad feelings served as an object lesson for all and dampened such behavior from that time forward.

These three stories demonstrate community self-regulation.  They also show the difficulty of knowing when one has crossed the line, and how exactly to translate the high principles of the community into concrete business leadership. The league-level challenges of major league sports illustrate the difficulty.   Consider the conflicting economics of small and large-market teams, and the near-constant tweaking of cross-subsidies, salary caps, luxury taxes and similar mechanisms in order to bring members together in the interest of the whole.

The global open connected technology community is much more complex — and yet it is functioning.  Members do sacrifice for the good of the whole.  How is this possible?

In the past decade, social psychology, game theory and evolutionary mathematics have shed new light on this question.  Mathematical biologist Martin Nowak in his book Supercooperators discusses two sets of relevant findings.[ii]

First, in what may be an example of academics verifying the obvious, research confirms that non-cooperators will turn themselves into cooperators if the probability of payoff for cooperation is high enough.  In a monopoly-centered ecosystem one or a few players “take most.”  In an open connected community a large number of participants can anticipate success and thus will be motivated to cooperate.

  • In the connected community the probability of a reasonable payoff for cooperation is quite high because among other things your partners in the community want you to succeed and will look for ways to help you.
  • The extensive use of profit sharing and risk-sharing financial models, combined with “just enough” on the part of those with the strongest bargaining power, makes for a comparatively equitable distribution of gains.
  • The degree of specialization in the ecosystem, combined with its enormous number of members, products and markets, means potential scale economies are great.
  • The growth of the ecosystem combined with the diversity of its offerings and end markets provides a continually expanding pie.  While the growth phase may not last forever, the markets being tapped are vast and many are barely touched — the growth phase in some respects may be just beginning.
  • Companies are encouraged to differentiate themselves, which means their leaders and people are doing what they believe in, not what they are compelled to do. This improves recruitment and motivation, which in turn encourages people to cooperate rather than defect — because to defect would be to step away from your own self-chosen path.

Second, here is a less obvious finding from research, this time from game theory.  Simulations demonstrate that when cooperation breaks down, it is more easily restored when partners have fewer neighbors.  Why is this?  Cooperation benefits are based on the ratio of cooperative to uncooperative neighbors.  Uncooperative neighbors extract a cost against performance and cooperators augment performance.

Other factors being equal, cooperation in a hostile world can best begin from small clusters where a few partners can feed into each other’s success and collectively demonstrate obvious benefits to neighbors — and entice neighbors, one or two at a time, to join and grow the cluster.  If a member has only two or three immediate neighbors, that original cluster is comparatively easy to muster.  If a member has ten immediate neighbors, it is difficult to put together a high percentage of cooperative neighbors, and thus almost impossible to show a cooperative benefit of interest to any other.

Why is this effect significant in the connected community?  Its ecosystems are diverse and are settled into niches.  Within those niches many of its most intense cooperative relationships are with small triangles of players — device maker, fab, EDA and IP and core vendors.  To have success only takes a group working in a small focused ecosystem and achieving a shared breakthrough.  And there are many such ecosystems, in many niches.

 

 

Threats from large, wealthy firms to maintaining openness and independence in the community

Warren East is the outgoing CEO of ARM.  He is deeply involved in the community and philosophical about why it works.  We discussed my impressions of the high level of openness in the ARM organizational culture, and the quiet, modest confidence of so many of the people.

“Pleased to hear you say that.  Hopefully that is the type of culture we have at ARM.  I think it is a practical way of running this business that is dependent on the ecosystem.  We’re probably outwardly a lot less paranoid than some other companies that have a reputation for paranoia.

 

“Internally, I assure you we absolutely are paranoid.  And absolutely not content I would say.”

He went on to talk about the partnership business model that has ARM dependent on the success of its licensees in order to make money.  He pointed out that,

“We are competing with different architectures and we continue to complete with multiple architectures.  And our number one competitor is much, much larger scale.  So, you know, there’s a natural paranoia there.”[iii]

Listening to Warren, it became clear to me that he, and other leaders across the community, may or may not be paranoid (I don’t particularly like the phrase) — but if they are, they’re paranoid about different things than those in the first-generation business ecosystems.

Strategy and business development in a traditional monopoly are about looking for companies to acquire and combine into centers of one’s own monopoly power.

In the connected economy, by contrast, you might take action to help a company stay independent, thus diversifying the evolutionary pathways available to the ecosystem as a whole.  You could call this “open business development.”  It makes little sense if your goal is to collect profits and grow your business in relative isolation from others or to their detriment.  On the other hand, open business development can make great sense if you want to live in a diverse ecosystem that will transform society and proliferate technology’s benefits.

The contrast is seen in the following chart of contrasting approaches to typical business ecosystem situations. In the middle column we see a first-generation, closed monopoly approach to typical business ecosystem challenges.  Keystone monopolists roll up weaker players, use cash to buy loyalty, and can be single-minded in their definition of progress and innovation.

In the right hand column we see the contrast.  Keystones in open ecosystems promote the benefits of diversity and independence and the flexibility born of combinations. They see possible defections as symptoms of possible ecosystem weakness and requiring shoring up.  And they find it easy to rally combinations around industry-wide challenges, because innovation in the community is happening in most of the players, in a diversity of directions.  The ecosystem as a whole is not dependent upon one or two players to make advances that carry the rest — and also hold the others back.

Closed and Open Business Development

Problem

First-generation monopoly

Third-generation community

The largest companies have the financial might to buy control of smaller players in key roles  Yet in many cases the independence of players of all sizes and their willingness to trade broadly is vital to the connected community and its ecosystems

If you see a weak player in a critical role is struggling, buy it before one of your rivals buys it first.  More aggressively, see any given domain or sphere of influence that has lots of small players as ripe for “rolling up” into a central monopoly position.Help larger players benefit — along with the ecosystems and the connected community as a whole — by having a diversity of independent members who combine and recombine to create solutions for an ever-expanding range of problems and markets.  Discourage roll-ups.  Help smaller players fend off suitors if necessary. If necessary play white knight to assure vital companies or resources stay independent and open.  E.g. the connected community bought the MIPS patent portfolio to keep it open for the community.There is a large player who can afford to make its own processors and is leaning toward leaving the community.If you are the maker of the processor (or any similar central building block, such as a software operating system, use your monopoly profits to buy loyalty where you need it.  In the case of a large player considering leaving, estimate the direct cost of the defection, as well as the indirect costs it the movement spreads.  Then step up and find a way to pay through for example special discounts, sales incentive payments, equity investments or loans.Improve community services continuously.  If a player is wavering it sends a strong signal that it doesn’t feel able to succeed with these services.  Apparently software tools, applications and developer communities are well not perceived to be ahead of alternative communities in capabilities.  Where the connected community seems fragmented or weak, take shared action to build new open capability.There are large, difficult problems facing the technology community across products and markets.  Feature size, integration, mass production and cost-reduction — Moore’s law — is a first-generation problem. Others include design automation and flexibility, energy efficiency and security.In order not to be diverted from one’s current roadmap, and in order to preserve one’s lead, it is important for the monopoly to find a way to address new challenges within the framework of its existing investments. E.g. in the 90s traditional communications carriers attempted to put intelligence in their switched networks to counter distributed computing. They would have been better off learning computing without the baggage of integrating with their network—or concentrating on upgrading to digital networks and thus hastening the day of cloud computing.The connected community and its ecosystems anticipate and take cooperative action to address the largest emerging issues their spheres of influence. Warren East: “If we are to realize the promise of the digital world, and we want to have the things we are making continue to be useful to humanity, then I think security is the new energy.”

 


 

The connected community scales up

 

The ultimate scale of the community will be much larger than today’s collection of ecosystems, which are already shipping billions of units each year.  Profound economies of scale and cumulative learning will be available to large, well-funded companies who can make the requisite investments and assemble the necessary expertise.  At the other end of the range, communities of small, agile players using tiny, inexpensive chips are entering markets.  Leaders of the connected community are already working together to co-evolve and co-lead the next generation of ecosystems and systems of ecosystems.

Charles Huang is a senior executive at Cadence, the electronic design automation company.  He is a gracious man with a philosophical turn, and we enjoyed talking about the longer view of the scene.[iv]

The first observation he made was of the delight and surprise that he and others in the tech industry are experiencing at the success of the connected community and its many constituent ecosystems and companies.

“You know, for many years [we have been wondering who would bring the next wave] and, unbeknownst to us, it is really fun for it to be something so surprising.  You can look back now.  You can see how these little, little actors, without any [traditional top-down] coherent, coordinated industry policies, could provide a private free market where they gathered together to cause so much change!”

In addition to his delight at what small companies can do together, he is paying a great deal of attention to the relationship of the ecosystems and community to the much larger actors: the telecom carriers, whose revenues and earnings are more than double those of the equipment and device makers, and a company he considers unique on the landscape, Samsung.

Samsung is of course a citizen of the connected community, and one of its largest chipmakers and chip users.  Currently in the tech community, Samsung is being held up as a model of vertical integration in the traditional sense of an integrated value chain with one owner and a competitive advantage derived principally from each link trading with the others.  Given this conventional wisdom, there is conversation about how far Samsung might go in the direction of what is seen as internal sourcing.  This in turn is seen as a potential challenge to the ecosystem model and the connected economy.

Charles has a very different interpretation.  He has close knowledge of Samsung and does not see it as having a conventional vertical integration mindset.  On the contrary, in Samsung Charles sees a company that has developed a way to succeed based on capital investment.

Samsung looks vertically integrated today because it has massive positions in major parts of the information and communications technology value chain, and these units sell to each other.  However, it did not get to these positions through integration and captive internal customer/supplier relations, but by more or less one-by-one picking off already commoditized markets — for example DRAM memories.  Samsung also leveraged capital and R&D to lower cost so far below the industry standard as to make a profit and drive others out.  As Charles says,

“They crushed everyone in DRAM, crushed everybody in TV, crushed everybody in flash.  It has done this same thing with LCDs and with semiconductors.” 

 

As Charles points out, Samsung’s centers of excellence trade with many other companies — for example, Samsung sells screens to Sony.  Samsung has until recently been Apple’s biggest maker of processor chips.  It would be as if each part of General Motors, or of Intel, began selling its partial products on the open market.  The advantage from a scale standpoint is that volume is not solely dependent on the rest of one’s company.  From a learning standpoint, each part competes for outside sales on the open market against everything else available.  To this last point, it is rumored that not only does Samsung sell on the open market, but it quietly buys as well — thus providing Samsung-based competition for other Samsung units.

A question Charles would like to understand:  How is it that Samsung can affordably source as much capital as it does?  And equally, how is it that Samsung manages the execution of its investments?  Charles observes that Samsung seems refreshingly unbound by tradition or ideology in its investments, and looks for ideas and supply outside as well as in.  For example, Samsung goes outside for designs and intellectual property, whether for processor designs  (ARM), or whole chips (Qualcomm).

Charles does not claim at all to know Samsung’s strategic mindset or future strategies.  However, from my perspective, the picture Charles paints is one of a player that is principally concerned with establishing world-serving centers that provide the high-capital-investment-requiring hard components the community needs to continue to grow while reducing its total costs and selling points.  From this perspective, Samsung’s actions are consistent with a very helpful community member pursuing its role in an open ecosystem.

From a conventional perspective, one might see a company like Samsung as setting up these centers so it can subsequently wrap “high value” — meaning high margin — intellectual property businesses around them.  That perspective makes sense if one sees the capital-requiring businesses as unattractive, and sees the volatile and fast-moving ecologies grown on top of them as more desirable.  This is first-generation analysis — what it ignores is the dramatic differences between the two classes of businesses, and the very real and attractive opportunities in capital-intensive businesses if one is able to lead, learn and continually advance them.  The agile, fast-moving businesses are much better suited to diverse, co-evolving communities that sit in hundreds of large, medium and niche markets, close to applications and customers.

Far from being concerned about the Samsungs of the world, the best thing the community can do for itself, as well as both large and small members, is to just keep co-evolving.

Next telecom

The telecom carriers’ global mobile revenue in 2012 totaled more than a trillion dollars:  $1,252,000,000,000 according to a recent MIT Technology Review report.  By contrast, mobile phones and smartphones came in at $269,000,000,000, or less than a quarter of the carriers’ revenues.  Personal computer sales were $248,000,000,000, or twenty billion less than phones, and declining.[v]

Charles noted that until recently the differentiation maintained by phone makers was tied to their network partners.  The leading device makers had the best relationships with telcos — from the executive suite to testing and certification of new models.  This was consistent with carrier dominance.

But now the app world, the continued expansion of the “smart” part of the smartphone, and the use of the smartphone as a digital hub — for financial transactions, entertainment, and management of connected devices — may be changing the game.  Charles observes with interest that device makers seem to be exploring ways to differentiate on the chip itself.

“Seeing that these cell phone device makers like Samsung, ZTE, HTC, Lenovo are now endeavoring to make their own SoCs, I would venture to guess that they now see value or differentiation shifting to the device.”

 

This is good for the electronic design automation and physical IP parts of the community, as these phone makers ramp up their design capabilities and engage third-party design houses.

What seems to be happening is a new round of device innovation spinning free from the carriers. The concern about Samsung — with which I disagree — was that it would use its centers of capital-intensive businesses to take over the soft goods wrapped around them.  But the evidence goes against that supposed trend.  The traditional carriers started out integrated in this fashion, from consumer phones to PBX systems. The traditional carriers show a decades-long devolution as their control over peripheral devices and applications sharply and steadily declines. From my perspective, these later businesses require an agility and co-evolutionary dancing that is very different from building and managing networks.

Another emerging phenomenon that may also be contributing to the devolution of carrier control is the rise of ultra-low-cost smartphones, some with a retail cost as low as $65 in China. How are these produced at this price point?  MediaTek and Spreadstrum are now selling what one might call “Smartphones on a chip” — turnkey phone kits costing in the tens of dollars that are being assembled and sold by several hundred mostly small and emerging companies in China.[vi]

The cheap smartphones are a topic I hear a lot about because they feel like potential disruptors to some industry leaders that benefit greatly from the current $600 smartphones.  I don’t know how some of the chip and assembly players participate in the new world. It does occur to me that anyone considering entering Africa or India with an inexpensive phone should be assessing these low-cost options.  It also seems these phones have a real role to play in the community, and foreshadow a next round of proliferation of community technology and transformation of the world.

In closing, here is the good news:  The greatest disruptive technology on the landscape today is not a product or a service, but a philosophy and a set of business practices.  This system of third-generation business ecosystems, evolving together in the growth medium of the connected community, has strength and momentum.  Talented people and companies are attracted to its fun, educational benefits, reasonable ecosystem-wide profit-sharing business models, and the opportunity for many to succeed.

Leaders in the connected community are self-conscious leaders who understand they are together inventing a new approach to industry.  They are studying business evolution, monopoly economics (especially the downside of monopolies), and ideas of cooperation taken from game theory, social psychology and the open-source community.  The words of the day are open ecosystems, collaboration, proliferation and differentiation.  And so far the growth is happening, companies are succeeding, and people are happy.  Not a bad start.


NOTES

[i] “Imagination Buys MIPS, While ARM Gets Access To Patents,” Peter Judge, TechWeekEurope November 7, 2012 http://www.techweekeurope.co.uk/news/arm-mips-patents-imagination-98506

[ii] Supercooperators, Martin A. Nowak, Free Press, 2011

[iii] Warren East, ARM Holdings, personal communication, November 2012

[iv] Charles Huang, Cadence, personal communication, April 2013

[v] “Smartphones:  High Prices, Huge Market,” Benedict Evans, MIT Technology Review Business Report — Making Money in Mobile, 2013

[vi] “Here’s Where They Make China’s Cheap Smartphones,”  Case Studies, MIT Technology Review Business Report — Making Money in Mobile, 2013