Asset-heavy strategies in the platform economy

Leveraging value stacks for asset-heavy firms

Our blog on value stacks in the financial services space seems to have resonated with a lot of readers. Quite a few wrote back talking about how they see similar shifts underway in their own industries (industries ranging from automotive to child adoption).

I wanted to follow that up with another interesting analysis on applying value stacks to create competitive strategy, particularly for asset-heavy firms.

One of the early myths of the platform economy was the myth of asset-lightness. It sounds cool to say that the world’s largest media company doesn’t produce content and the world’s largest retailer doesn’t carry inventory, but the truth is much more nuanced. Supply-side advantages reinforce demand-side advantages. Amazon’s asset-heavy warehousing network makes its Prime proposition possible, which in turn creates a defensible network effect as Prime users do not switch easily.

It’s important to understand asset-heavy strategies in the platform economy. Most incumbents cannot afford to shed assets. Nor should they have to.

Instead, they should strategize new positions for those assets in the future value stack that they want to compete in.

This analysis is covered extensively in our State of the Platform Revolution 2021 report and looks at an interesting example of an incumbent that leveraged its assets across the value stack to eventually create a vehicle for others to invest in and partner with. (Download the full report here)

So let’s dive right in…

Old Oil is the New Tech

During the pandemic-ravaged summer of 2020, many of Silicon Valley’s top tech giants (and leading investment firms) invested more than 20 billion dollars in Reliance Jio, a seemingly traditional telecom company in India. Over the course of 14 weeks, the company raised capital from Facebook, Google, Intel, Qualcomm, and a host of investment firms.

This was all the more confounding because Reliance was essentially playing a traditional telecom game and building an asset-intensive business. Since the mid-2000s, the telecom industry has been impacted by two waves of disruption, first when Apple and Google built their app platforms and next when Skype, WhatsApp, and other providers of free communication services eroded traditional telco revenue streams. Many have hailed this as the rise of the platform business, the shift from asset-intensive to asset-light businesses, and the rise of over the top (OTT) players.

The results had been declared. Telcos had lost the game and had gotten relegated to commoditized, asset-intensive businesses while the bigtech firms had won with asset-light platform business models.

Why then were the same BigTech firms scrambling to invest in a traditional telecom business, no less one that had invested more than $30 Bn in building out traditional telecom infrastructure and had more than $20 Bn of debt on its books?

Industry observers tried hard to explain this. Some heralded this as the triumph of ‘free’ but couldn’t quite explain why that made any business sense. Others pointed to Jio’s investments in new digital services but struggled to explain its larger investment in 4G infrastructure. Some called this a new form of vertical integration but were further confounded when Jio opened up its most capital intensive asset – its 4G network – to its competitors, where vertical integration would have protected it.

None of these adequately explain Jio’s strategy nor the tremendous upheaval it has brought about in India’s telecom industry. Since Jio’s arrival, 4G has become the default network for most of India, with Jio accounting for ~70% of the country’s 4G traffic. In less than 5 years, the company has amassed more than 400M customers and propelled India from #155 to #1 in the world in mobile data consumption.

From vertical to horizontal industry structures

To understand Jio’s strategy, we need to understand a deeper shift in industry structure that’s playing out across the platform economy.

Through most of the twentieth century, businesses scaled through vertical integration, integrating multiple activities across supply, production, and distribution. This offered greater control and greater capture of profits, and was a natural solution to the problem of transaction costs – costs incurred in coordinating activities across the value chain.

Transaction costs determine an industry’s structure – the manner in which firms organize themselves and interact with other players. To minimize transaction costs, most firms engaged in vertical integration.

Most industries, accordingly, took on a vertical architecture with a few large vertically integrated firms competing with each other.

As digital technologies proliferate across industries, we’re seeing a fundamental shift in this architecture. Digital technologies enable cheaper inter-firm communication, greater interoperability, and higher standardization. These factors together reduce transaction costs and enable firms to more effectively coordinate without requiring vertical integration or bilateral contracting.

As a result, the links in the vertically integrated value chain start to break up and new specialized competitors emerge that are more agile and innovative in delivering a specific task in the value chain. The vertical industry architecture is increasingly giving way to a more horizontal ‘layered’ architecture where firms at every layer specialize in a particular value creating activity, and where firms, across layers, are organized towards a common value creation goal.