2/20/031 Computer hardware & software Another industry in which the “US is different.” Vertical specialization characterizes development of computer industry, separating SW & HW industries and affecting the evolution of each. –Competitive dynamics shift as vertical specialization develops. Composition of demand, nature and scale of “launch markets” are important. Users are important innovators. What was the basis for Microsoft’s allegedly anticompetitive behavior in US v. Microsoft? How will the outcome of the case affect future tech. development?

2/20/032 The record of technical progress Computer performance has benefited from progress in component technologies, especially integrated circuits. Figures show reductions in the cost of computing operations (based largely on progress in ICs) of more than 100-millionfold during Equally important for business computing is technical progress in peripherals (storage; printers; networking). Direct and indirect gov’t support were essential to development of computing technology. –“Spillovers” from military to civil applications were important during for US, British, French computer firms. –Large US investments in university research “infrastructure.”

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5 Innovation in a “general purpose technology” Other “general purpose technologies”: –Steam power. –Electricity. Declines in price-performance ratio drive expansion and diversification in applications. Adoption of computers, development of new applications requires considerable “co-invention,” organizational adaptation, and user involvement. “Co-invention” advances technology more rapidly in markets with many sophisticated users. –Low-cost, abundant HW is essential. Innovation and adoption are linked, and technology may advance more quickly in large “launch markets” (US in packaged SW; Internet).

2/20/036 Industry origins: the 1940s Wartime and postwar development projects for applications in computing artillery trajectories; cryptography; radar; nuclear weapons design in US, UK. Universities (Cambridge; Harvard; Penn; MIT) play major roles in development, as well as basic research. These early “scientific” computers (number- crunchers) have limited applications in business, where data input & output requirements are high. What firm 1 st introduced this technology for business-computing applications?

2/20/037 The world’s 1 st business computer: LEO Introduced in 1952, before IBM, Sperry Rand. Conceived of and developed by Lyons Tea Shops (UK) managers after visiting US in late 1940s. Lyons collaborated with Cambridge University in developing the “Lyons Electronic Office” (LEO). LEO included an advanced operating system. Users, including Lyons, found adoption of the LEO difficult, because of the need for significant change in internal organizational practices. Lyons received little or no financial support from UK government, in contrast to many other US, UK computer firms during the 1950s and 1960s. LEO Computers was not profitable and merged with English Electric in 1963.

2/20/038 Development of US business computing, % of IBM, RCA, GE, Raytheon computer R&D during from DoD contracts. The “mainframe” dominated the 1950s & 1960s, and IBM dominated the mainframe by –IBM’s entry into business computing drew on firm’s long history in business equipment. –1956 antitrust consent decree mandated licensing by IBM of extensive patent portfolio. The IBM 360 (1965): Based on an HW family that shared software. –360 enabled users to “scale up” HW without having to develop or acquire new SW. –Creation of a large library of operating systems, applications SW “locks in” users. –“Cloners” enter (“plug-compatible” computers).

2/20/039 Characteristics of HW industry’s development before the PC Vertical specialization. –IBM, other mainframe firms initially produced components and systems, HW & SW. –In 1969 (facing another antitrust action), IBM “unbundled” SW from HW. –SW/HW vertical specialization occurred earlier, was more extensive in US than other industrial economies. –But IBM remains a major SW vendor. Market segmentation & encroachment. –Minicomputers, supercomputers were introduced in 1960s for scientific users and migrated to business applications. –Another example of “user-driven innovation”— scientists & engineers initially wrote the SW.

2/20/0310 The PC and desktop computing The microprocessor, the basis for the PC, was a “bottleneck-breaker” innovation. –Based on Intel’s search for a processor that could support multiple applications. Combination of circumstances produced an “open design” for PC in US, supporting entry into systems and “commoditization” of the PC. –Rapid establishment of two “dominant designs” based on IBM, Apple in large market (US) were critical to subsequent explosion in the SW industry. –Cheap hardware in US drove rapid adoption. –PC accelerated vertical specialization in HW. –Profits shifted from system-level hardware (IBM) to components (Intel) and SW (Microsoft). –PC encroached on other segments (mini, mainframe).

2/20/0311 Development of the US software industry : Software largely produced by systems manufacturers : “Unbundling” of software and hardware pricing and sales begins; ISVs enter : Development & adoption of the desktop personal computer creates a mass market for “packaged” or “standard” software present: The Internet becomes an important market and an important channel for distribution and application of software and business methods.

2/20/0312 Software and the Web The Internet has created low-cost distribution, marketing channels for packaged software. “Business methods” software: Much of it is not a “standalone” product sold in shrinkwrap or through the Internet, but instead a process complement to a service or product. But “hits” remain important in a mass market. But the Internet also expands possibilities for “open-source” software.

2/20/0313 US firms’ offshore market share is lowest in applications.

2/20/0314 SW investment in the US, (US Commerce Dept)

2/20/0315 SW competition in the PC era “Dominant designs” (Wintel, Apple) drove profitability. –Based on availability of library of complementary applications software and compatibility with other users. Similar to the IBM 360, but separate firms now are involved. –“Tipping” among independent developers of apps. SW toward dominant operating systems, hardware architectures occurs quickly. Strong “bandwagon” effects. –Market competition quickly creates de facto standards that tend to endure. Users find switching costly and difficult.

2/20/0316 The rise of SW patents Diffusion of the PC means that the economics of packaged SW resemble those of publishing. –“hits” are hugely profitable. –Protection of IPR becomes crucial. –IPR & vertical specialization are complements. SW patents were strengthened in a 1980 Supreme Court decision; other court decisions during the 1980s weakened value of SW copyrights. During the 1980s and 1990s, SW patenting increased significantly, copyright declined. –US patent system has difficulties in new fields of inventive activity—lack of patent-based “prior art.” –Weak quality control mechanisms. –Uncertainty remains over the actual validity of these patents, but they may impede “cumulative” innovation.

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2/20/0319 Copyright Propensity, 15 Largest Packaged SW Firms (1997), 3-year moving average, FIGURE 17 Registered copyrights per $100M R&D (1992 $)

2/20/0320 International production networks in SW: The case of India During , Indian SW firms’ sales grew at 56% CAGR. Employment has grown from 160K in 1997 to more than 400K in Industry focused on exports, upgrading, maintaining existing SW products for foreign firms, rather than developing packaged SW that requires close interaction with domestic users. SW industry and Indian technical workforce are well-suited: –Low capital, infrastructure requirements. –High quality, low-wage, English-speaking engineering workforce. –Strong links with US high-tech firms.

2/20/0321 Red Hat case: Business models in open- source SW (OSS) What strategy has Red Hat been following (up to the time the case is written) to profit from OSS? What role does Red Hat’s own intellectual property play in the firm’s strategy? What are Red Hat’s future strategic alternatives in product or services development? What strategy do you recommend for Red Hat and why?