Making the Case for Networked Business Chapter 4 Making the Case for Networked Business MIS 524

AGENDA Comparing Industrial and Networked Economies Economies of Scale Economies of Scope Economies of Style Linking Strategy to Execution to Results Developing the Business Case for IT MIS 524

PreIndustrial Economies There are two versions of a pre-industrial economy: In the subsistence version, people produce what they need. Buyer=supplier and there are no intermediaries, supply chains, fulfillment, etc. In the craft version, people buy from skilled suppliers who fabricate unique items for each customer. There might be intermediaries in the value chain, but the product itself is unique in form, substance and performance. MIS 524

Pre-Industrial Economics Note lack of necessary intermediaries Buyer=Supplier= Distributor Unique Product Unique Supplies Subsistence Economy Craft Economy Focal Firm Unique Supplies Unique Product Note possibility of intermediation Note possibility of intermediation MIS 524

Economies of SCALE The industrial age brought about the ability to mass produce items. These items were no longer unique in form, substance and performance. To keep costs low, quality control and replicability were the major criteria. In addition, the large quantities required changes to the supply chain, including necessary intermediaries at both ends. MIS 524

Comparing Industrial and Pre-Industrial Economies Industry (mechanism) provided economies of SCALE The cost of the Nth item is effectively zero, for some N. This differs from a craft economy, where each item is built from scratch. Finding the right value for N may be difficult, but it is generally large Economies of scale require mass markets, however, since N may be quite large Products have “mass” and the major cost is no longer production but distribution (including marketing) MIS 524

Note focus on reliable and manageable supply chains Industrial Economics Focal Firm Replicable Product Replicable Supplies Note almost certain requirement of intermediaries for distribution and marketing Note focus on reliable and manageable supply chains Competitive advantage arises from nature of product but also from maintaining external supply chains and relationships with customers MIS 524

Economies of SCOPE As mass markets specialize and differentiate (or as individual customers become more savvy, literate, demanding), there grows a necessity to cater to individual tastes or niches. Meeting these needs requires controllable variation in the mass produced product, a change in the SCOPE or design of the product. MIS 524

Economies of SCOPE New products, though, require new plants, given the need for economies of scale. In order to have economy of scope, this “barrier to entry” has to be overcome In general, industrial economies cannot exhibit economies of scope and hence competition has moved to differentiation and market segmentation. However, entry costs for IT-enabled businesses are generally low, allowing new products and services to be launched almost at will. MIS 524

Post-Industrial Economics Customer 1 Focal Firm Replicable Supplies Tailorable Supplies Tailorable Product Customer 2 Customer 3 Customer 4 Keys to competitive advantage are customer feedback, agility, cost control, knowledge of supply chain. i.e., data, information and knowledge MIS 524

IT-Enhanced Economies IT can assist in moving from economies of scale to economies of scope Lots of information is required. However, communication might still be rather slow …and networks of information aren’t necessarily advantageous in and of themselves. MIS 524

Economies of STYLE The network economy has introduced a third kind of economy: style An economy of style occurs when the whole business proposition can be reengineered at will This allows the producer and customer (or producer and supplier) to have almost any relationship desired. MIS 524

Comparing Industrial and Networked Economies IT and the Internet can create “weightless” production in which N can be very small, thus obviating the need for a mass market. In addition, both transaction and coordination costs for sales and production can be dramatically decreased (sometimes close to zero). MIS 524

Comparing Industrial and Networked Economies The following can then be tailored: Delivery time, place, style Item instruction (how to use, etc.) Item integration with other items Item integration with (business) processes (End-to-end) consulting In effect, an economy of style allows the producer to reengineer customers. MIS 524

Networked Economies Replicable Supplies Intelligent Supplies Customer 1 Replicable Supplies Intelligent Supplies Focal Firm Intelligent Product Customer 2 Customer 3 Customer 4 Each of these implied relationships is now customizable rather than fixed. Now the focal firm has implicit control over all aspects of the model, including all aspects of the supply chain. In the extreme, the focal firm can “disappear” MIS 524

The Three Tenors Economy of scale: It’s inexpensive to make a large number of items Economy of scope: It’s inexpensive to make a large variety of items Economy of style: It’s inexpensive to have a large number of relationships with items (and suppliers and customers) MIS 524

Economies of X Required Implications Replicability of input factors Some output factors are relatively weightless Intelligence, knowledge Flexibility, agility Expenditure on process Lots of output variation Increased complexity Potential role conflict and vagueness Increased reliance on knowledge Blurring of organizational boundaries Ratcheting up of competition MIS 524

Economies of Scale Required Implications Replicability of supplies Development of mass markets for products Knowledge of marketplace and production process is more critical Ability to tune production Expenses on machinery and employee training Ability to produce multiple products Increased complexity Supply chain integration Increased reliance on knowledge Supplier, buyer relationships change Ratcheting up of competition MIS 524

IT and Economies of Scale IT has an ACCOUNTING function to keep track of materials IT has a REPORTING function to keep track of performance of production MIS 524

Economies of Scope Required Implications Replicability of manufacturing process Infinite variations of design Intelligence, knowledge of process design and design process Flexibility, agility in production Expenditure on design, training Odd dependence on suppliers Lots of unique products Increased complexity of product line and customers Potential role conflict and vagueness Increased reliance on knowledge of process and customers Supply chain vagueness Ratcheting up of competition MIS 524

IT and Economies of Scope IT has functions of industrial economy providing economy of scale PLUS Intelligence gathering and maintenance functions to keep track of customer requirements Monitoring and control functions to keep track of process variation Accounting functions to determine profitability MIS 524

Economies of Style Required Implications Replicability of input factors Business model is relatively weightless in terms of product, process Intense Intelligence, knowledge of suppliers, buyers, employees Flexibility, agility in design, relationships Expenditure on intelligence, marketing Lots of variation in relationships Increased complexity of supply chain Potential role conflict and vagueness Increased reliance on knowledge Blurring of organizational boundaries Ratcheting up of competition MIS 524

IT and Economies of Style All functions required for economy of scope PLUS Network required to integrate along supply chain Intelligence gathering critical to develop and monitor new relationships Accounting is much more complex as new businesses develop. MIS 524

Linking Strategy, Execution, Results Operating and Innovating, managing and learning, leading and engaging Capabilities (Re- Sources) Cost Concept Revenue Value Assets MIS 524

Analyzing Performance Drivers Benefits from Investment in Networked IT Infrastructure Benefits from Doing Business on a Networked IT Infrastructure Commerce Content/knowledge Community MIS 524

Making the Case for IT The Benefits Case The Cost Case The Cost-Benefit Case Additional Arguments MIS 524

The BENEFITS Case for IT Benefits from Investing in Networked IT Infrastructure: flexibility, functionality Benefits from Doing Business on a Networked IT Infrastructure Commerce (Process efficiency & quality) Content/Knowledge; learning Community (Relationships) MIS 524

Source of Benefits Market Raw Materials Factory Industrial Model Economies of Scale Industrial Model Focal Firm Suppliers Buyers Economies of Scope Economies of Style Networked Model MIS 524

Benefits from IT Investment Cumulative value over time 5 Net value per unit time Total Profit Breakeven Time 2 Benefit (Cost) Max outflow 1 Time 4 Max Exposure 3 MIS 524 Neg Cashflow

The COST Case for IT Tangible Costs Intangible Costs What happens to costs with IT? MIS 524

Indirect Costs Training Staff Burn-in Complaints Intrusion Retraining Wear-in, folklore Opportunity costs Transfer costs Tooling up MIS 524

The Cost-Benefit Case for IT Difficult to make; costs are hard to predict Benefits are often intangible and non persistent Technology costs change a lot Opportunity costs are high Cost control is rarely the object of the exercise, profit is. MIS 524

Typical Project Trajectories Benefit per unit time Cumulative benefit (cost) over time Net benefit per unit time Costs (-Revenues) per unit time MIS 524