The Digital Transformation of the Firm
by Rod Collins, Innovation Sherpa at Salt Flats
Today’s business leaders face an unprecedented challenge: The world is changing much faster than their organizations. Every business in every industry, with no exceptions, has been overwhelmed by a relentless accelerating pace of change. What makes this challenge so difficult is that there are no signs that things are going to slow down anytime soon. In fact, with recent budding developments in the Internet of Things, artificial intelligence, robotics, 3-D printing, and blockchain technology, all indications are that the pace of change is only going to get faster. Whether we like it or not, for the foreseeable future, we are living in a permanently fast-forward world.
Navigating businesses through the turbulent waters of what is arguably the greatest inflection point in the history of business means that business leaders need to adapt to the radical new realities of what has come to be known as digital transformation. That’s because digital transformation is not only the most significant technological revolution in history; it is more importantly, the most consequential socio-economic shift in human civilization.
Over the coming decades, every social institution will be radically transformed by the dynamics of digital transformation as the old ways for how things work are disrupted and displaced by a game-changing set of new rules. And it appears, at this point, that one of the first institutions to feel the effects of this shift is the commercial firm.
More Than a Technology Revolution
Businesses are used to dealing with new technologies. Since the dawn of the Industrial Revolution, commercial enterprises have often been at the forefront of technological innovation. Their leaders were captains of industry, inventing sophisticated production processes that made automobiles, air travel, household appliances, radio, television, and telephones available to the masses. Throughout the twentieth century technology was oftentimes the vehicle that enabled market leaders to sustain formidable competitive advantages for decades.
When the computer came along in the mid-twentieth century, business leaders saw this extraordinary business machine as a new and powerful tool for maximizing cost efficiencies in their efforts to preserve sustainable competitive advantage. They did not anticipate that a simple and seemingly benign configurative act would dramatically change their relationship with technology, and as a result, overthrow the industry lords and strip them of their dominant market power.
But that is exactly what happened when someone came up with the idea of connecting all the computers into a single network. It turns out that the simple act of connecting things radically changes the fundamental architecture for how things work and explains why digital transformation is both a technological and a socioeconomic revolution.
When things are connected, the organizational dynamics of networks are accelerated. That’s because in networks any connected person or thing can directly communicate with any other participant. There’s no longer a need for a chain of command to get things done because connected people coming together in sophisticated networks can self-organize far more efficiently.
This is what makes platforms like Über and Airbnb possible and practical. It also means that traditional business leaders need to revisit their relationship with technology because they are no longer society’s technological brokers. It’s a new world with new rules and if business leaders want to succeed in this new world, a good place to start is to fully understand the dynamics of digital transformation and how it is likely to change the fundamental nature of the firm.
At its essence, digital transformation is the fundamental architectural shift in the way the world works from top-down hierarchies to peer-to-peer networks. For commercial enterprises, this means accepting the reality that the most successful business, product, operating, and organizational models in a post-digital world are more likely to be networked than hierarchical.
In the linear hierarchical ways of thinking and acting of twentieth-century business, the prime attribute for business success was control. If you were able to control your transactional supply chain, you could maintain market dominance. Those were the old rules.
Networks, however, operate very differently. In networks the prime attribute is connectivity — power is about being connected, not being in control. Because, in a network, everyone is connected to everyone else, using control as the primary lever for dominance becomes highly difficult, if not impossible. Consequently, the working relationships in networks happen in the context of ecosystems rather than supply chains, and the prime influencers are those who build the platforms where the major players of an ecosystem — businesses, suppliers, and customers — come together to create compelling customer experiences.
A Radical Shift in the Nature of the Firm
Understanding how to build and lead networks is essential for future business success because every company is likely to be transformed as the digital revolution continues its progressive cadence of new technologies. In their book Platform Revolution, Geoffrey Parker, Marshall Van Alstyne, and Sangeet Choudary identify four basic types of firms: asset builders, service providers, technology creators, and network orchestrators.
Asset builders, such as hotels or airlines, require significant capital to build a base of assets that serve as the foundation for their business models. Service providers, such as insurance or financial services, construct intermediary business models where they typically serve as brokers of trust among buyers and sellers in the marketplace. Technology creators, such as Apple and Google, invent new ways to solve what were previously unsolvable value propositions. And network orchestraters, such as Amazon and Über, use the leverage of digital technology to construct virtual business models to facilitate the exchange of goods and services among buyers and sellers.
What is most interesting about this particular segmentation of firms is that it captures a key dynamic that is dramatically shifting the fundamental nature of corporate businesses. For the most part, the vast majority of firms in the twentieth century were either asset builders or service providers. In the last century, the typical business, such as Sears or Prudential, produced goods that were sold in retail stores or provided some kind of intermediary service. On the other hand, firms founded in the twenty-first century, such as Tesla or Facebook, tend to be technology creators or network orchestrators.
With the coming convergence of the Internet of Things, blockchain technology, artificial intelligence, and virtual reality, more and more of the world will become digitized. This digitization will accelerate the shift from asset builders and service providers to technology creators and network orchestrators. For example, it is highly likely that most of today’s service providers will become fully displaced by artificial intelligence platforms. And today’s asset builders are likely to evolve into network orchestrators when the majority of their revenues are derived from business models that monetize the continuous data gathered from sensors in their assets.
From Vertical to Horizontal
Another key dynamic driving the transformation of the firm is the fundamental shift in the business marketplace from verticals to horizontals. Vertically integrated firms, as most of asset builders and service providers have been throughout the twentieth century, are focused on amassing concentrated proprietary control within their industries. They believe the more they can contain within their four walls, the better will be their results. On the other hand, horizontally connected companies, which is the preference of technology creators and network orchestrators, are more interested in influence than control. They see the marketplace as an expansive ecosystem that is larger than any one firm could ever control. They believe the more they are connected within the ecosystem, the better will be their results.
In the horizontal networks of digitally transformed markets, where power comes from being connected rather than being in control, the effective leaders will be those who fully understand the dynamics of networked platforms. Whether or not established firms that trace their roots to the twentieth century will remain sustainable in the digitized world of twenty-first century business may very well be determined by how able and how fast their leaders can make the transition to leading horizontal networks. Those that do will join the ranks of the technological upstarts who are redefining the nature of the firm and, together with them, will become the prime influencers who will create the business platforms that will disrupt and define markets for decades to come.
This article and image was originally published in management-issues.com.
For more from Innovation Sherpa Rod Collins, see his white paper on The Great Promise of Digital Transformation here.