Mr. Om Malik’s New Yorker article, http://www.newyorker.com/tech/elements/in-silicon-valley-now-its-almost-always-winner-takes-all, makes some interesting conclusions that don’t fit commercial reality, unless it follows Silicon Valley logic. First, he states that the “winner takes all” digital environment assumes that market dominance is substantially different in the digital world versus the analog world. One has to look at the nature of how any industry operates to conclude how that dominance was reached. Second, that the dominance is permanent. In every competitive market, dominance changes or influenced by external factors. And I doubt that this digital dominance will be sustained when taking into account the latest European regulatory trends.
In all industries, whether analog, digital, or whatever, market dominance is distilled after many competitors into two dominant players which take over 60%-70% market share when that market sector matures and consolidates. Even one notable Harvard Business School, Michael Porter, undeniably stated that digital companies are subject to business strategies and methodologies as in any other industry. True, it pays to be first since the margins are best then and greater lateral investments can be made to create a brand, to build an infrastructure to control costs. As an example of the analog world, in the wireless (analog) telecom markets, we see two major players, AT&T (33%) and Verizon (34%), battling over small percentages share when their combined market share exceeds 67%. AT&T grew its market quickly through M&A, and Verizon grew both organically and through M&A as well. Speed to reach market dominance is key. They achieved their current sized quickly in contrast to the belated competitors. In contrast, Sprint and T-Mobile each have 16%. Being late to the party for dominance, the profitability for both Sprint and T-Mobile is less than the 2 major players which now have the advantage in economy of scale.
What I mean by economy of scale is that a larger company can buy hardware in bulk and reduce their costs – whether it means buying telecom equipment or capacity. One can see the same theme repeated in the analog world in the energy sectors (Exxon-Mobil), car manufacturing (Ford), or even restaurants (McDonalds). Larger companies have a distinct advantage in economy of scale. SO it is key to be in the top three quickly for any market. Equally true for digital companies.
Is this any different for a Google, AirBnB, Facebook, or Uber? When I drive by Facebook headquarters I notice the sizable campus for what seems a relatively mature, simple software website. I did ask a Facebook manager-employee why the large number of personnel, and he told me that he manages the hardware that handles the Facebook applications. Therefore, literally thousands of employees in the “digital” world are not much different from the telecom infrastructure teams. When Facebook had enough financial resources, the company focused on acquiring hardware, and, as part of the benefits beyond quality control, this hardware management and ownership reduced the costs to outsource the hardware to a third party. Then hardware ownership became a cornerstone of the Facebook (as well as Google’s, AriBnB’s) strategy. And the hardware ownership provided Facebook with a distinct advantage over other potential entrants in terms of their profit margins. Therefore, both Google and Facebook have invested hundreds of millions of dollars to build and manage hefty data centers.
During their early stages, these software companies had such huge profit margins that fueled the capital to invest in hardware with vertical integration controlling their costs. But is there a limit to this vertical integration. Google et alia still rely on the telecom infrastructure. But can they enter into the telecom services? In terms of employees, Google currently has about 40,000. Verizon employs about 140,000 just to maintain their huge wireless and fiber infrastructure. In other words, for Google to enter the telecom business, it has to ramp up exponentially its workforce and focus on telecom engineering, way beyond software and data centers. Yes, it has deployed fiber optics in a few towns, but can Google lay fiber for thousands of towns and cities with its current workforce? I doubt it.
Data centers had the distinct advantage of being to consolidate data traffic in the U.S. as the data from an international user could be transferred back to the U.S. This explains the huge dominance worldwide by Google and Facebook. Again, the economy of scale kicks in for building huge data centers and a U.S. digital company did not need a “physical presence” outside of the U.S. to retrieve data internationally. This picture has changed. Thanks to Snowden, the Facebooks and Googles will need to build foreign data centers in each country in which it operates, greatly augmenting its cost structure by operating and managing foreign data centers. The so-called “Safe Harbor” sanction for personal data being moved to the U.S. has been revoked by the EU. Personal data must stay within the country’s territorial borders. Now its competitive cost advantage deteriorates. For example, in the U.S., 2013, Google held about 67% market share, Microsoft, 18%, and others, including Yahoo. However, in many foreign markets, Google is considerably more dominant, with over 90% market share in many countries in Europe as an example. Why? No foreign search engine player could compete with a company whose U.S. infrastructure was gigantic, managing the speed and quality of the search engines from all data funneled worldwide into its U.S. data centers. But, if Google is forced to build a data center in France, as an example, it has lost that distinct advantage to local players and now is in equal footing as all other local search engines in local hardware.
So to a great degree Google’s dominance had been fostered by the nature of digital information not having international borders, not simply being the first technology mover. The telecom industry, which had been for many decades a national utility, was restricted to earning its revenues within its borders for voice traffic. Digital transmissions had no such limitations.
Now let me address the use of telecom infrastructure distinguished by Malik as being “fiber” for Google and “wireless” for Uber. All telecom, whether it be wireless, fiber, and satellite are integrated in any telecommunications. A wireless phone call between 2 cellphones from NYC to California goes from a wireless tower to fiber and then to another tower in California. A wireless call from NYC to South Africa might include a satellite transmission then to line in South Africa and finally a radio tower. The technical complexities of such a call cannot be integrated in the current Google or AirBnB infrastructure as such a call would require building satellite dishes, placing transponders on radio towers, laying submarine cables, etc. What the digital companies can only control is the hardware located in data centers attached to the telecom networks, whether domestically or internationally.
Both Google and Facebook would like to control the so-called telecom by setting up their own networks. In India, Facebook attempted to distribute “free” internet as long as it used its own platform to no avail. This infrastructure has been abandoned when Indian telecom carriers and services objected to this Facebook service. Google is now attempting to float Internet “balloons” for Singapore as a substitute for satellites. But I would not be surprised that the balloon satellite deployment, if it works, would not be embraced by the local telecom carriers and services. As I see it, Google and Facebook would like to control every last mile of the data transmissions by establishing telecom networks. Yet, that will not be as simple as building U.S. data centers. The rules for telecom services are different from data; there are too many political, economic and engineering hurdles to cross.
So why did Sidecar fail? Like the game of musical chairs, there were 3 taxi app sharing players (and there were many more taxi apps than those 3) and only 2 chairs left when the music stopped. The first 2 to the party, Uber and Lyft, increased its funding aggressively to focus on marketing and infrastructure. Google did the same to Bing, Yahoo, AOL, etc. Sidecar did not move fast enough. Yet, markets do change– whether from regulations, technology or economics. With the regulatory changes in Europe (also, similarly, in Brazil and Asia), this “winner takes all” dominance will surely fall apart in many foreign markets.