Even if the company successfully negotiates its way downstream or upstream, it experiences yet another barrier that limits the continued use of new downstream moves to create advantage. As firms move into more and more downstream activities, the complexity of the organization grows. Management finds it more and more difficult to coordinate all the activities of the diverse but interconnected subsidiaries. So it creates a top- heavy bureaucracy. Without the bureaucracy the benefits of the vertical integration are lost. But with it the firms slow down. It becomes harder to innovate. Changes in one part of the company have ripple effects to all its upstream and downstream activities. So it becomes hard to adapt.
GM’s extensive vertical integration has slowed its efforts to achieve the quality improvements that Ford has achieved and the cost reductions that Chrysler has. GM’s less vertically integrated competitors have the advantage of being more nimble. They also have access to purchasing higher- quality and lower-cost components available in the marketplace.
Thus, as firms use vertical integration to escape commodity-like or perfectly competitive markets, they also create more complex, nonadaptable organizations that are easy to outmaneuver.
Thus, the dynamic strategic interactions built around creating timing and know-how advantages eventually lead the company to a price and resource competitive market. Either the follower replicates the new resource base of the first mover and becomes as good at this crucial4 technology as the first mover or the first mover replicates the resource base of the follower and becomes a low-cost producer.
Either way, the cycle of leapfrogging, following and moving downstream cannot continue forever. So, neither strategy is sustainable. The first mover cannot afford to keep innovating. As the followers follow more and more quickly, the first mover cannot recapture its R&D investment and it loses its incentive to innovate. If the first mover stops innovating, the followers have no one to imitate. The cycles of innovation and imitation are replaced by a deadly battle over price, and neither side can keep its resource-based advantage forever.
The Escalation Ladder within the Timing and Know-how Arena
As they do with cost and quality competition, companies escalate up this second ladder of moves and countermoves, seeking to gain a temporary advantage at each step in the process until they reach perfect competition. As illustrated in Figure 2-11, the first mover starts the cycle by building a technological resource base to create an advantage. The company uses this resource base to move into a new market. Followers escalate the conflict by imitating the new product. The first mover escalates further by throwing up impediments to keep followers from imitating subsequent products. Followers escalate once again by overcoming the impediments and replicating the resource base of the first mover.
FIGURE 2-11
THE CYCLE OF TIMING/KNOW-HOW COMPETITION
At this point some first movers use a leapfrogging strategy to create a new resource base. This begins the cycle again, but with higher risks and greater costs. If the first mover does not choose to leapfrog, it can use a transformation strategy to compete with later entrants by replicating their resource base of process know-how and low-cost manufacturing methods. The transformation strategy leads to a price war, and the leapfrogging strategy eventually leads to risks and costs that are greater than the re-
wards. Instead of transforming itself or leapfrogging to a new product, the first mover can also use vertical integration to gain temporary advantage over competitors. But this vertical integration can also be imitated by competitors, and it creates a complex, nonadaptable organization that makes the firm vulnerable to more flexible, less integrated competitors. Ultimately, advantages that originally accrued to firms from timing and know-how are not sustainable, and the conflict escalates closer to perfect competition at each step.
Although we portray this cycle (in Figure 2-11) as sequential, it may also be parallel. Two or three resource bases may be used at the same time. Also, some companies skip steps along this ladder or end up frozen at one rung temporarily. Industries proceed up the ladder at different speeds, depending upon the aggressiveness and quirks of competitors in the industry, the technology barriers confronted, the creativity of individuals who might influence the industry, how long patents remain effective, and market conditions. Nevertheless, this escalation ladder defines the rungs in a general process that shows how one dynamic strategic interaction leads to the next. But competitors will climb up this ladder in many different ways.
Source: D’aveni Richard A. (1994), Hypercompetition, Free Press.