Innovate Through Vertical Integration

INNOVATE THROUGH VERTICAL INTEGRATION

ARTICLE

How vertical integration opens up new innovation opportunities reducing customer complexity – by Erik Kayser at Implement Consulting Group and Ola Blomgren at Sony Ericsson

to be confused with traditional innova- THE IDEA IN BRIEF Identifying Innovation tion within the organisation, which is Opportunities in the Value Vertical integration has important in itself. In this article we been at the forefront of Chain Driven by Vertical will be addressing the capability to management thinking since Integration identify the new combined innovation Henry Ford’s fully integrat- opportunities that cannot be achieved ed manufacturing plant in by each entity alone. We call this When Oracle bought Sun Microsystems Dearborn. Since the birth of Innovate Through Vertical Integration. in 2010 it was a bold and brand new Core Business thinking the move in the industry. No one had discussion has focused on Designing strategy and business models expected a software company to move what should be done inside was pioneered by Roger Martin in his back into hardware. In the past verti- the company and outside book The Design of Business. We have cal integration moved in the opposite by partners and suppliers. In in our work identified four design areas direction with hardware manufactur- recent years many organisa- as enablers in uncovering opportuni- ers acquiring software companies. tions have found that while ties for innovation in the value chain. focusing on core business Carefully designing the implementa- The reason for this bold move can significantly improved align- tion phase ties the four design areas be summarised in four key points: ment, focus and operational together and lets the effect be realised. efficiency, it limited innova- • Efficiency. Internal, and most impor- Innovation through vertical integration tion. Because a leaner tantly the simplification by which is guided through the 4+1 design areas: organisation has less customers can buy and use the 1. Design for Efficiency “things” in its portfolio, it combined products more easily. is much harder to innovate 2. Design for Novelty • Novelty. Creating brand new features outside the box and create 3. Design for Lock-in that were previously not possible with new customer value prop- two separate companies. 4. Design for Complementarities and ositions. In our experience 5. Design for Implementation there are 4+1 key areas that • Lock-in. Customers will have a harder must be designed and craft- time switching from Oracle and ed in order to capture the support fees revenue will be higher. “It’s back to the future – from most value and innovation • Complementarities. More products and disintegration to integration” power from vertically inte- services that create opportunities for Larry Ellison, CEO and President of Oracle, grating with another organi- more add-ons. said after they acquired Sun Microsystems sation. These are:

• Design for Efficiency Let’s go back to where it all started. However, identifying and implement- Organisations have traditionally pursued • Design for Novelty ing vertical integration translated acquisitions driven by market share, into innovation is not easy. • Design for Lock-in efficiencies in the value chain or obtain- • Design for ing control of IP rights. Next in line as There are a number of challenges Complementarities a driver for acquisitions is innovation. when embarking on such an exercise. Seeking out the best acquisition targets • Design for Here is an overview on where to start based on the innovation opportunities Implementation depending on your area of interest: can be an enabler of growth. This is not

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• Further operational efficiencies within a maker of computer servers, stor- current organisational boundaries are age and networking equipment. limited. Vertical integration enables new levels Sun would not have been a traditional of innovative efficiencies through acquisition target for Oracle. There are improved control of the value chain. no synergies in terms of products, sup- Start with Design for Efficiency. port or logistics. However, Oracle saw • Current transactional structure and other synergies. A combination of the go-to-market channels are cemented two companies would enable innovation by value-chain composition. in both hardware and the database and Combining existing parts of a value business software, all critical compo- chain through vertical integration nents in the customer’s IT environment. spurs innovation in the structure of These innovations led to improving transactions and the way channels performance and most importantly, are constructed. Start with Design for simplified their customers’ everyday Novelty. lives by offering complete solutions. Before the acquisition, Oracle and Sun • Loyalty and trust are cornerstones in customers had to create most of the today’s competitive markets. value themselves by combining products Enabling increased switching costs and services from the two companies. and lock-in through flexible value chain design are realised with vertical inte- The trend in the industry is to create gration. Start with Design for Lock-in. large, one-stop shops for software, • Leveraging product offerings with addi- hardware and services. IBM, HP, Fujitsu tional value-added products increases and others tried to do so with vary- overall value and bottom line. ing degrees of success. None of them Vertical integration drives development used their integrated organisations towards more complementarities in to spur innovation in wider areas actual offerings as well as in channels. spanning multiple domains. Oracle’s Start with Design for Complementari- strategy reflects a significant shift ties. away from niche, ‘best-of-breed’ players toward integrated giants.

Innovation Through Vertical “Oracle is no longer a software company. It’s an integrated IT company. IT is Integration – a Case maturing. It’s no longer about ‘best- of-breed’ point-products, or owning Many organisations have approached just one ‘category’. Oracle now has a vertical integration from the stand- full-spectrum offer: servers, storage, point of internal efficiencies. That was networking, software, and services.” the underlying driver behind Ford’s fully integrated manufacturing process But the Sun buyout does more than at the start of the 20th century. give Oracle a stock boost. It brings Oracle’s integration strategy to a bold, Today most organisations pursue new level. How so? It gives customers vertical integration from control, risk access to more powerful integrated and flexibility standpoints. Control of hardware and software stacks removing resources, limiting or taking risks and most of the obstacles when putting the flexibly changing direction quickly solutions together. Removing cumber- without the burden of commitments. some activities increases value for the customer and gives Oracle control of Let’s look at how Oracle, the number the value gained. Oracle will also be one business, middleware and data- able to further enhance performance base software vendor, acquired Sun,

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and quality by controlling the stack and them, removing complexities in dealing improving total-cost-of-ownership. with two very important partners. From a customer and partner perspective the The move by Oracle towards deeper introduction of appliances changed the vertical integration has enabled them to way they purchased and used Oracle reap benefits in the four design areas: products. From per CPU to actual usage.

Design for Efficiency: Design for Lock-in: Oracle’s customers have three main chal- Integrating Sun’s hardware with Oracle’s lenges when it comes to operating their software, optimising all the components servers and database software. These of the technology stack to work per- are: putting it all together; fast execution; fectly together, will also give companies resolve times in connection with issues. advantages in performance and reli- By integrating vertically Oracle is able ability. Oracle gives them the simplicity to speed up innovation in all of these and reliability of an integrated system. areas. Complete end-to-end solutions Oracle’s strategy reflects a significant or appliances give customers a one- shift away from niche, ‘best-of-breed’ stop-shop. Improvements in chip design players toward integrated giants. That and software utilising servers create means ‘best-of-breed’ server, storage and better execution. End-to-end manage- networking vendors are going to have ment tools shorten time-to-repair. to fight for the leftover non-integrated sales. With Oracle’s purchase of Sun, customers feel more secure about the long- Design for Novelty: term viability of the systems and see how Understanding what drives novelty for Oracle integrates both hardware and Oracle’s customers and business partners operating system to ensure greater end- enables the desired innovation. This user reliability and back-end scalability. applies not just to products but also to channels and business models. As we Design for Complementarities: have discussed previously, innovating new levels of performance and simplifica- When Oracle set out to acquire Sun it tion for their customers was one aspect. had its partners and service and support Another aspect was enabling partners business in mind. Through the combina- to offer new channels to access an entire tion of the two organisations they could product stack and support to simplify address existing partners and recruit

DEFINITION OF VERTICAL INTEGRATION

Vertical integration is the degree to which a company owns its Car buyers upstream suppliers and its downstream buyers. Vertical integration is typified by one company engaged in different parts of Garage owners production (e.g. growing raw materials, manufacturing, trans- port, marketing, and/or retailing). Car importers FORWARD A company exhibits backward vertical integration when it controls subsidiaries that produce some of the inputs used in the Vertical Car manufacturers production of its products. For example, an automobile com- BACKWARD pany may own a tyre company, a glass company, and a metal Suppliers company. Control of these three subsidiaries is intended to create a stable supply of inputs and ensure consistent quality in Commodity producers their final product. It was the main business approach of Ford and other car manufacturers in the 1920s, who sought to mini- Horizontal mise costs by centralising the production of cars and car parts.

A company tends toward forward vertical integration when it controls distribution centres and retailers where its products are sold.

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new ones. It was not so much about new Oracle created Importance among products as it was about increased value its employees by highlighting the for the partners, being able to sell and opportunities for performance improve- work with a complete stack of hardware ments and simplifications for the end and software. New business models were customer. With Sun it showed how the enabled where partners sold pre-inte- two companies had worked together for grated appliances and higher value ser- many years creating excellent results. vices instead of pure integration as previ- That will now continue in the merged ously. Utility computing was made avail- company but with more opportuni- able to partners where they paid only ties for innovation and excellence. for the actual usage, not the physical. Being authentic and true towards Design for Implementation: established values and culture creates Acquiring a large organisation such as trust and Authenticity. Oracle’s values Sun and integrating it requires cour- are a combination of sales and innova- age, determination and timing. We tion. The acquisition of Sun was based have seen that it is necessary to man- on a drive to create new innovation age and balance five areas in order opportunities. It was equally fuelled by to succeed with a transformation the possibility to grow sales and improve project. We will now look at how Oracle both Oracle as well as the former Sun. addressed the five areas: Importance, Authenticity, People, Effect and Energy. Getting the right People in place and the wrong people removed is important to achieve early success. It is equally

Design for What are the right EFFICIENCY What are the economies of scale key value drivers and innovation that will retain power? customers?

Design for Design for Based on Based on NOVELTY Experimentation analytics LOCK-IN

Design for IMPLEMENTATION

Based on Based on innovation visualisation drivers

Design for COMPLEMENTARITIES

What really What small drives innovation additional products in products, open up new users channels and or channels? business models?

Figure 1. Implement Consulting Group’s 4+1 Design Principles for Vertical Integration

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important to create a mix of different What is backward integration? WHERE TO GET MORE people to solve the challenges ahead. INFORMATION The value chain can produce value before you get involved which you can directly “Companies more prone When Oracle designed the acquisition integrate into your own products. Or the to go vertical”, Wall Street it set a goal to achieve USD 1.5 billion chain of customers after you needs a Journal, 30 November 2009 in increased operating returns. This product or service in order to extract full Effect is achieved through a combina- value from your offering. That product “The Network Challenge”, tion of increased internal efficiencies, or service is a prerequisite for being able Paul R. Kleindorfer et back-office cost-cuts and a changed to use your product. Directly – when al., Wharton School business mix towards higher valued you put it together. Indirectly – when Publishing, 2009 products. Both Oracle and the investor a customer carries out the assembly. community closely follow the results. “Why Vertical Integration Integrating with such a product is called is Making a Comeback”, The most difficult issue in such a com- backward integration since it is a prereq- Rita McGrath, Blog at HBR, plex merger is to keep Energy high uisite for your offering to be of value. http://blogs.hbr.org/hbr/ throughout the entire process. The mcgrath/2009/12/vertical- motivation for engineering and product When Oracle acquired Sun it was integration-can-work.html management to achieve new innova- backward vertical integration because tions served as a positive momentum Sun’s products were a prerequisite for “Moving on up”, The internally. When integrating the rest of extracting value from Oracle’s soft- Economist, 27 March 2009, the organisation, it was important to find ware. Backward integration enables http://www.economist. successful organisations to connect to. better control of how products are com/node/13173671 Being part of the successful Oracle sales manufactured, customer value crea- organisation opened up new possibilities tion and product lifecycle TCO. to succeed. Two wrongs do not make “The Design of Business”, one right so finding successful entities to Roger Martin, Harvard When to choose backward vertical foster success within the acquired parts Business School Press, 2009 integration? – when the manufacturer’s is key to creating and maintaining energy. value-added is not reflected in market power and there is significant opportunity for innovation that drives efficiency and/ When to Innovate Through or customer value. See Figure 3. Vertical Integration What is forward integration? Understanding the changed industry The value chain uses your product to dynamics is crucial to identifying oppor- be integrated into additional value crea- tunities for designing innovation through tion. You are a prerequisite for another vertical integration. The move is from product providing value. Forward measuring pure economies of scale and integration is when you integrate with efficiencies to a world where innovation your direct customer or another entity and time-to-market are the only major who makes use of your product. You competitive advantages left. In such a will get closer to the customer and world one must see when and why to influence the market use of your prod- expand beyond the current core busi- uct. LiveNation executed a forward ness. The vertical integration of new busi- vertical integration when they acquired nesses, which has taken place for years, Ticketmaster because Ticketmaster has a new driving force – innovation. offered LiveNation’s concerts bundled them with other content. LiveNation got closer to the customer and increased its Below you will find the key pitfalls influence on promotion and positioning. when choosing the integration targets that drive your innovation capabilities. These apply to both When to choose forward vertical backward or forward integration. integration? – when the channel’s market power is not reflected in its value-added and there is a significant opportunity for designing innovation.

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THERE IS AN OPPORTUNITY TO CREATE MORE VALUE FROM THE VALUE CHAIN

Which other combinations of par- What value is created in the hands Which other products or services are ticipants in the value chain would of the customers themselves? needed throughout the life-cycle to increase your value creation? • There is an opportunity to fully realise the value potential? • There is opportunity to create simplify the customer’s life • There is an opportunity to push more value from the value chain value creation earlier in the lifecycle

You can innovate through vertical integration!

WHAT DESIGN AREA HOLDS THE BEST OPPORTUNITIES?

Which important attrib- Which combinations of Which new features or Which additional products utes would be improved by products and services are channels would provide ad- or services would increase tighter integration? needed to fully realise value? ditional value? total value? • Would it tie the customer • Would it lower TCO for • Would it create new usag- • Would you be the natural closer to you? the customer? es or simplify buying? partner for the customer?

Design for Design for Design for Design for Lock-in Efficiency Novelty Complementarities

Design for Implementation

Figure 2. Can you Innovate through Vertical Integration and where should you start?

When and where to innovate through When to choose forward vertical vertical integration integration? – when the channel’s market Designing a vertical integration effort power is not reflected in its value-added to open up innovation opportuni- and there is a significant opportunity for ties is a two-step process. First you designing innovation. determine whether there are innovation opportunities to be gained from When and where to innovate through vertical integration. Answering the top vertical integration three questions in Figure 2 will help Designing a vertical integration determine the potential. The answer to effort to open up innovation oppor- these questions indicates where to find tunities is a two-step process. design opportunities. Identifying which of the 4+1 design criteria to use is crucial for maximising the potential. Use the First you determine whether there are second level of questions to identify innovation opportunities to be gained which design criteria to start with. from vertical integration. Answering the top three questions in Figure 2 will help determine the potential. The In Figure 2 you can see further answer to these questions indicates details on questions to ask and where to find design opportunities. where to start designing.

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Identifying which of the 4+1 design Where you start is governed by the criteria to use is crucial for maximis- situation you are in and the value that ing the potential. Use the second can be created for your customers. level of questions to identify which design criteria to start with. We will now discuss each of these design criteria to help you identify where to In Figure 2 you can see further start your vertical integration journey. details on questions to ask and where to start designing. Design for Efficiency

The 4+1 Design Criteria Further operational efficiencies within current organisational boundaries are As we have seen there are certain limited. Vertical integration enables prerequisites that are required in order new levels of innovative efficiencies to build a case for going vertical. Once through improved control of the value these are satisfied you have to design chain. Inefficiencies can occur across which elements you want to focus on the entire value chain, all the way to to benefit most from the integration. the customer. When each step in the value chain is optimised for efficiency, These 4+1 design elements are: the remaining opportunities for increasing customer value lie in the hand-over between participants in the value chain • Design for Efficiency and in the hands of the customer. • Design for Novelty

• Design for Lock-in Therefore, further levels of efficiency lie in • Design for Complementarities finding the unseen combinations of prod- • Design for Implementation ucts and knowledge that allow customers to utilise a complete set of new values.

Level of Backward Integration Level of Forward Integration

High High Control Cooperate Forward Cooperate integrate They have You can only Profitable but You can only Market Power bargaining hope to play Market Power customers hope to play power likely to swich “Extracting “Extracting channel profit from profit from the value Pressure Backward the value Compete Lead chain” integrate chain” Channel value Drive and You have Value add is prop low and support bargaining not reflected in customers channel power market power will switch Low Low Low High Low High

Supplier Value Add Channel Value Add “Will the customer leave the store? “Will the customer leave the store?

Figure 3. Level of Backward integration? Figure 4. Level of Forward integration?

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The Oracle case shows how current speed will be improved? Oracle and Sun customers could not • Which transactions will be simplified extract more value from purchasing and gain improved scale? their products separately. By vertically • Which values are currently created in integrating their products from silicon to the hands of the customer that could database monitoring, Oracle’s custom- be more efficiently created by us? ers could achieve much higher levels of efficiency that would not otherwise • Which direct innovation costs are have been possible. From a customer’s lowered as a result of integrating verti- point-of-view, vertical integration cally? of the two companies has allowed Oracle to leverage the innovation Answering these four questions gives a possibilities that the two companies good indication of the potential for effi- could not create on their own. ciency gains in pursuing the undertaking.

Aspects to consider when evaluat- The possible efficiency gains are at ing potential targets to secure the customer end. Most value from a increased levels of efficiency are: set of products is created when they are combined. When a database cus- • Which information search, quality and tomer combines the database with

OTHER EXAMPLES OF COMPANIES GOING VERTICAL:

COMPANY TARGET YEAR MOTIVE INNOVATION

TATA TCS, Tata 2011 Combine Swach, Chemicals, different cheapest Titan Industries parts of Tata water purifier

Ericsson Kathrein 2011 Access to New combination antenna of antenna and knowledge base station

LiveNation Ticketmaster 2010 Control event Business model Entertainment promotion innovation and ticketing

PepsiCo Pepsi Bottling 2010 Control of Group & beverage PepsiAmericas distribution

Oracle Sun 2010 Control of the Performance & Microsystems HW & SW stack ease of use

General Stake in Delphi 2009 Control over Motors Automotive parts supply

Boeing Vought Aircraft 2009 Control over Industries manufacturing

Apple P.A. Semi 2008 Customise their Improved chips for devices chip design

Nucor SHV North 2008 Access to raw America materials

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given hardware and software configura- Designing for novelty means more tions the real value is created. If that than just new flashy products; it means combination is not optimal, then the designing the entire business in a new potential value cannot be extracted. way. A new business model is the most straightforward interpretation. New Identifying your value drivers at the products and services or combinations, customer end will help you identify enabling the customer to do things in the potential for vertical integration. a new way is also within the scope. However, customers do not just lose efficiency when they put together the Let’s go back to Oracle again. Their solution themselves. Researching and customers where buying fast access to crafting the solution introduces a great the right data. Did they get it? No, they deal of risk and costs. Analysing the had to buy stacks of computers, disks amount of time it takes a customer to and related software in addition to their develop the solution creates opportuni- Oracle database. On top of that, the ties for further efficiencies. The business performance of Oracle’s database is models used by each organisation dependent on the total configuration of involved in producing the end product all hardware and software combined. By create complexity. Aligning these busi- combining Oracle’s database software ness models simplifies transactions and and Sun’s hardware, down to the single improves the scalability of the entire CPU silicon chip, and operating systems, value chain. Looking at Oracle and data storage, backup, etc Oracle’s cus- Sun, they each had different business tomers could suddenly get what they models. Oracle charges per CPU in the were actually paying for – fast access box, not for actual usage. Sun charges to the right data. In addition, it enabled per hardware which is able to run more Oracle to charge for other things in addi- than a database. By combining the two tion to their traditional per CPU database it is possible to achieve more aligned license fee business model. Changing the business models leading to improved business model from a per CPU model scalability and simpler transactions. to actual usage, per query or whatever suits the needs of the customer. Research, marketing and channel costs are significant for any innova- In the Oracle-Sun case we can see at tion. Analysing which innovation least three different ways Design for related costs can be reduced. Novelty affects the decision to integrate:

• New customer value. The integration IDEAS ON HOW TO between the two creates an opportu- DESIGN FOR NOVELTY Design for Novelty nity for entirely new solutions. Study customers to identify • New supply chain flows. Value is creat- a job not done or not done ed and aggregated earlier, at Oracle Current transactional structure and go-to- well. Understanding cus- instead of at the customer, through market channels are cemented by value- tomers’ reality enables you novel combinations of hardware and chain composition. to design novel solutions. software. • New business models. Through the Combining existing parts of a value chain Include all customers shift in value creation from customer to through vertical integration spurs inno- throughout the value chain. supplier, it becomes possible to charge vation in the structure of transactions based on attributes other than per and the way channels are constructed. Describe the job not done CPU. as a situation and complica- What really drives innovation in tion that they recognise. Building key hypothesis on Design for products, services and business The resulting question from Novelty models within your industry? When the complication is the customers buy your products, what Design for vertical integration at the starting point in design- is it that they are really buying? highest level addresses Customer ing a novel solution. Value, Business Model and Participants.

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We usually ask these questions for switching to another product or IDEAS ON HOW TO when considering vertical integra- service are a sign of both value crea- DESIGN FOR EFFICIENCY tion from a Novelty perspective: tion and profitability. Switching costs The starting point for as sign of value creation means that any efficiency design is Customer Value the customer has at one point in time the customer journey • Where is value created in the new value made a rational choice based on value necessary to realise the chain? and now there is a cost associated with value. Include all products • Which opportunities for innovation and switching. During design make sure and services necessary new combinations will it enable? that the switching costs are based on throughout the lifecycle. value and not a hidden poison pill. Business Model

Gather people who are • Which novel transactions are made Switching costs as a sign of profitability actively involved in the cus- possible? means that a healthy lock-in based on tomer journey. Include inter- customer value enables higher margins • What new incentives to participants in nal people, partners, chan- and increased recurring customer levels. transactions are novel? nels and even competitors. Make sure all customer-fac- Participants Returning to our Oracle case we can ing interactions participate. see that before Oracle acquired Sun • Which new participants are brought they had already created high switching together in a novel way? Use scenario planning and costs in terms of technical performance “What if …” questions to fur- • Which new interactions and value crea- and superior operational efficiency. ther understand the poten- tion among participants are opened Switching to another database meant tial. Set decision points for up? re-doing a lot of daily routines that were a sub-set of the most prom- already working without any value for ising scenarios through Based on these areas and questions, the customer. The additional value and knowledge gathering meth- choose a main rationale for which high switching costs allowed Oracle ods like 200 Questions. novel design criteria to select. to charge high yearly support fees. With Sun those switching costs are For each of the novel design criteria even higher because now you have to define metrics based on the key value replace more efficient hardware with driver in each criterion. For a Customer more hardware at much higher costs. Value perspective, look for premium charged compared to competitors. A Designing for lock-in should enable: higher premium indicates that com- • Loyalty programmes petitiveness has increased. In a Business Model perspective there may be new • Dominant design compensation models for participants • Intellectual Property that drive growth. Measure levels of • Trust new transactions, their contribution to • Customisation growth and profit margins. These should all be higher than they are in current • Network effects – direct and indirect transactions in order to be valuable. These areas are covered in detail below.

The key to Designing for Lock-in is to Design for Lock-in focus on those areas that create value for your customers and provide oppor- Loyalty and trust are the cornerstones tunities for increased profitability. Let’s in today’s competitive markets. examine each of the areas listed above. You should choose one or two of these Enabling increased switching costs as your lock-in strategy-driving factor. and lock-in through flexible value chain design is realised with vertical integration. Loyalty programmes Recurring customers are the founda- Switching costs whereby the customer tion upon which high profitability is has to pay a direct or indirect price built. The basis for this statement is

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IDEAS ON HOW TO DESIGN FOR LOCK-IN Words Actions Agenda Define the product or CREDIBILITY RELIABILITY INTIMACY service lifecycle from the + + customer point-of-view. TRUST =

Why do customers Self-interest stick with you? Why MOTIVATION do they leave?

Figure 5. The Trust Equation Use this understanding to design solutions that increase the stickiness. Test proposed solutions that the acquisition costs for a new Building a relationship-based busi- on selected customers to customer are much higher than retain- ness upon trust is the most success- validate your assumptions. ing an existing customer. How will you ful path to recurring customers. It is create improved loyalty? How will it lead also the most difficult, requiring you Make it incremental since to more recurring business? What will to focus all your energy and time on your learning; competi- lead your customers to extract more a very limited set of customers. tors change and customer value while increasing switching costs? expectations increase. Questions to ask yourself when Dominant Design considering an integration play are: Physical design of a product, technical To what degree can we build our solution design and design fit into overall business on trust through the integra- business levels where dominant design tion? In which way can we innovate creates a lock-in, limiting the customer’s new business models that build upon ability and willingness to switch vendor. trust as the underpinning motiva- tor for doing business with us?

The way a product or service fits into the customer’s needs will limit their Customisation willingness and potential to switch. The easiest and classic way of build- The closer the fit is to the core value ing lock-in is to deliver customised driver of the customer the harder the solutions. Building to the exact and switch becomes. For a coffee shop the unique needs of a customer means physical design of the coffee machine is you can hardly be replaced. As many very important; similarly the total-cost- examples show, it is very easy to disrupt of-ownership for an Oracle customer this with standardisation. As others drives their likelihood of switching to a show, you can succeed through care- solution that is designed to work 24/7. fully selecting small niche solutions that are unlikely to be disrupted. Which are the value drivers for your customers and how can you design your What customer needs can you serve solution to fit these? When finding inte- better through customisation which gration opportunities, which improved will better enable integration? Which designs can you innovate as a result? In new innovative solutions and capabili- which direction should you innovate? ties do you need to create in order to better customise your solutions? Trust A relationship based on trust has Network effect many more advantages than any A direct network effect is when the other approach to building lock-in. value of a product or service increases Trust is personal, it is long term, it is as more users are added. An indi- mutual, it bridges failure and more. rect network effect is when usage increases, you get more of something

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else. Oracle gets more developers Where can you find complementarities? IDEAS ON HOW TO as the number of database users DESIGN FOR Among products and ser- increases – an indirect network effect. COMPLEMENTARITIES vices for customers • Complementarities through the lifecy- What are the extras that Network effects create lock-ins through cle of the product. Examples include your customer orders, the social and technical pressure they an optimisation service for an Oracle from you or from others? put on users to continue to use the database. service. Which new network effects Which complement- can you create through integration? Among online and offline channels ing channels would What innovation should be carried out increase value and access together to produce network effects? • Examples include complementing the to your solutions? online experience with offline support. Bokus.com, a Swedish equivalent to Amazon.com, has an offline chain How would those com- called Akademibokhandeln, where you plementarities be better Design for Complementarities can enter the store to pick-up books or served by you or increase find advice. Similarly, the offline store the value of your solution? Leveraging product offerings with more experience is complemented by online value-added products increases overall access in the store through terminals. Where can you source value and bottom line. these complementarities? Among technologies Vertical integration drives development • Adjacent technology that complement towards more complementarities in both your current technology stack. Exam- actual offerings as well as in channels. ples include BYD, a Chinese engine manufacturer, which complemented When the value of your offering its electrical engine with a combustion increases if the customer has the other engine. player’s product or service there is a complementary relationship between Among activities the two offerings. Which product or • The activities you perform as part of service is being bought first or is the your value chain that can be comple- driver for the customer? Is it yours or mented. Examples include Ericsson, the other player’s? Which scenarios a mobile kit vendor, which acquired drive the customer to make a decision? its manufacturer in Estonia to enable increased product flexibility. Part of Going back to our Oracle-Sun case, the core business, but not directly the Oracle database is the clear value visible to the customer other than as driver for customers to make a purchase. increased product variations. You do not buy a computer and then wonder what to fill it with, do you? How can complementarities spur Rather, you need to sort and find data further innovation? When is designing and thus purchase a database. Then an integration endeavour from a com- you find out which server to run it on, or plementarities perspective feasible? maybe it is an iterative process where you start with a data need and then look for which combination of database and server is the best choice for you. Design for Implementation

Acquiring Sun enabled Oracle to add a When designing the implementation of a clear complementary product and ser- vertical integration effort driving innova- vices to their existing database business. tion, one of the most crucial elements It allows them to sell additional hardware is the ability to select the right areas. to a customer that bought a database Changing the way we innovate, manu- in combination with the other design facture and go-to-market has drastic criteria we have looked at previously. consequences for the organisation. Such changes place significant demands on

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the radical change of culture and how In other words, on days when workers collaboration between units functions. feel that they are making headway in their jobs, or when they receive support At Implement Consulting Group we that helps them overcome obstacles, see four factors as critical to successful their emotions are most positive and implementation. The will each be covered their drive to succeed is at its peak. On in more detail in the following pages. days when they feel they are spinning their wheels or encountering roadblocks to meaningful accomplishment, their Based on Experimentation moods and motivation are lowest. There are two ways to determine which products and services are appropriate for vertical integration, which innovations will be enabled and what customers will actually want. You can either use your gut feeling or you can experiment. Experimentation is the only way to find out what real customers are ready to pay for.

Experimentation investigates and quan- tifies the customer segments, products and services, value propositions, business models, partners, channels, etc Figure 6. Visual Management needed in order to decide where to start and which goals to strive for. This is the reason why we at Implement Experiments can be as simple as testing Consulting Group believe in visual a bundle of your products and the prod- management. Daily visualisation of uct you are considering integrating. Sell key performance including corrective the bundle in a limited number of stores actions is essential to create ownership IDEAS ON HOW TO or to specific customers to test their for key operational metrics and thus ENSURE IMPLEMENTATION response. In more advanced experiments crucial for the successful implementa- Ensure clear goals and you could try to innovate on top of the tion of any changed behaviour. objectives within your companies’ current offerings, validating organisation and the both the feasibility and value proposition. Based on Innovation Drivers measurable effects When designing a vertical integration for the customers. Experiment on future organisa- project there must be clearly identi- tional structure including performance fied innovation drivers. Which are the Ensure visibility and trans- management, channels, mid and key areas where your customers are parency throughout the long-term goals. The aim is to come moving and where vertically integrated value chain. A clear picture up with proposals for a new organi- organisations will truly prosper? of progress enables steering sation and the internal drivers. and counter measures. It These drivers could be technology, cus- is all about conversation. The process during experimentation tomer segments, business models, chan- is to generate alternatives, thresholds nels, changed demographics, etc. The Ensure fast round-trips for decisions and information. important issue is not what they are but through experimenta- that you have a clear idea of where you tion – from idea to Based on Visualisation think the largest opportunity for innova- customer feedback. In a recent study by HBR asking tion will be in the planned integration. employees what makes them enthusi- Ensure sharing and astic about work, they answered, “the Based on innovation drivers you should access to data and ana- feeling that I am making progress”. decide how to visualise progress, lytical information for which experiments to run and which all parties involved. data to collect. That will enable you

Implement Consulting Group 13 Innovate Through Vertical Integration

to decide more quickly and more • Master data in terms of customers, accurately which potential targets to products, suppliers, materials, etc. This go after, which technology options to is the foundation and allows you to pursue and how to measure progress. organise analysed nano data. • Structured hierarchical data in terms Based on Analytics of sales statistics, customer segmenta- Institutionalise data generation tion, product categories and employee from the beginning. From nano results. This is hierarchical data above data to master data. the trillions of bits generated by nano events which is what you would traditionally call data. This data is used to Data collection and analysis is the correlate the nano data into hierarchies underpinning force in steering towards and structure it for analysis. the set goal. From the start, define which data to collect and what types of analysis to conduct. From the early Once data collections are up and run- experimentation stage to adjusting ongo- ning it is time to integrate it into daily ing business analytics, it is the main tool operations and decisions. Management that tells you where you are. View the decisions and meeting cycles need to process as iterative and incremental. base discussions and decisions on the Set some goals and collect data. Be analytics collected. Since you seldom active and experimental. Analyse results know everyone interested in and able and take corrective action. Redo the to make intelligent conclusions based process for further improvements. on the data, consider how to make the data accessible and visible.

Data types to collect and analyse: • Nano data includes click-stream data, trends, production details, supply-chain movements in real time and enterprise resource planning. This data is generated from all the events occurring during a normal day in any enterprise.

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