SOFTWARE VALUE NET GameTheory applieddownload.microsoft.com/download/c/4/e/c4e07eb5-8ba...Porter’s 5 forces model ... PORTER’S FIVE FORCES adjusted “Porter’s added value”,

SOFTWARE VALUE NET GameTheory applied

Seraphim Voliotis Ph.D. ; Barrister, Mediator

Adjunct Professor in Strategy, ALBA Graduate Business SchoolMicrosoft Innovation Day Presentation, Athens, GreeceTuesday, May 15, 2007

SOFTWARE VALUE NET - GameTheory applied

Copyright © 2007 by Seraphim Voliotis

INTRODUCTION: motivation

• Greek Software Industry: stagnated?○ Increase the Pie○ Share the Pie

• Lack of available Strategy Frameworks○ Business Gurus?

• Theory and Practice

• Brandenburger & Nalebuff: Co-opetition○ Bantam Doubleday Dell Publishing Group Inc., NY, 1996



• The Card Game: distributing value

• Game Theory and Business Strategy

• The Value Net: competitors and complementors

• The Software Value Net

• Creating Value

• Evolution and Elements of Cooperation

INTRODUCTION: outline



• The Rules:○ 26 Red Cards for Professor ○ 26 Black Cards, one for each Student○ free form negotiations between Prof and St ○ Unstructured: ‘real business life’○ Independent negotiations – students don’t interact

• The Pay-off:○ each pair (Prof, St X) which strikes deal gets $100○ total pay-off $2,600○ provided by Dean, Harvard Business School

THE CARD GAME: rules

from Co-opetition, (Brandenburger & Nalebuff, 1996 )



• Rationale (intuitive approach):○ Prof has Monopoly � power ○ should command most of the profits○ Prof: $90 St X: $10 for each deal?

• Rationale (analysis):○ each deal is independent○ Prof and St X are in symmetric position○ no alternatives for professor○ should split the proceeds fairly: $50 : $50

• Total Pie○ $2,600○ Professor = 26 * $50 = $1,300 ○ Student = $50 (each)

THE CARD GAME: result




• Professor feels has monopoly power unutilized

When you don’t like the outcome of the game Change the Rules

• Professor destroys 3 of his Cards:○ Prof and St X are not in symmetric position any more○ Prof has alternatives � other students○ Prof may command even $90 per deal - ultimatum (in theory)

• Counter-intuitive:○ pie decreases Total Pie = 23 x $100 = $2,300○ Prof = 23 x $90 = $2,070 St = 23 x $10 = $230

• Business Rationale○ in original game: despite monopoly no competition between Students○ in revised game: by destroying (three) cards competition was introduced

THE CARD GAME: change the rules




• Why ‘In Theory’ ?○ assumes rationality of players○ assumes common knowledge (rules and pay-offs)

• Ultimatum bargaining ○ experiments have shown that people don’t respond ‘rationally’

• Happened in practice: Nintendo in the ’80s○ had ‘monopoly’○ but very ‘powerful’ distributors: Toys “R” Us and Wal-Mart

• Change the Rules: 1988 - limited supply○ distributors requested 110 million cartridges○ estimated 45 million could have been sold○ only 33 million were made available – Christmas Season

THE CARD GAME: reality & assumptions




• total Added Value○ what the Consumers are Willing to pay○ less the (opportunity) cost of Raw Materials

• how to distribute within Value Chain?○ between all members – not necessarily equally○ how much value do you bring to the table?

Your Added Value ≤≤≤≤ Value with You – Value without You

• Example: The Card Game○ Professor Value ≤ 26 x ($100 - $0) = $2,600 (in total)○ Student Value ≤ $100 - $0 = $100 (each) $2,600 (in total)

• Example: The Card Game revised○ Professor Value ≤ 23 x ($100 - $0) = $2,300 (in total)○ Student Value ≤ $100 - $100 = $ 0 (each) $0 (in total)

ADDED VALUE




• Not Additive○ upper bound not equality○ sum of each contribution doesn’t equal to Total Added Value

• Not Complete or Unique○ doesn’t end here○ still need ‘bargaining’○ but have a good measure of ‘bargaining power’

• Other ‘Solutions’

• Examples - UN Security Council: 15 members, 5 with veto, 9 votes in favour○ value of 5 permanent: 19.63% each � total: 98.2%○ value of remaining: 0.18 % each � total: 1.8%

• Examples - Parliament Voting (coalitions): 4 parties, 43,33,16,8 members resp.○ value of majority party: 50%○ value of remaining: 16.67% each

ADDED VALUE ctd.




• Can the students improve their position?

When you don’t like the outcome of the game Change the Rules

• All of the above assume no interaction by students

• Suppose in revised Game○ students cooperated to act in coordinated way○ game in effect Professor v. Student Coalition for $2,300○ purely symmetric

• Result:○ Professor = $1,150○ Student Coalition = $1,150

• But incentives to Defect: multi-party Prisoners’ Dilemma?

COALITIONS AND COORDINATION


professor just wasted $300



• The Theory Interactive Decision Making

• The Mathematics of Strategy

• Decision Makers with interwoven Interests

• Founded by John Von Neumann (grandfather of computing)

• Two main Parts○ Non-cooperative: each player independently after own interests

• each deal in the separately Card game○ Cooperative: coalition analysis and wealth distributions

• the game collectively – free form negotiations• students agreeing to cooperate in Card game

GAME THEORY: origins



• 2nd World War○ English Battle ships v. German Submarines○ Cat and Mouse

• Nuclear Warfare○ The Cold War - Cuban Missile Crisis

• Other Military Applications (differential games)○ Missile guidance design systems: optimal trajectories○ Shooting games: optimal shooting time

• The Study of Conflict: management and resolution○ Negotiation theory○ Mediation and Alternative Dispute Resolution

GAME THEORY: conflict management applications



• Evolutionary Biology○ The Selfish Gene○ Evolutionary Stable Strategies

• Economics○ Market equilibria: Nash equilibrium

• More Recently: Business Strategy

• Many more:○ social sciences○ even religion!

GAME THEORY: applications



“Strategy is about winning. ……… We examine the nature of strategy, and we distinguish strategy from planning.

Strategy is not a detailed plan or program of instructions; it is a unifying theme that gives coherence and direction to the actions and decisions of an individual or organization.”

Robert M. Grant, Contemporary Strategy Analysis, 3rd edition

BUSINESS STRATEGY



• Business Strategy: sustainable competitive advantage ○ like War developed independently from formal strategy○ too complex to be modelled formally○ a lot of confusion about concepts, techniques and importance

• four common factors in successful strategies○ simple goals , consistent and long term ○ profound understanding of competitive environment ○ objective appraisal of resources ○ effective implementation

• Organizational problem: decision makers not implementers○ translate down the chain – alignment & information problems○ Mintzberg’s emergent strategies : managers’ interpretation ○ compare this with intended strategy and realized strategies

BUSINESS STRATEGY



• POSITIONING○ Founded on Industrial Economics○ Position based on assets○ Porter’s 5 forces model

• CAPABILITY BUILDING○ Resource Based View○ Core competencies○ Dynamic Capabilities

BUSINESS STRATEGY THEORIES



• HYPER-COMPETITION & HIGH-VELOCITY ○ knowledge intensive○ Rapid innovations – short product cycles○ Temporary competitive advantage○ Speed, surprise, innovation and flexibility

• ECOSYSTEM & COMPLEX ENVIRONMENT○ Business ecosystems○ Uncertainty – Non-linearity○ Symbiosis – Co-evolution

BUSINESS STRATEGY THEORIES ctd.



• Stylized Environments: non-cooperative GT○ few players○ relatively stable rules○ e.g. Oligopoly, Market Entry and Price Fixing

• More complex environments: cooperative GT○ free form bargaining○ many players and coalition formation○ value creation and distribution○ e.g. The Value Net and Co-opetition

• Positioning & Ecosystem?

Game Theory and Business Strategy



• Bargaining Power of Suppliers and Buyers (concentrations)• Threat of New Entrants and of Substitutes• Internal Rivalry between firms

• Most widely used, but:○ considered static (Porter disagrees)○ purely Antagonistic: no room for cooperation and coalition analysis○ asymmetric between buyers and sellers○ how to distribute value

COMPETITIVE ENVIRONMENT: PORTER’S FIVE FORCES

Potential Entrants

Buyers

Substitutes

Suppliers

Industry Competitors



• Resembles the Value Chain more

• Recovers symmetry between buyers and sellers

• Uses Added Value of Player to analyze value distribution

• First step towards coalition analysis

• Still not complete

PORTER’S FIVE FORCES adjusted

“Porter’s added value”, Ac.Mgt.Exec., (16)2 (Brandenburger, 2002 )

Suppliers BuyersCompetitors

Actual and Potential

Alternative use of Resources

Substitutes



• Cannot analyze ‘game’ fully without knowing all players

• Competitors○ customers value your product less if they have competitor’s product

• Complementors○ customers value your product more if they have complementor’s product

• Examples (success)○ Intel & Microsoft: chip improvements ↔↔↔↔ software improvements○ MS Vista & new hardware○ Fax machines & Telephone lines○ Cars & Car Insurance○ Hot Dogs & Mustard

• Examples (celebrated failures)○ superior (?) Sony’s Betamax VCR lost to VHS: lack of Betamax format Movies○ US downtown Shopping lost to Malls: lack of available Parking

COMPLEMENTORS




• Introduces Complementors○ full picture of players � allows for Total Value Calculation

• Totally Symmetric○ Suppliers & Customers○ Competitors & Complementors

• Identifies all Players more clearly: Player Added Value (marginal contribution)

• But story doesn’t end here

THE VALUE NET


Competitors

Customers

Complementors

Suppliers

Company



• Relationships not Set in Stone○ avoid typecasting○ may loose opportunities for value creation

“On any given day AT&T may find Motorola to be a supplier, buyer, competitor, or partner”

Gary Hamel and C. K. Prahalad

Competing for the Future

MULTIPLE ROLES




• Example: Museum of Modern Art v.Guggenheim (NY)○ Competitors: they compete for customers○ Suppliers and Customers: may borrow painting from other○ Complementors

• visitors in New York attracted to one may also visit the other• visitors tend to like having more than one option • New York is complementor to both

○ Partners: may want to create joint promotional activity

• Value Creation○ appropriated from other City Museums

MULTIPLE ROLES ctd.




THE GREEK SOFTWARE VALUE NET: a first approach

COMPETITORS• other ISV’s etc.• Universities• Microsoft (ERP)

CUSTOMERSHorizontal Solutions:companies (general)Vertical Solutions:

e.g. banks

COMPLEMENTORS• Hardware• Operating Systems

Windows - Linux• Databases

SQL - Oracle• other ISV’s etc.• Business Schools (ALBA)

SUPPLIERSMicrosoft etc.Universities

Human Resources

COMPANYISV-VAR-SI



THE GREEK SOFTWARE VALUE NET: multiple roles

• examples of Multiple Roles:○ Bank

• Customer (of product and deposits) • Supplier (of financing and banking services)

○ Universities (technical)• Competitor: in projects and research programmes• Supplier: of skilled labour• Partner: in projects (joint ventures)

○ Microsoft• Competitor: e.g. ERP• Supplier: Operating System & Database & Platforms



THE GREEK SOFTWARE VALUE NET: complementors

• concentrate on Complementors○ Hardware

• the standard Intel & MS example• better software ↔↔↔↔ better hardware

○ Operating Systems (Windows/Vista or Linux)○ Databases (SQL Server or Oracle)

• Applications and Platforms• more Applications sold - more valuable Platforms• more Platforms sold - more valuable Applications



THE GREEK SOFTWARE VALUE NET: complementors ctd.

• other ISV’s etc. as complementors○ through Differentiation (with ‘localized’ coordination)

• one ERP specialist the other CRM specialist• or, large client base & specialized solutions

○ Technology Innovation Hub (SE Europe?)• similar to MOMA and Guggenheim • Meet New Challenges

○ User Interface improvements○ Web2.0 interactivity and new functionalities ○ Software as Service (pay-as-you-use) etc.○ Parallel (dual) Processing: sooner than you might think

• Innovation culture: skilled labour, management, ideas…



EDUCATE THE CUSTOMER

• Innovative Techniques and Products○ what are the new functionalities?○ how can they create value with them?○ how can they avoid waste with them?○ how can they sustain growth with them?

• Business Education: (ERP, CRM etc.)○ 95% of Greek companies family owned○ problem: companies fail to see the need for business applications○ ALBA as Complementor○ better Managers more Applications required○ better Applications available the more business education required○ Sponsor Scholarships at ALBA!



VALUE CREATION: synergies

• Is value created out of thin air?○ revised Card Game: Student Coalition v. the Professor○ museum promotion: NY museums v. other city museums

• Synergies:○ economies of scale

• efficiency through numbers• e.g. large fixed costs

○ economies of scope• more than one product with common raw material

○ economies of experience & knowledge• re-invent the wheel?

○ economies utilization• grouping together products and employees



VALUE CREATION: synergies ctd.

• Synergies:○ financial

• more cash flow – less financing needs• diversification • creditworthiness � lower risk � lower cost of capital• collateralization & ‘cash cushion’ management

○ ‘bargaining’ power (the Value Net)• with customers• with suppliers• with banks• with competitors: competitive advantage

○ tax efficiencies?○ innovation and growth: R&D departments

• large outfits have potential for sustainable innovation



METHODS OF COOPERATING

• Methods○ ordered by degree of commitment

• Mergers (consensual)○ with share exchange

• Joint Ventures○ project based – temporary○ may evolve into merger through repetition and trust building

• Joint Activities○ promotional○ R&D○ cost cutting○ price fixing � illegal by competition law



CO-OPETITION: COOPERATION IN COMPETITION

• How to achieve and sustain Cooperation?○ in cooperative settings

• Also:○ Within Context of Competition?○ Often apparent interest to Compete

• Are We Really enemies?

• War and Peace



1ST WORLD WAR TRENCH WARFARE

• Most brutal War in History?○ Because of ferocity: front stabilized – Western Front○ In spite of ferocity: astonishing degree of cooperation

• Ashworth & Axelrod: soldiers in repeated Prisoner’s Dilemma

• Cooperation started tacitly : ○ common hours for rationing � unofficial and local cease-fire○ ‘cease-fire’ established○ signals (flags) designated areas out of bounds even for snipers

• Developed further○ hours of cease-fire were extended○ areas out of bounds were extended○ such tactics extended to other sectors of the front



COOPERATION: Theory

• Robert Axelrod, The Evolution of Cooperation○ Basic Books, US, 1984

• Theoretical Framework○ Game Theory○ Sociology and Political Science○ Behavioural Decision Making

• Non-cooperative Game Theory: a misnomer○ Prisoner’s Dilemma○ Iterated (repeated) Prisoner’s Dilemma○ Growth and Discounting (financial considerations)



EXAMPLES: general

• 17ΝΝΝΝ○ Ν 2928/2001 & Ν 3090/2002○ Omerta!

• Not All Cooperation is Bad!

• Nuclear Proliferation: non-proliferation treaties○ US v. SU: The Cold War○ Greece v. Turkey: dog fights

• International War Treaties○ Geneva Protocol: for Chemical gases (mustard 1st WW)○ Hague Convention: for Biological weapons ○ Geneva Conventions: treatment of POW’s – civilians



EXAMPLES: Business

• Price Fixing○ OPEC cartel

• Co-opetition○ Software & Hardware Development

• Organizational○ Manager – employee relations○ Teamwork ○ Internal politics and ‘backstabbing’

• Negotiations○ Principled Negotiations



RESOLVING THE DILEMMA

• Pure Individual Rationality○ Defect – not cooperate

• Human Rationality: can do better with○ Communication○ Credibility

• Collective Rationality○ Maybe even better○ Look for collective good: Increase the pie○ Find ways to distribute: Split the pie � Negotiations



CREDIBILITY: With Central Authority

• Use a mediator

• Law○ Contracts○ Collaterals○ Tort & Criminal: antisocial behaviour

• Value systems○ Codes of Conduct○ Sociological: professional bodies - guilds



CREDIBILITY: Without Central Authority

• Promise : to reward cooperation or to punish defection

• Reputation for Integrity � the past ○ Honour among thieves ○ Good community standing, even in bad communities○ Sunk cost - Investment?

• Inducement of Fear or Faith � the future○ Threats: Omerta!○ Belief in benevolence

• Future dealings & repeated games � back to the future○ Growth: higher-stakes and incentive to cooperate○ Discounting and inflation rates○ Purely co-operative (joint venture) end games



RECAPITULATION

• identify the Value Net and its Players

• recognize one’s Position(s) in the Value Net

• recognize one’s Contribution in the Value Net

• identify Value Creating opportunities

• enjoy Pure Cooperation

• if in Competitive environment balance between○ Cooperation and Competition○ Rationality and Emotion○ Self and Other○ Present and Future



CONCLUSION

future comes quicker and counts more than temptation suggests

THANK YOU

SOFTWARE VALUE NET GameTheory applieddownload.microsoft.com/download/c/4/e/c4e07eb5-8ba...Porter’s 5 forces model ... PORTER’S FIVE FORCES adjusted “Porter’s added value”,

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