A further description by Umair Haque of Bubblegeneration on the impact of peer production in Media 2.0

1. The Atomizing Hand The strategy and economics of peer production Umair Haque http://www.bubblegeneration.com Spring 2005

2. Intro

7. Network Economics 1.0 and 2.0 Primer

10. Markets and Firms: Production 1.0

18. Coordination & Specialization Coordination costs Specialization gains Coordination costs bound specialization gains Size Value Coordination costs exceed specialization gains

19. Coordination Diseconomies Hierarchy costs Specialization gains Coordination diseconomy : total costs of hierarchy are coordination costs and opportunity cost: not choosing the best coordination rights assignment. Specialization is effectively bounded at a small maximum efficient scale. Can trade off by either coordinating more, and losing less information…or coordinating less, and realizing greater specialization gains. Size Value Opportunity cost – information loss – increases costs of hierarchy Total costs exceed specialization gains

20. Peer Communities: Production 2.0

25. Costs Shape Modes of Production Markets Transaction costs Firms Peers Coordination costs Information loss Hierarchies Market failure Sharing costs Corpocracy Growth failure Atomization Failure point Organization Type of failure

27. Peer Production Economics

30. Peer Production Economics Distributed Economies of Scale and the Atomization of Production

33. Coordination & Specialization Firm coordination costs Specialization gains Size Value PP coordination Costs PP coordination costs exceed specialization gains Firm coordination costs exceed specialization gains Coordination costs bound specialization gains. Since peer community coordination costs scale linearly, peer communities realize more gains

36. PP and Firm Production Functions Firm coordination costs Firm production function Labor/Network Size Output PP production function Firm is more efficient producer PP community is more efficient producer PP marginal productivity exceeds firm marginal productivity Distributed economies of scale mean that at large scale, peer communities enjoy a significant cost advantage over firms

38. Traditional Value Creation Publishing: finance, marketing, procurement Management mediates transactions between primary value activities Management coordinates and exploits complementaries between supporting value activities Traditionally, value activities were integrated because market transaction costs were high Production : creation, editing, finishing

39. Disintermediation: Integration to Disintegration Publishing : finance, marketing, procurement Management coordinates and exploits complementaries between supporting value activities Disintermediation: Markets mediate transactions between primary value activities Cheap information disintegrates traditional value chains: value activities rearrange in horizontal layers, yielding efficiency gains Production: creation, editing, finishing

40. Microproduction: Disintegration to Atomization Cheap coordination atomizes disintegrated value chains: value activities rearrange in microchunks, yielding efficiency gains Publishing : finance, marketing, procurement Community mediates transactions between primary value activities Community coordinates and exploits complementaries between supporting value activities Production : creation, editing, finishing

41. Microproduction: Distributed Economies of Scale Microchunks have a positive supply-side network externality: a peer’s private productivity is less than his social productivity Why? User N contributes green microchunk G . This microchunk is reusable . Microchunk reuse increases marginal productivity: G’s complementarity with other microchunks reduces the marginal cost of future productivity. This microchunk is modular . Microchunk modularity explodes production set. G’s complementarity with other microchunks creates explosion in product set possibilities.

45. Peer Production Economics Knowledge Externalities and Increasing Returns

50. Knowledge Pool Knowledge is an externality of value activities: learning-by-doing Knowledge pools when information and preferences shared during peer production are stored This knowledge enhances future productivity by informing peers about how to most efficiently modify inputs in order to produce the most-desired outputs Value activities (brown) have a knowledge externality, which flows into knowledge pool (silver).

52. Increasing Returns Overview Productivity Increase New users Which accelerates Information sharing which attracts ultraspecialized in different activities at the margin (distributed economies of scale) about inputs and outputs ultraspecialized in different activities … New users Public knowledge Which grows about the most efficient coordination rights

56. Peer Production Strategy Understanding Value Chain Evolution

57. Value Chain Evolution Peers Platform Peers Aggregator Inputs Manufacturer Marketer Distributor Retailer Cheap information disintegrates value chains, because segment consolidators realize specialization gains and economies of scope – integrated production becomes costly Cheap coordination atomizes disintegrated value chains and explodes value activities within layers, because microproducers realize distributed scale economies Inputs, Manufacturing, Marketing, Distribution, Retail Costly info and coordination integrates value activities – most economical way to produce Peers

58. Value Chains & Value Appropriation Infrastructure Content Search ISP Telco Inputs In disintegrated value chains, industry profitability migrates to the center (aka the ‘coordinator’) Manufacturer Marketer Distributor Retailer Creatives Producer Publisher Distributor Retailer 5% 20% 50% 20% 5% Why? Market power in horizontalized landscapes – layer dominance – flows from relative scope (t he center can realize the greatest marketing scope economies of scope via marketing, branding, and advertising), or relative specialization (the center can develop the most economically advantageous core competences) EG: Nike, EA, SeanJohn, Google

59. Value Chains & Value Appropriation Platform Peers Aggregator In atomized value chains, industry profitability will migrate to the edges 40% 20% 40% Inputs Platform Peers Aggregator Reconstructor 35% 10% 10% 10% 35% Why? Market power in atomized landscapes is a function of relative scale: the edges can realize the greatest relative economies of scale via demand and supply side network FX. The middle of the value chain explodes and can’t realize scale economies. Core competences for disintegrated value chain coordinators become core rigidities – value capture requires competences at both edges of the chain

60. The Explosion of the Middle Peers Peers Peers Platform Peers Aggregator In atomized value chains, industry profitability will migrate to the edges 40% 20% 40% Why? The center explodes and atomizes – hypercommoditization – and value shifts to adjacent segments , because they can realize scale economies from the exploded center’s output. Examples: Blogger, Bloglines, Flickr

61. The Commoditization of the Edge In atomized value chains, the same technology that explodes the middle commoditizes the old edges (example: cheap connectivity enables blogging). Industry profitability migrated to new edges. 40% 20% 40% Coordination Production Aggregation Blogger bloggers Bloglines AudBlog podcasters PodWorld Community Owners reviewers Become Connectivity 0-1% BitTorrent ISP

62. Value Appropriation Examples In atomized value chains, industry profitability will migrate to newer (and newer) edges Platform Peers Publisher Aggregator Reconstructor 35% 10% 5% 10% 35% Coordination Production Publishing Aggregation Filtering Laptop audio Artist Label Club DJ Blogger bloggers hosting search Bloglines MMOG Developer gamers Mods & plugins Community sites Gaming Open Market

64. Peer Production Strategy Competitive Dynamics

65. Peer Production Model Inputs (Coordination) Means of Production Outputs (Aggregation) Explicitly modifiable by community Sell access to users Competition for access, prizes Wikipedia raw content Open or community regulated access Advertising and sponsorship % Ad revenue Wikipedia CMS Efficient information sharing % Sales revenue % Revenue from outputs Wikipedia entry Knowledge pool grows New aggregated public info Requirements Revenue stream Peer incentive Example Increasing Returns

74. Relative Advantages Efficient Info Sharing Peer Network Public Knowledge Productivity New Users Without a market making capability… … public knowledge doesn’t pool … new users aren’t attracted … marginal productivity doesn’t grow … increasing returns fail

76. Peer Production Industry Structures & Rivalry Suppliers & Buyers: Control access to key technologies, inputs, and distribution channels – vertical integration Control buyer/supplier scope economies by controlling high-value complements Fragment/commoditize key technologies or inputs if you can’t control them Example: Amazon – Fedex deal

77. Peer Production Industry Structures & Rivalry Suppliers: Control access to key technologies or inputs – vertical integration Fragment/commoditize key technologies or inputs if you can’t control them EG: Complements: Create larger numbers of higher quality complements than competitors Raises switching costs by lowering relative value of substitutes Example: lightweight, open standards (RSS) drive cheap complementarity Anti-example: Apple closing off iPod/iTunes platform kills complementarity Buyers: Control distribution channels – vertical integration Fragment/commoditize distribution channels if you can’t control them EG: New Entrants: Vertical integration creates strong entry barriers Scale and speed economies in network markets create strong entry barriers Other sources: first-mover advantage, preemption, deterrence, complements, nonlinear pricing, differentiation Example: eBay’s user network

84. Thank You

85. Heuristics

86. Peer Production Advantage Dot Com 1.0: Search engines, portals, networking services Peer Production Yellow Pages Fabs Low Search Economies High Coordination Economies Low High

87. Coordination Arbitrage Criteria Hedge Funds, VC Ford, GM Lifestyle goods Peer Production Sweet Spot Media… Low Input Indivisbility High Coordination Diseconomies Low High

88. Relative Advantages in… Amazon Peer Production Community Out of the Game Vital point eBay No Community Size Yes Market Making Capability No Yes

89. Who’s Attracted? Slackers: Inefficient info-sharing Restrict peer entry by invitation/referral Shift to part-closed model Control quality of complements Everyone : Sweet spot No one: Vital point Geeks: Expand scope Shift to fully open-access model Leverage viral effects & complements to win peers Low Knowledge Pool Size High Knowledge Pool Quality Low High

90. Productivity Explosions Productivity Implosion Real-World Productivity Real-World Productivity Productivity Explosion Low Community Size High Knowledge Pool Size Low High

91. Peer Production Cost Advantage Disintegrated Gains to Specialization Size of Production Set Atomized Integrated

92. Notes

93. Peer Production - Resource & Capability Dynamics Speed Effects User network Knowledge pool Action Coordination Information Exchange Knowledge Externalities Increasing returns Productivity Output Scale & Scope Effects

95. 2.0 Strategy Space Vertical Scope (Product Depth) Horizontal Scope(Portfolio Breadth) Peer Productivity Scope Scale Speed