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New Business Models and the Creation of Wealth

Throughout the twentieth century, wealth was created by the integrated Industrial Age corporation. A clear model of the firm was established, along with many assumptions. Organizations were structured as hierarchies with reporting relationships and an internal economy. Marketing-based print and broadcast technologies became central to revenue generation. Manufacturing plants and processes that had many similarities across industries were established.

Understandably, the traditional starting point for strategic business thinking had been the individual corporation. But in the digital economy, that is no longer appropriate. A new form of value creation is becoming the basis for competitive strategy. We're entering the era of the business web, or b-web. The b-web is any system—of suppliers, distributors, service providers, infrastructure providers, and customers—that uses the Internet as the basis for business communications and transactions.

The key to competing in the digital economy is business model innovation that exploits the power of business webs. Industry by industry, business webs are destroying the old model of the firm.

To fully appreciate the fundamental realignments under way in the economy, we must reach back to the early writings of the Nobel laureate economist, Ronald Coase. More than six decades ago, Coase posed the question, "Why do firms exist?" If the marketplace is so efficient, why not have each worker, each step in the production process, act as independent buyer and seller? Coase cited transaction costs as the basis of contradiction between the theoretical agility of the market and the durability of the firm. Firms incur trans action costs when, instead of using their own internal resources, they go out to the market for products or services.

Transaction costs have three parts, which together, or even individually, can be prohibitive.

Search costs. Finding what you need takes time, resources, and out-of-pocket costs (such as travel). Determining whether to trust a supplier adds more costs.

Contracting costs. If every exchange requires a unique, separate price negotiation and contract, the costs can be totally out of whack with the value of the deal.

Coordination costs. This is the cost of coordinating resources and processes. In Coase's time, innovations like the telephone and the telegraph made it easier for distant firms to coordinate their activities.

The vertically integrated Industrial Age corporations developed to sidestep these costs. This is why Henry Ford's company—the first archetypal Industrial Age firm—didn't just build cars; it owned rubber plantations to produce raw materials for tires and marine fleets for shipping materials on the Great Lakes.

As communication tools got better and cheaper, transaction costs dropped. Firms began to specialize. With the Internet's arrival, many transaction costs are plunging to zero. Now, large and diverse sets of people scattered around the world can cheaply and easily gain real-time access to the information they need to make safe decisions and coordinate complex activities.

A company can add knowledge value to a product or service through innovation, enhancement, cost reduction, or customization, at each step in its life cycle. Often, specialists do a better value-adding job than vertically integrated firms. In the digital economy, the notion of a separate, electronically negotiated deal at each step of the value cycle becomes a reasonable, often compelling, proposition.

New business models based on networks are the new keys to competitiveness and wealth creation. This is why Ravi Kalakota and Marcia Robinson's book is timely. The term e-business began as a marketing slogan for technology companies. It is now a central theme at the heart of business strategy. However, most managers still view e-business and e-commerce as the buying and selling of goods on the Internet. Ravi and Marcia show how it is much more than this. They provide a wealth of information about the key technologies that are enabling new business models, as well as some helpful practical advice on how to get from there to here.

Once you've read this book you'll know why all business will soon be e-business.

Don Tapscott


Digital 4Sight

September 2000

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