When does adding many new offerings benefit or hurt a platform ecosystem?
Platform Papers is a monthly blog about platform competition and Big Tech. Blogposts are written by prominent scholars based on their research. The blog is linked to platformpapers.com, an online repository that collects and organizes academic research on platform competition.
This blog is written by Carmelo Cennamo and Juan Santaló.
Embarking on the journey of innovation is a venture filled with risks and uncertainties. From the intricate stages of research and development to prototyping and eventual commercialization, success often hinges on collaborative efforts and the integration of complementary products. Gone are the days when industry giants like Dupont, General Electric, or IBM monopolized innovation within secretive corporate laboratories. The contemporary digital landscape has shifted the epicenter of innovation to the dynamic and interconnected realms of platform-based ecosystems, where innovation thrives in open architectures and digital marketplaces.
In the latest ranking of the world’s most innovative companies by Fast Company, a remarkable paradigm shift is evident, with seven of the top ten companies being platforms. The focal point has transitioned to the pulsating heart of platform-driven ingenuity, exemplified by ecosystems like Apple’s App Store. In this era, progress is not solely dictated by the capabilities of individual corporations but by the external innovators leveraging platform technologies to continually build upon and create a stream of complementary innovations.
Enter the concept of “generativity” in platform ecosystems!
Consider the iPhone or Android-based smartphones and the plethora of apps available for users. Think about the diverse game systems and the ever-expanding variety of games. This is the essence of generativity – the power to create new opportunities for the core product technology, extending its value over time through continuous innovation efforts from third-party developers.
But if you were a buyer of early smartphones from the like of Nokia and Blackberry you must have faced a different, limited consumption experience due to a lack of compelling complementary applications. Yet, early markets for those applications existed at that time, managed by the telecommunication operators.
So, why did innovation in complementary applications fail to take off till the advent of the iPhone and Android by firms outside the telco industry?
There are multiple explanations for it. One has to do with the nature of platform systems. The simple narrative around platforms is that their value grows through indirect network effects. As a base of consumers engages with the platform, third-party firms contribute complementary offerings, attracting new customers and creating a self-reinforcing cycle. This is also why platforms are commonly seen as a special form of markets: technological infrastructures through which customers gain access to a variety of providers and their complementary offerings, while providers gain access to potential, dedicated customers.
However, these complementary innovations need to be created in the first place. The prospect of serving a large customer base is often a necessary condition but not strong enough an incentive to create the high-quality, dedicated complements that are required to attract customers to the platform. In fact, it might provide a (perverse) incentive to supply cheap versions of high-quality products and capture some demand. This is what happened in the early days of the videogame industry indeed, known as the “Atari moment”. The industry crashed because of a flooding of low-quality games supplied by developers who were attracted to the industry by the allure of the large customer base of the Atari console.
Managing platform ecosystems presents challenges, requiring coordination among diverse actors. While autonomy is a strength, aligning the interests of ecosystem members poses unique challenges. The delicate balance lies in expanding the variety of complementary offerings while preserving incentives for third-party providers to innovate and deliver high-quality complements. Stephane Kasriel, the CEO of Upwork, a freelance platform facilitating seamless access to a diverse talent pool and innovative solutions offered by freelancers, emphasizes the point:1
“If you have too many free lancers for the same number of jobs, a lot of people bid on each job. People get desperate. It’s a reverse auction system so prices go down. When prices go down, the best players exist the system and only the people that are truly desperate stay. So the quality goes down. When quality goes down, you’ve got even less demand for it. So, how do you solve that? Well, you invest in marketing strategies to try to make sure that you never have too much imbalance one way or another.”
Our Organization Science article delves into this challenge, exploring how generativity impacts user satisfaction within ecosystems.
Generativity’s Impact on User Satisfaction
We examine the video game platform industry, analyzing a dataset of new game titles launched on various consoles. Our findings support the hypothesis that generativity impacts positively user satisfaction in early phases of a platform life cycle while it can negatively impact user satisfaction as the platform matures, especially during heightened competition with other systems. This is due to two countering effects – the “free-riding effect” and the “spillover effect” – and how they unfold over time.
The free-riding effect revolves around the concept of exploiting others’ innovative effort and contribution to the ecosystem. When a platform experiences elevated generativity, third parties may be incentivized to exploit the creative efforts of others. This often leads to the development of products that mimic existing ones, yielding similar financial outcomes with reduced effort. Consider the Puzzle Game Tree, a math-based tile-swiping game created by a two-person team over 14 months of app development. Despite winning prestigious industry awards, including the 2014 Apple Design Award, the app faced rapid clones within six days of its iOS release, with some of them climbing to prominent rank positions on the App Store lists.
The spillover effect comes into play when heightened generativity marks the emergence of numerous competing solutions, signaling to third parties that the platform marketplace is expanding. This abundance is viewed as a robust indicator of increasing returns, inspiring confidence among developers to invest resources—be it money, time, or effort—in creating high-quality content for the growing platform.
Our study identifies how the free-rider effect of generativity dominates in more mature stages of a platform life cycle, leading to lower user satisfaction, increased variance in user satisfaction, lower innovation development effort, and lower marketing investments.
Implications for Business Leaders and Policymakers
As platforms mature, striking the right balance between positive reputation spillover effects and negative free-rider effects becomes imperative. Eliminating the negative free-riding effect and balancing generativity requires dynamic, adaptive governance systems. Apple’s success with the iPhone ecosystem demonstrates the importance of evolving marketplace design and rules of engagement. Apple now applies a stricter quality screening process and has redesigned how users search for apps, facilitating the discovery of new, innovative apps, and improving the overall search experience. It supports new areas of innovation either through direct collaboration with few developers investing in new functionalities of the platform or by selectively promoting innovative apps through the “app of the day” in the AppStore. Also, it changed its revenue model by pushing apps increasingly towards a subscription model and offering a 85-15 split of revenues for those providers who manage to retain their customers over a year. All of which has served to guarantee higher economic returns to developers for their apps’ quality investments, and, in turn, a great customer experience.
A key learning point of our study is that platform gatekeeping must be more permissive during the initial stages of a platform’s life cycle, and gradually intensify as the platform matures.
To the crux of Upwork’s CEO, this would imply that as the platform matures, Upwork should exert more effort in balancing supply and demand to make sure that competition among the freelancers does not spiral into a race to the bottom, which would expel the best free-lancer solutions out of the market. This is usually done by applying more stringent conditions about who can enter the platform and about the quality threshold of the solutions being provided.
For business leaders and policymakers, understanding the generativity challenge is essential. Recent regulations like the DMA in Europe address the role of platforms as marketplaces, aiming to keep markets “open” and “contestable.” However, our study suggests that viewing platform systems as mere markets undermines the organizational challenges associated with coordinating these collectives.
In conclusion, the power of generativity in platform ecosystems holds the potential to unleash innovation and unlock unprecedented value across sectors. Navigating its inherent tensions is not just an academic exercise but a practical necessity for steering sustained innovation in the digital age, leading us towards new frontiers of creativity and progress.
This blog is based on Carmelo and Juan’s research, which is published in Organization Science and is included in the Platform Papers references dashboard:
Cennamo, C., & Santaló, J. (2019). Generativity tension and value creation in platform ecosystems. Organization science, 30(3), 617-641.
Platform-Paper Updates
The paper underlying today’s blogpost was one of the most-cited Platform Papers in 2023! You can check out this and other platform fun facts in my Year-in-Review post.
Coincidentally, Carmelo and I are both on the organizing team for the 2024 European Digital Platform Research Network (EU-DPRN) conference hosted by the UCL School of Management in London, June 27 & 28. This promises to be an exciting conference where research and policy on digital platforms come together to shape the agenda for the years to come. There’s still a couple of days left to submit a paper for presentation consideration. More news about the program will follow in the months to come.
The year 2024 is off to a great start for platform competition research. Earlier this month, I added nine new papers to the references dashboard and there’s more to be added soon. Here are a few highlights:
A study by Chenglong Zhang and colleagues in Information Systems Research looks at what happens when a ride-sharing platform and a traditional car-rental firm cooperate (allowing drivers to rent cars from the rental firm to drive for the platform). Turns out, such cooperation can flood the market on the driver side lowering prices and revenues. In the end, the authors find that cooperation between the ride-sharing platform and the car-rental firm benefits riders and hurts drivers, but benefits society overall.
A study by Oren Reshef in American Economic Journal: Microeconomics studies the dynamics of same-side network effects on a platform’s seller side, or what Reshef labels the fight for “smaller slices of a growing pie”. Exploiting a quasi-exogenous shock on an online platform, Reshef studies the net effect of additional sellers expanding the market on the demand side and simultaneously increasing competitive crowding on the seller side. I find this notion of demand spillovers (and whom benefits from them) rather interesting. Luckily (for us), Oren has agreed to write a Platform Papers blog about his paper!
A study by Aparajita Agarwal and Valentina Assenova in Organization Science looks at how mobile money platforms, which allow users without bank accounts or credit cards to perform financial transactions, can fill institutional voids in certain countries. Analyzing the effects of a series of regulatory changes
that allowed nonbanks to operate as mobile money platforms, the authors conclude that mobile money platforms expand credit access to end users from formal financial institutions and thereby act as stepping stones to financial inclusion.
I hope your year is off to a great start! I have got some fascinating new blogs lined up in the next few months. See you soon!
Platform Papers is curated and maintained by Joost Rietveld.
Zhu, F., McDonald, R., Iansiti, M., Smith, A. 2015. Upwork Reimagining the Future of Work. Harvard Business School case #9-616-027