The Digitalization Dilemma

Digitalization poses a dilemma to traditional network industry players, including infrastructure managers. On one hand, digitalization increases efficiency in the management of their infrastructures. As described, digitalization, algorithms, and automation reduce the cost in the design, construction, maintenance, and operation of infrastructures. On the other hand, as digitalization creates a data layer on top of the infrastructures, new players can use the generated data to transform the structure of the industry. Online platforms can create multi-sided markets in which infrastructure managers become just one side of the market, a commoditized provider of services under the coordination of the online platform. The platform reduces the value traditionally captured by the infrastructure manager, as new competitive pressure destroys value and the platform captures some of the value. This is particularly relevant in the network industries, as the availability of funds for the construction and maintenance of infrastructure must be ensured.

How should infrastructure owners, which are often governments, and managers react to digitalization? Let us recall some precedents. Newspapers embraced digitalization and voluntarily launched their own digital versions. They tried to exploit digital content through advertising, as they had done in their traditional printed versions. However, digital platforms (Google and Facebook) have outsmarted newspapers, growing much larger audiences and more sophisticated systems to target ads to larger audiences than newspapers ever could. Today, a substantial portion of the digital audience of newspapers comes from Google Search/Google News and from Facebook.

Newspapers are facing the digitalization dilemma. They are fully aware that their participation in the digital platforms reinforces the platforms in the long term, as they obtain quality content and even advertising revenue in their search sites and newsfeed features. Furthermore, their main asset and competitive advantage - the content - is commoditized for the benefit of the platforms, for which news is only another way to attract eyeballs and advertising. Ultimately, they risk becoming irrelevant and being expelled from the market altogether.

In the short term, however, newspapers’ digital editions are heavily reliant on search results and newsfeeds in platforms. According to several sources, 40 percent of traffic directed towards the digital editions of general information newspapers derives from platforms, with Google clearly leading.4 When newspapers tried to get their content excluded from digital platforms, as The Times did in 2010, or the Belgian newspapers experimented in 2007 and 2011, they realized how substantial the drop in traffic and digital advertising revenue was for them and were subsequently forced to ask Google to re-include them in their platform. They had been “Googled,” as described in 2009 Ken Auletta’s book of the same name.

Traditional companies are increasingly facing this dilemma as they must define their digital strategies. Google is not the only platform benefiting from third parties’ digitalization strategies. Amazon raises the same dilemma for retailers and producers of goods when they have to decide whether to participate in Amazon’s Marketplace. Retailers see an increase in sales as they join Amazon Marketplace, but often start to face competition from Amazon itself or other retailers selling below their prices. Participating in Amazon’s Marketplace reinforces Amazon as a competitor.5 Nevertheless, the alternative is to become irrelevant if limited to physical stores. Retailers can also be “Amazoned,” which means “to watch helplessly as the digital upstart from Seattle vacuums up the customers and profits of your traditional brick-and-mortar business.”6

As traditional industries are digitalizing, digital platforms are disrupting them. Content providers are “Googled,” traditional retailers are “Amazoned,” taxi drivers are “Ubered,” and hotels are “Airbnbed.” More generally, traditional companies are being “platformed.”

This digitalization dilemma also applies to the network industries: when traditional players digitalize their operations, they are facilitating the transformation of their industry into a multi-sided market, with a third party, the online platform, eroding the value traditionally captured by the infrastructure manager and taking over the role of the coordinator of the market.

Traditional organizations might be tempted to delay digitalization altogether, to avoid being substituted or “platformed.” However, this is a risk that most organizations are probably unable to bear, as competitors might get a competitive edge if a traditional organization does not benefit from the efficiencies derived from digitalization, and furthermore, if the traditional company remains isolated from the new market structure and ecosystems in the digital world. However, this strategy should not always be excluded. As an example, the founders of the Palo Alto Daily News launched another free newspaper as late as 2008. Most of the content can only be read on paper; it is not digitalized. While the audience might be smaller, it is there - people traveling in mass-transit, when there is no coverage, etc. - and the editor monopolizes the (small) advertising revenue it generates.

Traditional network industries players might be tempted to reduce the speed of digitalization, or even not to digitalize their infrastructures at all, in order to delay the rise ofplatforms in their industries. This might not be a wise strategy either and does not appear to be in the general interest. Efficiencies derived from digitalization are too significant to be ignored, as described in the previous sections. Even more importantly, this strategy might not work in the long run. As in a traditional prisoner’s dilemma, competitors (where they exist) might embrace change and monopolize the benefits of a good relationship with the platform operator, making the position of the traditional player even weaker.

Even monopolistic infrastructure networks might not manage to avoid the rise of a platform by delaying digitalization. The infrastructure manager installing sensors can extract data about infrastructure, but third parties can also extract it in the most creative ways. For example, data on traffic can be extracted from passengers’ smartphones, from sensors installed in vehicles produced by third parties yet using the infrastructure, from sensors installed in the cargo being transported, from meters used by the users of electricity networks, etc. Platforms can be built over data generated by third parties, not only data generated by the infrastructure managers themselves.

Traditional players can vertically integrate into the data layer and build platforms for their industries. This is a common strategy and there are many examples of infrastructure managers creating platforms, such as railway undertakings, shipping companies, telecom operators, electricity utilities, etc. They have the ambition to intermediate not only in the provision of their services, but in the provision of services by third parties, sometimes close competitors. Obviously, other service providers are suspicious and tend not to participate in platforms managed by their competitors, as they are afraid they could be discriminated against; that is, in favor of the operations of the competitor managing the platform. Successful platforms have been led by vertically integrated companies, such as Amazon Marketplace. However, it seems clear that not all members of an industry can become platforms. This is clearly not the way forward for all infrastructure managers.

Finally, traditional players might try to pool resources and build a common platform to aggregate and coordinate their services. In this way, they can be somewhat in control of their own platformization. This is what a group of European airlines did in 1987 when they created Amadeus, one of the first digital platforms (see Chapter 12). This is increasingly common in media, as traditional players pool resources to directly interface with the demand side in advertisement. Building this kind of platform requires a lot of good will among industry players (content creators in the book industry, music producers in the music industry, transport services suppliers in the transport industry, etc.). There are multiple examples of failed attempts to build this kind of common platform, and competition law poses further challenges.

Infrastructure managers, as well as regulators, are not bound to be mere spectators in the process of digitalization and the emergence of new market structures. Lessons can be learnt from other industries that have already been platformed. Infrastructures will always be necessary, as they will only rarely be substituted by digital services (as is the case in letter mail). Infrastructure managers must adapt to the evolution of the market structure and find their rightful place in the new ecosystems.

The challenge for all actors (infrastructure managers, candidates to become platforms, users, public authorities funding infrastructures, but also regulatory authorities) is to ensure the emergence of a balanced and sustainable competitive environment. However, the system will only be sustainable if the new value created is fairly distributed, and particularly if infrastructure managers are not deprived of the necessary funding for the maintenance and construction of their assets. This is a difficult balance to achieve and a challenge to address.

 
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