Industry Life Cycles
The stage of an industry in its life cycle is another dimension of industry that affects the performance of new firms. Industries, like people and new products, are born, grow, mature, and die out. This life cycle impacts the performance of new firms because new firms tend to perform better when industries are first born, or are young and growing, than when they are mature or are dying out.(6) There are several reasons why. Customer adoption of new products and services is typically normally distributed. As is shown in chapter 6, a few customers are willing to be the initial adopters of new technology products and services, but most people wait until new technology products and services have been around a while before adopting. Similarly, a small number of people tend to be the late adopters of new technology products and services because they are laggards in their view of new products in general. The majority of adopters fall somewhere in the middle, adopting neither early nor late.(7)
Because the number of people who adopt early and late is smaller than the number of people who adopt in the middle, markets grow slowly at first, accelerate, and then slow back down. The small number of people adopting initially leads to slow market growth. The increased number of people adopting in the middle period leads to an acceleration in market growth. Then the decreased number of people adopting in later periods leads to a deceleration in market growth.
New firms perform better in young markets than in old ones because it is easier for new firms to attract customers when demand growth is highest. Under these conditions, they face the least severe competition from established firms. As an example, think of the cell phone business. In the early growth phase of the market, new firms had a relatively easy time attracting customers. After all, when the demand for cell phones was growing at double digits, there were enough customers for everyone. However, as the industry began to mature and growth slowed, established firms began to compete more heavily for their customers, making it harder for new firms to attract them.
In young industries, new firms face fewer competitors. At the beginning of an industry, no companies yet exist to meet customer demand for the new industry's products and services. Over time, firms enter to meet demand, generating competition to attract the same customers. Moreover, when industries mature, firms exit more slowly than the reduction of demand indicates that they should. This exit stickiness means that mature industries are often very competitive, with established firms fighting very hard to maintain their market position against persistent demand reductions across all suppliers. As a result, new firms tend to perform better when industries are young than when they are old.
As an example, think about the personal computer business. In the beginning, there were no firms providing this product, but as the products became more established, many firms entered this market space. This entry caused fierce competition among firms in the industry, drove down prices, and has made it more and more difficult for new firms to compete.
Most products and services involve a learning curve. The learning curve allows firms to use their experience operating in an industry to improve their efforts to meet customer demand. Such things as manufacturing, selling, and responding to customer complaints all involve learning by doing, which favors established firms. New firms, by definition, lack the operating experience that established firms have, and so have learning curve disadvantages vis-à-vis established firms. Because experience is gained over time through operating activity, the magnitude of the learning curve disadvantage is smallest when the industry is young and largest when the industry is old. Thus, new firms are more disadvantaged in older industries.
Initially, many industries face competing designs for products. However, as industries mature, they evolve toward the adoption of a dominant design or technical standard that is common to all products or services in an industry. Take, for instance, the production of nuts and bolts. While it may seem hard to believe, 150 years ago, nuts and bolts were not interchangeable. They were all manufactured by different companies to different designs. Today, nuts and bolts manufactured adhere to a common standard that makes them interchangeable.
The tendency of industries to converge on a dominant design or technical standard is important to a new firm's performance because new firms tend to perform much better before the adoption of a dominant design or technical standard than after it. Prior to the adoption of a dominant design or technical standard, entrepreneurs are not constrained in the designs that they can employ. Once a dominant design has been adopted, however, entrepreneurs are constrained to those designs that are consistent with the dominant standard. Because established firms have greater experience working with an established design than new firms do, new firms are disadvantaged once a dominant design emerges in an industry.(8)
Moreover, the nature of competition changes after a dominant design has emerged in an industry. Because designs tend to become standardized, what separates one company from another after a dominant design emerges changes from the design itself to the production process. After a dominant design or technical standard has emerged, competition shifts to production efficiency. The experience and size of established companies allows them to produce the standard design more efficiently than new firms and hinders new firm performance once the dominant design or technical standard has emerged.(9)
Stop! Don't Do It!
Don't wait until a business is mature to enter.
Don't wait until after a dominant design has emerged to start your firm.