Although everyone talks about digitalization (software, data and AI) and the risk of disruption that this brings to companies, very few talk about how companies get disrupted in practice. Most treat it as an amorphous force that topples companies over like a force of nature that is unavoidable and where we are the victims. Of course, like you, I like to be in control of my own destiny and would like to better understand how digitalization causes such disruption in industry.
In our research, we have studied this question by working with a number of companies to understand how digital technologies are affecting their business. The generic mechanism can be summarized as shown in figure 1. The key concept in the figure is the notion of customer need. We distinguish between the real customer need and the expressed customer need. The expressed customer need is a function of three variables: the real customer need, technology capabilities and cost.
When incumbent companies started serving a certain group of customers, they were very much focused on the expressed customer need. Over time, however, the focus for most incumbents gradually shifts to product capability. A good example here is the automotive industry. The real customer need that people have is mobility. As the optimal balance of technology capability and cost the conventional expressed customer need was to own a car. As a consequence, automotive companies have focused on increasingly nice cars with better and better performance, ie on improving product capability.
However, with the emergence of smartphones and connectivity, especially in large cities, the novel expressed customer need is to use services like Uber and Lyft as these provide the needed mobility but without all the challenges associated with car ownership in large cities. To generalize, as shown in the figure above, as new technologies and capabilities are becoming available at acceptable price points, the ‘real’ customer need can be redefined in a novel expressed customer need.
Incumbent companies get disrupted when they miss the transition from a conventional expressed customer need to a novel one. This often happens because the most valuable customers are also those that transition the last as they have most invested in the conventional model. Also, many companies refuse to transition until the majority of customers have shifted to the novel expressed customer need. The problem is that the customers will then work with another company, meaning that you have lost them and have to struggle to win them back without any experience or proven track record in meeting their novel expressed customer needs.
To operationalize the generic model for digitalization, we present three typical implications of digital transformation in figure 2. First, digitalization often leads to a situation where a product that was traditionally bought and owned by the customer is now offered as a service. The technology enablers that allow for this are connectivity, data collection and analytics, and continuous deployment.
The second implication is that the offering digitalizes. This means that the sales process is not concerned with the physical product, but rather with a digital solution where monetization occurs through pay for use, quality-of-service contracts and offering data-based insights.
Finally, the third, and often most disruptive, implication is the transition from a one-dimensional to a multi-dimensional business model. When the company can monetize, eg, aggregated data coming from its original customers with a new class of customers, it can subsidize the original customers by offering the product at a lower cost, gaining market share. This leads to the aggregated data becoming more valuable as it covers more customers. And this, of course, leads to the network effects and virtuous cycles that cause the ‘winner takes all’ cases in the SaaS world.
Concluding, digitalization disrupts companies as their leadership becomes too focused on product capabilities rather than customer needs. When a new technology or capability becomes available that allows for a novel way of addressing the real customer need, the company can easily be left behind as new entrants and more nimble incumbents meet the needs of a growing group of customers that transition from the old to the new way of addressing their real need. The solution: build a customer-focused company culture where asking the question whether the current product portfolio is the best way to meet the real customer needs is rewarded rather than punished.