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Business and Marketing The market is the final judge of a f~'s caliber-its ability to manage its capital and human resources to develop and produce goods and services tailored to the preferences of consumers and the competitiveness of an industry reflects the capabilities of its constituent firms. In growing industries, innova- tion can be a prime determinant of marketing success. As an industry matures, however, manufacturing efficiency, sales, marketing, and other factors become the critical ingredients of competitiveness. "In many cases," observed Lawrence Tester of Apple Computer, "we lost our competitive edge not because of technology, but because of better management and smarter strategy." "Increasingly, market success depends on early product introduction to deter- mine customer requirements," observed William J. Spencer of Xerox. "The lessons learned from selling and servicing your own product and watching com- petitors must be quickly incorporated into product changes that meet market needs. The high content of electronics and software in current and future sys- tems will lead to ever more rapid introduction of new products and an increased requirement to respond in shorter times to market needs." Spencer added that, unfortunately, many of the now-essential attributes for competing in domestic and global markets "listening to customers, learning from the market, and quick reactions"-are "not the hallmarks of U.S. corpora- tions." The consequences of this deficiency can be "loss of market share, lower revenues and profits, and an inability to support long-term initiatives, including R&D in U.S. corporations." Colloquium participants focused on the causes and symptoms of flagging competitiveness in important computer sector industries. Like Spencer, many 50

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B USINESS AND MARKETING 51 saw overarching problems, difficulties spanning many parts of the U.S. econo- my but perhaps imposing an especially heavy toll on the research-intensive computer sector. For example, John L. Doyle of Hewlett Packard advised his business counterparts, as well as government officials, to heed the findings of the President's Commission on Industrial Competitiveness.l That body found, Doyle said, "four causes of U.S. industrial decline: failure to develop human resources as well as our competition, inadequate incentives for saving and investment, trade policies that failed to recognize global reality, and a slowness in the commercialization of new technology." Of overriding concern to individ- ual fans, he suggested, is the failure of many to integrate manufacturing with development. "It has been said that the manufacturing industry has passed through three phases, pursuing efficiency, quality, flexibility, and now innovation," Doyle said. "But these are not alternatives. They are cumulative, and competitiveness demands improvements in all four." Discussions at the colloquium focused on several key problems that, if uncorrected, will continue to hamper the performance of individual firms and the computer sector as a whole. ISOLATING THE ISSUES Technology Management and Transfer Success, says an adage, has many owners. This timeless insight has taken an ironic twist in the computer sector. U.S. enterprises, sometimes building on research performed at the nation's universities, have spawned many commer- cially successful innovations. Innovative firms may receive proper acknowl- edgment for their path-breaking efforts, but, too often, foreign companies have claimed the commercial rewards of invention. A growing body of business literature has documented the failure of U.S. firms to capitalize on innovations that later proved tremendously successful in foreign-manufactured consumer products. Among the many legendary exam- ples is the Japanese dominance of global markets for video recorders, invented by the Ampex Corporation in 1956. Through the 1960s, the California firm claimed a 70 percent share of the world market for video recording technology. Then came the video cassette recorder (VCR), an industrywide, standardized format that suddenly eclipsed Ampex's proprietary format and attracted many competitors. "ETlhe basis of competition quickly became manufacturing and the ability to move quickly through the design cycle," recounted Richard S. Rosenbloom, professor at Harvard's Graduate School of Business Administration. "What had been a six-year product life cycle collapsed to six months. Ampex never devel- oped the skills needed to compete in that kind of business, never anticipated that

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52 KEEPING THE U.S. COMPUTER INDUSTRY COMPETITIVE its business could come that way, and found itself very quickly limited to a nar- row and shrinking niche in an industry that it created and which expanded a hundredfold as a result of its technology." Obviously, VCRs are not computers, although the technological similarities between the two are increasing. Nevertheless, the problems that confounded Ampex are not unique to VCRs, or even to the broader consumer electronics industry, Rosenbloom maintained. "I think that is a story," he said, "that can happen throughout the information products industries to companies that are banking on sustaining proprietary positions and banking on a set of skills that have served them well to date but that are not guaranteed to serve them in the future." Addressing the same issue from a different angle, Rosenbloom noted that some of the largest businesses in the computer sector have failed in major efforts to diversify into new markets. IBM's venture into telecommunications, AT&T's move into the merchant market for memory chips, and Xerox's attempt to branch into workstation production failed to fulfill expectations for reasons other than a lack of technological expertise, Rosenbloom suggested. "They had no trouble grasping intellectually the science and technology of those new busi- nesses," he explained, "but somewhere they lacked the industrial capacity to establish a competitive advantage in a marketplace that called for something different from what they were offering." "There is more than random error here," he said. The direct causes of the "persistent failure of leading firms to adopt new technology that has later proven astonishingly important to the industry" remain elusive, according to Rosenbloom. He speculated that part of the problem may be endemic to the American style of management and perhaps to the way managers are educated and trained. But remedies will not be forthcoming until the problem is thor- oughly understood, he maintained. '`There is something systematically vulnera- ble about the way American companies have built positions in industrial mar- kets and have tried to sustain their dominance in those markets," Rosenbloom said. Clues may come from tracing the often-fragmented lineage of commercially valuable technologies. James H. Morris of Carnegie Mellon University described the evolution of the user-friendly human interface embodied in Apples highly successful family of Macintosh computers. Like many other innovations, it originated in an organization that can lay claim to many of the technological advances that underlie successful products, but the innovating firm did not guide the technology to commercial fruition. Morris traced the roots of the successful user interface, which is character- ized by a bit-map display, a pointing device (`'mouse") for guiding the cursor, and screen `'windows," to federally funded research conducted at the Stanford Research Institute (now SRI International) during the late 1960s. A collabora- tive project between SRI and the Xerox Palo Alto Research Center essentially .,

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BUSINESS AlID MARKETING 53 transferred the technology to Xerox Corp., which continued the effort and drew on programming developments in Europe and at U.S. universities. Many of the embryonic components of the user interface technology were embodied in Xerox's experimental ALTO computer of the early 1970s. Eventually, the com- pany introduced the Xerox 8010 Star System, the first commercial product to feature the interface that is now used in virtually all computer workstations (see Figure 5.1~. The Star System represented a major advance in commercial technology, according to Morris, who was involved in the product's development, but it was too expensive. "We didn't think about marketing and the cost of these things," said Morris. He attributed this "marketing myopia" to most of the staff's previ- ous experience in research funded by the Department of Defense, where cost considerations often do not enter into evaluations of a system's performance. Through circuitous events, the approach pioneered at Xerox was eventually perfected at Apple, but success was not immecliate. The Lisa computer, Apple's Logo MIT Simula- Oslo 1967 SUN - Stanford 1980 SUN Microsystems 1982 NLS - SRI 1970 Smalltalk & ALTO - Xerox 1 974 ma\ \ Star- Xerox 1981 \ 1 / Lisa - Apple 1983 Macintosh - Apple 1984 ~ DAR PA Apple 11 1 978 FIGURE 5.1 Key technology transfer paths leading to the Macintosh series of comput- ers. SOURCE: Courtesy of James Morris, Carnegie Mellon University, 1989.

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54 KEEPING THE U.S. COMPUTER INDUSTRY COMPETITIVE first product with the advanced human interface, did not win many customers, but a subsequent introduction, the Macintosh, has helped the company secure a significant share of the global market for personal computers. Morris's examination of failed attempts to transfer technology internally yielded several common themes. Contrary to conventional thinking, Morris explained, many commercially successful ideas-at least in the software indus- try did not originate with small start-up firms, but rather they were the off- spring of "rather large research investments made by rather big companies." Start-up firms, however, often succeeded where established fens failed: They developed good ideas into cost-effective products. Morris speculated that large firms may fail to capitalize on promising inno- vations because their attention is divided among many product lines. As a result, they may overlook a line of research that is ripe for development; in con- trast, a small firm that seizes a good idea concentrates almost entirely on devel- oping the innovation. Perhaps that is why technology transfers between firms what Morris called "hostile transfers" are more successful than those that are attempted internally. Moreover, a firm that capitalizes on an innovation pioneered elsewhere is not limited to using an idea in its original form. "If somebody is taking something without permission," Morris said, "they are free to pick and choose what they take and don't take." The same may apply to foreign firms that capitalize on research developments pioneered in the United States. Their selections and adoptions of U.S. technologies are likely to be guided by marketing considera- tions that innovating firms fail to recognize, according to Morris. To the benefit of the U.S. computer sector, greater emphasis on cooperative research could promote technology transfer in the United States, Morris sug- gested; "intermixing" of organizations and technologists appears to facilitate the kind of "creative technology transfer" that U.S. firms have found so difficult to do internally. In addition, with Japan and other nations challenging or overtak- ing U.S. leadership in key areas of technology, U.S. Foss should broaden their purview of science and engineering research, Morris advised. U.S. fines should be just as quick to exploit commercially promising innovations that originate overseas as foreign firms are to capitalize on the results of research done in the United States. "In some sense," Morris observed, "grabbing something from another country . . . is a more powerful and better thing to do." John Doyle of Hewlett Packard was even more direct "I believe that not legally using good ideas from our competitive products is improvident." Harnessing Complementary Assets Even if firms master the complexities of innovation and technology transfer, there is no guarantee that they will succeed in the market. ''EMlany of the ideas

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BUSINESS AlVD hIARKEIING 55 and products-once introduced to the market and, often, before they are intro- duced are essentially available to everyone," explained David J. Teece of the University of California at Berkeley. 'They can be reverse engineered, they can be improved upon, and so forth." Unless an innovative firm controls or has access to all the necessary "com- plementary assets," Teece said, such as specialized manufacturing capabilities and well-developed distribution and marketing channels, it will not realize the commercial benefits of its R&D accomplishments. Instead, those benefits will flow to "imitator" or "follow-up" firms that have harnessed these complemen- tary capabilities, Teece explained. Much of the success of Japanese firms in global markets can be attributed to their mastery of the competitive elements that support the commercialization of innovations. Design cycles and the time needed to develop manufacturing pro- ficiency for a new product are often faster in Japan than in the United States. "Therefore, fJapanese firms] can take what is best out there in the world stock of knowledge and bring it into the market ahead of the competition and take a good chunk of the market," Teece said. Given the success of this approach, it is not surprising that Japanese firms invest the bulk of their R&D dollars in process improvements. The attention to process extends even to the processes of research and development. The pene- tration of supercomputing, for example, into electronics and automotive R&D in Japan suggests a Japanese advantage in applying advanced tools to improve design innovation, reduce production time, and improve quality. In the United States, firms tend to allocate most of their R&D dollars to developing new prod- ucts. If U.S. firms do not devote more resources to developing manufacturing competence and other complementary capabilities, continued investment in product-oriented research could be self~efeating because results will quickly be transferred to competitors, Teece maintained. If a firm innovates, it must "simultaneously be in a position" to commercialize the innovation, he observed. The integrated structure of Japanese firms and industries facilitates rapid product introduction because it facilitates the harnessing of complementary assets. For example, many of Japan's electronics firms manufacture semicon- ductors and other components as well as the computers and other products that use such devices. In addition, these firms often have partial-equity shares in companies that produce needed specialized assets, such as semiconductor-man- ufacturing equipment. Moreover, competing firms develop relationships to address issues of mutual concern. Most firms in the U.S. computer sector control few of the specialized com- plementary capabilities that Teece believes are necessary for competing in glob- al markets. This may reflect, in part, a lack of vertical integration. In the United States, IBM may be the only computer sector firm that has achieved levels of integration comparable to those of the larger Japanese electronic firms. It is

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56 KEEPING THE U.S. COMPUTER INDUSTRY COMPETITIVE hardly self-suff~cient, however. Recognition of that fact may explain why IBM has assumed a leading role in forging cooperative relationships among U.S. hardware manufacturers. Teece argued further that the computer sector as a whole is losing comple- mentary capabilities. As the sector's domestic infrastructure of materials, com- ponent, and equipment suppliers erodes, its ability to compete will also deterio- rate, even if U.S. firms continue to be prodigious sources of innovations. This point was also noted by Yale's Perlis, who observed that "the thing that we seem to be losing to the Japanese is the infrastructure that is most important. It is nice that IBM can make everything from 'A to Z' and that other companies exist. What is most important is that, when they look around for some activity, technique, [or] equipment that they need to fulfill an idea to produce something worthwhile, it will not be there. They will have to spend large amounts of time, funds, and energy to gather what should have been around the corner." In his writings, Teece has disputed the "notion that the United States can adopt a 'designer role' in international commerce while letting independent firms in countries such as Japan, [South] Korea, Taiwan, or Mexico do the man- ufacturing."2 In the long run, he believes, the majority of benefits will flow to the firms that make the products rather than to the companies that supply designs or other knowledge-based, intangible assets "whose true performance features are difficult to predict." A somewhat different view was offered by Joel Birnbaum, vice president and general manager of Hewlett Packard's information architecture group. If a firm buys components from foreign suppliers, he contended, it still can succeed in designing and marketing systems. Birnbaum used Hewlett Packard's popular Laser Jet printer as an example, which was also cited earlier in the colloquium by another speaker, of how U.S. firms are becoming increasingly reliant on for- eign manufacturers of components. "We buy the print mechanism from Canon, but we did a much better job than they did of figuring out what goes around it, the page definition formats, how to service it, how to document it, how to pack- age it, how to market it, and how to manufacture the entire product." The result is a high value-added product, one with annual sales exceeding $1 billion. According to Birnbaum, standardization accommodates the development of value-added products and services, allowing firms to use the best components the international market has to offer and to sell their products throughout the world. Complementary capabilities will become especially critical as more comput- er products evolve into commodity products, as many at the colloquium predict- ed. In commodity markets, Teece said, "manufacturing matters. That is where marketing matters. That is where many other things [besides innovation] mat- ter. So, while one cannot in general say that manufacturing always matters, I think it matters in this industry, . . . where one doesn't have good intellectual property protection." Strengthening international intellectual property laws

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BUSINESS AND MARKETING 57 would benefit innovative firms, he added, but there are "inherent limits" to safe- guards that might be extended to intellectual property. An Argument for Cooperation The importance of complementary assets suggests that a promising avenue to maintaining a competitive U.S. computer sector is cooperation. Cooperation between manufacturers and suppliers arid even between competitors can effect a sharing of some complementary assets. Recognizing this possibility, many U.S. enterprises have turned to foreign firms, allowing their technologies to be licensed in exchange for manufacturing expertise and capital. But failure to cooperate and to make necessary assets available domestically results in tactical decisions that benefit individual firms but may eventually harm the entire sec- tor. Thus, as the international push for standardization grows and as computers come to resemble consumer commodities, "cooperation becomes increasingly important," facilitating the strategic thinking and investments that were absent during Japan's rise to dominance in DRAM production, Teece maintained. Changes in management styles and in policies governing the structure of U.S. industry will be needed to achieve the levels of cooperation that global competi- tion demands, he added. For example, perceptions about the constraints result- ing from antitrust laws may discourage cooperation, although the laws actually allow a wide range of mergers, joint ventures, and so on. Teece also stressed the importance of integrating science policy and technol- ogy policy, which now overlap only slightly. "If you don't connect the develop- ment of scientific capability with technological capability, there won't be too many national benefits," he said. According to computer sector representatives, that link must extend to the federal research laboratories. Several criticized the paucity of commercially relevant technologies that have been generated by the laboratories. To date, argued Hewlett Packard's Doyle, the returns from research conducted at the more than 700 tax-payer-supported facilities have not been commensurate with the nation's annual investment of about $20 billion. Managerial Incentives and Short Time Horizons United States business as a whole is consistently criticized as being myopic, focusing on short-term gains at the expense of long-term competitiveness. The computer sector is no exception, according to colloquium participants Nor has it escaped the consequences of this short-term outlook that are most evident, perhaps, in the deterioration of the manufacturing base. But is there a single, fundamental cause of the problem? The list of detri- mental influences includes the federal budget deficit, tax policies that encourage consumer spending over saving, stockholders' expectations for immediate

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58 KEEPING THE U.S. COMPUTER INDUSTRY COMP=~WE returns on their investments, managers' emphasis on high quarterly and annual profits and neglect of investments in equipment and R&D projects that are criti- cal not to next year's profit statement but to their firms' performance three or more years down the road. Perhaps, as several studies have suggested, this ten- dency to risk the future for short-term gain reflects, in part, attitudes imparted during managers' educational training. All of these factors, and probably others, contribute to the short time hori- zons of U.S. firms. Sorting through the list and assigning the proportion of blame attributable to each factor diverts attention from the critical task of addressing the problem in all areas. As colloquium participants noted, the issue is clearly recognized as one directly affecting the health of the entire computer industry. Each responsible party, from the federal government to individual firms, must act, participants emphasized. Otherwise, U.S. firms will continue "to optimize locally," not globally, and foreign companies that act on the basis of long-term, strategic interests will continue to gain in markets. At the level of the individual firm, both Ferguson and Teece recommended evaluating the incentives that guide management decisions. For example, the short-term emphasis of U.S. managers, Teece suggested, "may be due to the fact that their incentive structure is weighted, in some cases at least, too heavily in favor of salary and not enough in terms of stock." Learning from Failure and Responding to the Market Interpreting the results of his own studies and that of other researchers, MIT's Ferguson described the emergence of an approach to manufacturing man- agement that is now well established in Japan, is currently being adopted in South Korea and Taiwan, but is uncommon in the United States. The hallmarks of the approach are short design cycles due to the partial sharing of different product designs, close coordination between design and manufacturing, and a very flexible manufacturing system. One attribute of the Japanese system is that it accommodates failure, several speakers noted. "In the VCR story," said Harvard's Rosenbloom, "there were three generations of VCRs that the Japanese, particularly Sony, introduced before they finally got to the one that worked, and each time they learned some things that were very important in developing the next generation." "Failure," he added, "is an inherent part of learning, which is an inherent part of innova- tion." Doyle pointed out, however, that the consequences of introducing a poorly received product differ among markets. In contrast to commodity consumer electronic goods, high-cost products for business customers leave little margin for error. For now, design and development cycles for business computer sys- tems, Doyle suggested, must be longer than those for consumer products. However, he added, "the trouble is that industrial marketing fappears] to be

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BUSINESS AND MARKETING 59 moving closer to consumer marketing." Rapid product development could become more important, placing U.S. firms at a disadvantage. The Role of Small Entrepreneurial Firms Small entrepreneurial firms have been popularly associated with the vitality of the U.S. computer sector. To their credit, they have been the wellspring of many of the innovations that have paced the technological and market advances of computer-related products. However, recent competitive shifts have brought to light the limitations of smaller firms and the consequences of assuming that their strengths will preserve the interests of domestic industries overall. In retrospect, for example, start-up semiconductor firms appear to have destabilized the industry and have lacked the resources to continue developing the manufacturing expertise necessary to stave off the challenges of better- financed and better-organized Japanese competitors.3 Had the U.S. semicon- ductor industry undergone consolidation, the argument continues, the resultant vertically integrated firms would have been in a strategic position to meet the competitive challenge. The history of the semiconductor industry also supports a contrary view: Large U.S. forms may not be dynamic enough to compete in the rapidly chang- ing industry. Many conglomerates and large U.S. electronics firms did diversify into semiconductor manufacturing, but most eventually withdrew. IBM is the most notable exception. Looking at the computer sector more broadly, there is the problem, previously noted, of an inability of large funs to capitalize quickly on innovation. As Carnegie Mellon's Morris observed, while many innovations originated in large firms, their successful commercialization was often realized by small start-up companies (see above, "Technology Management arid Transfer" section of this chapter). These events present a quandary. "In the United States," Ferguson said, "there is the striking fact that a very disproportionate fraction of innovation and newness comes from small entrepreneurial firms." The phenomenon appears unique to the United States. "That is not the case in Japan or [South] Korea," Ferguson added. "Korean manufacturing is dominated by four vertically inte- grated, diversified industrial complexes. In Japan, eight firms account for most electronics production. The smallest of them thas annual revenues] of $10 bil- lion." Gordon Bell of Stardent Computer stressed the importance of small firms in computer manufacturing, arguing that productivity is "inversely proportional to size.... I have been in two start-ups, each with 50 engineers," he said, "and I assure you I could not have done those same projects in a large organization with 500 people. It would have taken twice as long, and the quality would not be the same." Colloquium participants did not dispute the firm-size dichotomy and its \

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60 KEEPING TlIE U.S. COMPUTER INDUSTRY COMPETITIVE apparent relationship to innovation. The general failure of large U.S. fobs to demonstrate the same speed in reacting to the market as their Asian counter- parts, several suggested, stems from management and organizational problems. Compared with companies that have flat management structures and only a few integrated divisions, hierarchically structured firms lack the cohesion and versa- tility needed to respond quickly to market opportunities. "I would argue," said William R. Hambrecht, president and co-chief execu- tive officer of the venture capital firm Hambrecht & Quist, "that the entre- preneurial young company has done a good job of competing . . . because [it] is usually the ultimate integrated business unit. It has representations from other functions, but they are all in one room." Also troubling to computer sector representatives was the apparently increas- ing prevalence of foreign investment in small high-technology companies. In exchange for needed capital and, perhaps, manufacturing expertise, these start- up firms are often licensing their technology to foreign firms, which may later emerge as competitors. (It should be noted, however, that licensing arrange- ments may be the only option for entering a foreign market in which access is government controlled.) Foreign fops find the United States to be a very attractive place to shop for new ideas, Ferguson added. To underscore his point, Ferguson told of a Japanese firm that was setting up a holding company in the United States to invest in new technology in computer and other areas. The fog allocated $2 billion for this purpose, he noted. Unfortunately, established U.S. firms have been less receptive than their for- eign competitors to small firms seeking assistance to develop their ideas. One factor that may contribute to this reluctance is that pioneering new technologies entails risks. An established fog may forego the chance to make a technologi- cal leap, deciding instead to respond if and when an innovation proves commer- cially promising. Another factor may be the so-called "Arrow effect," which suggests that market-leading firms benefit by slowing the rate of technological advance.4 Hambrecht suggested that established U.S. firms have begun to change their views on entrepreneurial firms. In recent years, he said, large firms have demonstrated "growing acceptance . . . that entrepreneurial companies are good places to develop products" and look at them "less as threats and more as part- ners." CONSOLIDATION AHEAD? Venture capital provided much of the seed money that led to the U.S. com- puter sector's flush of growth during the 1970s and early 1980s, giving rise to such firms as Digital Equipment Corporation, Apple Computer, Microsoft, and Sun Microsystems. According to Hambrecht, the flurry of new company for

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BUSINESS AND MARKETING 61 mation is ebbing, and today's start-up firms will often face formidable obsta- cles. Much of the nation's estimated $40 billion pool of private venture capital has been invested in the computer sector, to the point of overstimulating entry of new companies, Hambrecht maintained (see Figure 5.2~. Returns to investors have fallen dramatically since the late 1970s, and the numerous new companies created with the influx of venture capital have made it increasingly difficult for today's start-up firms to carve out a market niche that offers the potential for above-average earnings growth. "[E]ven when we were right," Hambrecht explained, "even when we picked the right people in the right niche at the right time, and they Ethe start-up firms] executed well . . . they found a crowded landscape. . . instead of having a rea- sonably free run to exploit their product position, they were in a corporate dog- fight." With fewer apparent opportunities available to potential start-up firms, investors have soured on the computer sector and, according to Hambrecht, the sector may not regain its allure. One reason for this outlook is the shortened horizons of venture capital funds. En principle, venture capital is invested with the aim of long-term earnings growth. But increasingly, investors expect quick returns, and they have become more averse to risk. Fund managers are respond- ing in kind, Hambrecht added. In Hambrecht's view, the hardware-manufacturing industry has begun to mature, and forces of consolidation are already in evidence. Computer manu- facturing continues to outperform other parts of the economy, but annual rates of revenue growth in many segments of the industry are about half of what they were in the late 1970s. Moreover, costs of entry have soared, not only for equipment but also for setting up marketing channels and other components. Hambrecht noted that Intel began manufacturing semiconductors in 1968 with an initial investment of $3 million. Today, building and equipping a modern semiconductor plant would cost about $300 million. Another deterrent to starting new companies in the hardware industry is stan- dardization. Acknowledging the arguments for and against standardization, Hambrecht said his firm has decided that "standards are a way of life and stan- dards mean hardware becomes a commodity." Opportunities to develop com- puters that surpass standardized versions and gain market acceptance will be few, he predicted. Given these trends, formation of new companies will continue to slow, and intraindustry mergers "the strong buying the weak"- will increase, according to Hambrecht. In the short-term, consolidation will appear to promote greater efficiency in the industry, he explained, noting that a reduced flow of venture capital creates the need for more cooperation within an industry. Hambrecht also sounded a warning, however: As the entry of new firms decreases, estab- lished firms will slow their product development efforts to increase their

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BUSINESS AND MARKETING 63 returns. This situation, akin to the experiences of the U.S. automobile, textile, and consumer electronics industries, sets the stage for increased competition from foreign fimns, according to Harnbrecht. Hambrecht's outlook for the software industry is considerably brighter. Software innovation, he believes, is the key to "above-average profitability and the ability to build a duly successful business" although they do not now, investors will eventually recognize the growth potential of software development. NOTES 1. President's Commission on Industrial Competitiveness. Global Competition: The New Reality (Washington, D.C.: Government Printing Office, 1985~. David J. Teece. "Capturing Value from Technological Innovation: Integration, Strategic Partnering, and Licensing Decisions," in Technology and Global Industry, Bruce R. Guile and Harvey Brooks, eds. (Washington, D.C.: National Academy Press, 1987), pp. 91-92. 3. Dertonzos, Michael L., Richard K. Lester, Robert M. Solow, MIT Commission on Industrial Productivity. Made in America: Regaining the Productive Edge (Cambridge, Mass.: Mll' Press, 1989), p. 256. 4. As Kenneth Flamm explains the Arrow effect, "For the established leader, a new product may very well compete with its existing product lines in some markets. Profits on the new product are then partially offset by lost profits on other offerings. For a new entrant, there is no offsetting loss, and the perceived return to entry will be higher" (Kenneth Flamm, Creating the Computer, Washington, D.C.: Brookings Institution, 1988.. p. 227).