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Silicon Valley's Resurgence: Is It for Real?
Research
Compete or Cooperate?
Wharton professor's research shows that cooperation with big rivals is just as viable a strategy as competition for some start-ups.
People imagine markets as if they're the African savannah, with the animals competing fiercely for food and territory. But sometimes, the savannah — and the market — operates more subtly, with players cooperating.
Understanding what leads start-ups to choose cooperation over competition was the impetus for a recent study by David Hsu, an assistant professor of management at Wharton. Hsu's paper, "When Does Start-up Innovation Spur the Gale of Creative Destruction," was published in the RAND Journal of Economics.
Hsu and his co-authors — Joshua Gans at the University of Melbourne in Australia and Scott Stern at Northwestern University in Evanston, Illinois — found that the likelihood of start-ups cooperating with established companies depends upon three factors:
- the strength of the start-ups' intellectual property rights;
- whether they have relationships with intermediaries such as venture capitalists;
- whether their industry requires big investments in such areas as manufacturing and distribution. To draw their conclusions, they surveyed 118 technology start-ups.
Why does their analysis matter? Because it provides a more-nuanced view of the world of technology start-ups, arguably the most dynamic part of the modern economy. And it could help both start-ups and established players decide which strategy — cooperation or competition through new product introduction — makes the most sense for them.
Intellectual property rights take many forms, the most obvious being patents. A patent gives its owner the exclusive right to an invention for a specified period. Hsu and his co-authors found that start-ups with strong intellectual property rights favor cooperating over competing. "Firms with at least one project-related patent are more than twice as likely to cooperate relative to those with no patents," their paper says.
Patents protect start-ups from having their inventions stolen by incumbents. That, in turn, gives them greater leverage in negotiations. Negotiations often lead to cooperative relationships such as joint ventures and even acquisitions.
Of course, negotiating, like marriage, requires a partner, and finding the right one can make the difference between happiness and divorce. And start-ups aren't well-suited to find good partners. They tend to be small and thus stretched thin. What they need are matchmakers — that is, intermediaries such as venture capitalists, lawyers and accountants.
These intermediaries tend to specialize in particular industries, working mostly with, say, biotech or information-technology companies. As a result, they have a deep knowledge of the players in their industry — whether they're looking for partners and whether they can be trusted in negotiations. Likewise, they can vouch for the value of a start-up's innovation and the ability of its founders.
Hsu and his co-authors find that start-ups that work with intermediaries are more likely to choose cooperation over competition. Finally, they find that start-ups are less likely to cooperate if they have to sink a lot of money into gearing up to compete.
Put aside high tech for a moment and think about an old-line industry such as automotive manufacturing. A car plant is massive and costly. The owner has to invest hundreds of millions of dollars before producing the first car. Now imagine a start-up that has developed a new motor. Is it better off licensing its technology to an established car maker or trying to build its own plant from scratch?
The pharmaceutical industry operates in much the same way. Bringing a new drug to market takes about a decade. It requires hundreds of scientists and safety and efficacy tests that last years. Once federal regulators deem a drug safe and effective, the maker needs an army of sales people and a hefty marketing budget to reach out to doctors and their patients.
All of that suggests that big, established players have a hefty advantage in making and selling drugs. And they do. Trouble is, they haven't proved very good at developing new ones, at least not in the last decade. Little biotech start-ups have shown themselves more innovative, devising new drugs and techniques. And they've tended to license their inventions to big established players.
Perhaps not surprisingly then, Hsu and his co-authors find that "the probability of cooperation is highest in biotechnology."
What does all this mean if you're an entrepreneur with a company or a manager within a big, established firm? Ideally, it will help you pick the right path, cooperation or competition.
But as Hsu points
out, no formula fits all companies within an industry.
"Not all bio-techs earn their returns by partnering," he explains. "We're
not saying one thing is best for everyone. There's
variation in commercialization strategies. What we're
saying is, ‘This is the average behavior and
here are the drivers."
In other words, you don't have to choose cooperation if you're in biotech. But Hsu's analysis might help you weigh your choices and understand what others in your industry have done and why.
Likewise, if you're a manager in a big company charged with devising new products, you might find it more productive to seek out cooperative relationships with little start-ups than creating everything from scratch.
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