Original author: Scott Duke Kominers, Liang Wu
Original translation: Luffy, Foresight News
Competitive strategy (the art of developing and executing plans to gain an advantageous position in the market) is an integral part of any business, especially for platforms, as it determines their ability to achieve network effects and scale. But Web3 fundamentally changes the relationship between competition and collaboration, and companies need to rethink the way they build market position, achieve network effects, and capture value.
One of the best-known ways of thinking about strategy is the Five Forces Framework, which was developed by Harvard Business School professor Michael Porter in 1979 to help map the competitive landscape of an industry and explain where a company’s defensible advantages lie.
How might these five forces differ in the context of Web3? In particular, how might Web3 technologies and mechanisms change the way platform entrepreneurs think about competitive strategy?
In short: competition in Web3 is likely to be more intense along all the different dimensions reflected by the five forces. But the same factors that make Web3 competition challenging also provide opportunities to expand overall market share. A bigger pie means that even if any one company takes a smaller piece, it can still capture a larger market than with traditional platform business models. This helps explain the logic of the fundamental ethos of Web3: working together to make the pie bigger for everyone.
A Quick Introduction to the Five Forces Framework
As the name suggests, Porters Five Forces Framework identifies five forces that drive the competitive dynamics of an industry.
First, the company faces threats from existing competitors:
Force #1: The intensity of competition and the landscape of companies competing in the market.
In addition, the company faces threats from new or potential competitors:
Force #2: The threat of new entrants, the potential for new companies to enter the market and compete with your company.
Force #3: Threat of Substitutes: There is a possibility that alternative products or services will replace yours.
Finally, a companys competitive position is also affected by the relative market positions of its suppliers and customers:
Force #4: Bargaining Power of Suppliers: The ability of suppliers to influence prices and supply conditions.
Power #5: Bargaining power of customers. The ability of customers (or users) to influence prices and terms of sale.
These five forces are typically described horizontally, with the challenges of new entrants and substitutes reflecting competition across the industry, and vertically, with the pressure from suppliers and customers reflecting the competitive dynamics upstream and downstream of the value chain.
Impact on competitive advantage
The five forces help us understand the defensibility of businesses in a particular market or industry, and in particular the extent to which a business may be able to capture value. If an industry is characterized by significant competitive threats in one or more of the five forces framework, then companies in that industry may experience challenges.
Tactically, the framework also helps us identify and reason about what Porter calls competitive advantage: a sustainable source of differentiation relative to competitors. For example, a company might differentiate through specialized technology that provides a quality or cost advantage, or through economies of scale that grant its suppliers more favorable terms.
Crucially, competitive advantage is not absolute. Rather, it is relative to other companies in the industry. Thus, changes in the five forces can affect a company’s competitive advantage and defensibility. For example, the rise of e-commerce in the apparel and retail markets (which are new entrants and sources of substitute products to traditional retail, the second and third of the five forces) has weakened the competitive advantage of brick-and-mortar retailers in local markets. Similarly, the scale of social media platforms like Facebook enables them to lock in users through high switching costs, thereby reducing their overall bargaining power (in this case, users are their buyers, the fifth force).
Revisiting the Five Forces of Web3
Web3’s innovations through decentralized networks, open protocols, and shared ownership intensify competition across all five forces, disrupting many typical sources of competitive advantage.
The open development of public blockchains can make it easier for new companies to enter specific markets, thereby increasing the threat of new entrants (the second force). In Web2 platforms, the underlying software and control of network data have historically been a source of competitive advantage. For example, X (aka Twitter) has closed its product codebase and user data to competitors, and has even recently strictly restricted access to its API. In order to build a fully competing product, a new entrant would have to recreate a similar codebase and recreate the platform’s social graph.
In contrast, in the open source world of Web3, new entrants can leverage established networks of users and content, as well as existing protocols and codebases. New entrants or existing competitors can use on-chain data to identify and recruit a platform’s top customers (a strategy colloquially known as a “vampire attack”). This increases the threat of new entrants (the second force) and also intensifies competition among existing companies (the first force).
Likewise, composability and the possibility of protocol forks both enhance the threat of substitutes (force #3). Entrepreneurs can take another platform’s open source code and then build an entirely new product by adding additional features and mechanisms that may meet user needs better than the original product.
Meanwhile, in Web3 applications, users and other stakeholders (e.g., content creators) are often given direct ownership of their data and other digital assets, and these assets are often portable and interoperable across platforms, which can greatly enhance the bargaining power of users and stakeholders (the fifth and fourth forces, respectively). For example, in Web2 multi-party platforms like Fiverr, users and ecosystem stakeholders (e.g., creators) are often subject to lock-in effects, meaning they must accept the platform’s policies or give up their data, reputation, and history. In contrast, in Web3, dissatisfied users or creators can easily transfer their data and reputation to a competing platform.
Competitive Advantages and Opportunities in Web3
The preceding analysis seems to paint a bleak picture of trying to establish a sustainable competitive advantage in Web3. Relative to Web2, competition in Web3 is likely to be more intense in all aspects. Customers and suppliers can switch platforms more easily, and both existing competitors and new entrants can use on-chain data to bootstrap protocols and networks to quickly reach quality levels comparable to incumbents. This puts tremendous pressure on platforms to deliver value and may make value capture more difficult.
But the situation is not as hopeless as it may seem at first glance. What makes competition difficult in Web3 also provides an opportunity to scale up value creation by incentivizing user contributions. At least in principle, this leads to a bigger pie. In this way, taking a smaller share can still get a larger share than in the traditional model.
While competition is intensifying across all five forces, Web3 offers additional sources of competitive advantage that align with the open and decentralized nature of the technology: composability and community cohesion. These forces are not entirely new, but they are more pronounced in Web3.
Composability
In Web3, almost everything is composable. As with classic open source software frameworks, companies can embed their protocols or assets into many other systems and business processes to establish competitive advantages. The more a protocol becomes an established standard, the greater its contribution to the value of the network, and the harder it is for competitors to fork or bypass it.
Think of it this way: if you invent a “Lego block” that a lot of people want to build on top of, the ubiquity of that block can serve as a competitive advantage and enable value capture. There’s even a sense of power in layered embedding, reminiscent of how blockchain records are more secure the longer they last. If protocol A is used as a component of protocol B, and B is then used as a component of protocol C, then A’s position in the network is strengthened because if C wants to eliminate its dependency on A, it must also eliminate its dependency on B. The same is true for digital assets. Once a given token becomes associated with a range of different applications, it’s difficult for newcomers to displace it.
Community cohesion
Web3 also facilitates the process of individual user participation in a company’s ecosystem. Blockchain-enabled digital ownership can incentivize users to build relationships with specific brands or platforms, and the strength of this effect can be a powerful source of competitive advantage. When users prefer to use a particular platform and have a vested incentive to contribute to its success, they may choose to stay with that platform even if they can switch. Conversely, with a strong, cohesive community, users will often actively contribute to a platform’s ecosystem, improving its value proposition relative to competitors.
Summarize
The key components of Porter’s Five Forces framework remain the same in Web3, just as they do in Web2 and the offline world. In fact, competition in these areas may be even more intense. However, the path to value creation in Web3 is not a zero-sum game.
In Web2, it was a zero-sum game where platforms entrenched themselves at the expense of another. In contrast, Web3 presents an alternative competitive landscape, one focused on building collaboratively. Composability and community cohesion create a dynamic that can seem strange, at least to those striving for sustainable competitive advantage in other environments. The path to value creation is more positive-sum. A Web3 project can only become a composable project if it creates something useful, and community cohesion, by definition, can only happen if users want to contribute to the underlying projects and platforms.
The spirit of Web3 — despite the fierce competition in this space — must work together to make the pie bigger for everyone. While the five forces depict a tug-of-war, Web3 looks more like a network model driven by collaboration.
