For about twenty years, since its launch in the mid 1960s to the late 1980s, IBM's mainframe business - the S/360 family, later renamed S/370 - enjoyed a commanding position in the IT industry. So successful and profitable was the S/360 that in 1969 the US Justice Department filed an antitrust suit against IBM. In 1986, for example, IBM was the most profitable company in the Fortune 500, with more than 400,000 employees around the world.
Then everything changed. Rapid advances in microprocessor technologies in the late 1980s opened the door for new competitors to attack the mainframe with less expensive, client-server, UNIX and PC-based platforms. We knew what we had to do - transition the mainframes to exploit CMOS microprocessor technologies and introduce IBM's own client-server platforms. However, these new CMOS-based platforms, along with the software and services around them, commanded significantly lower profit margins than the mainframe margins to which we had become accustomed.
So we had to lower costs and expenses significantly, close factories, lay off people and take a number of additional, very painful actions in order to adapt to the new environment. By 1994, we had lost almost $16 billion in the previous three years, and our employee population had fallen to 220,000. A plan was initiated that was leading toward breaking up the company into a loose federation of baby blues. We were very close to ending IBM as a major company.
Welcome to Adam Smith's world.
Adam Smith, an 18th century Scottish philosopher and economist, is generally considered the father of free-market, free-trade capitalism. The seminal expression of those policies was An Inquiry into the Nature and Causes of the Wealth of Nations, published in 1776 and generally regarded as the first work of modern economics.
Smith introduced the famous metaphor of the invisible hand - "the free market, while appearing chaotic and unrestrained, is actually guided to produce the right results by this so-called invisible hand." It clearly applies to IBM’s situation. While we survived our near-death experience, most companies do not. Given enough time, it seems almost inevitable that in highly competitive industries like IT, companies, no matter how powerful their position, will get in trouble in the marketplace when the environment in which they once flourished changes significantly. They are victims of the invisible hand. Some will be able to reinvent themselves and overcome their troubles, but more often than not, their problems will prove lethal.
To a greater or lesser extent, every industry in the private sector goes through its own invisible hand struggles when its underlying technologies or markets change. This is never pretty. In the struggles to survive, some companies will even slip into the kind of malfeasance that we saw from Enron, WorldCom and other companies when the dot-com bubble burst.
Short of that, companies and even whole industries often go into a kind of denial, fighting light crazy against the inevitable changes bearing down upon them, instead of working on the innovations that would enable them to adjust. Some of this has been going on in the media, content and consumer electronic industries, as they transition from analog, proprietary technologies to digital, more open, standard technologies. As we know, for years, we had very different entertainment and communication devices in the home that did not interact with each other, and could only get content or communicate through their specialized, proprietary networks. You got TV from cable or satellite; music from radio and CDs; your phone could only be connected to the phone network, and so on.
An article that appeared around the time of the 2006 Consumer Electronics Show put it very succinctly: "The average American household now owns some 25 consumer electronics products - televisions and stereos and high-tech gimcracks of every imaginable flavor." It later added: "[The] battleground for things like who makes the biggest flat-screen TV with the highest-definition picture was, of course, in full force at the show. But it is now only one of two battlegrounds. The other - call it branded ubiquity - is about who controls the interaction between the consumer and that gadget and, more and more, all the gadgets in the house as they become interconnected."
Consumer electronics products are being built using common hardware components from the computer industry (e.g., microprocessors, memory, storage and so on), and most of their capabilities are now being designed as software. The drive toward open standards to link all the components in the home parallels what has been going on in IT for the last 10-15 years.
Then there is the emerging role of the Internet for digital media of all sorts. Media companies are all talking about their vision of the future digital convergence - the epic shift of electronic entertainment, information and communications to the Internet. The question is not whether digital convergence will happen - that's a given - but which of the many new ideas will take hold in the market, which companies will come out on top, and which will vanish as their business models and profit margins erode and new competitors pick off their customers with less expensive, more convenient offerings.
When industries are going through such epic shifts, a kind of reality gap opens up between those defending their turf and the way things have been, and those who want to shift into the new, emerging environments. In the late 1980s, we could not believe that our clients did not appreciate the obviously superior quality of our mainframes, compared to the flimsy new PC-based products others were bringing to market. As it turned out, customers did appreciate the difference. They left their more critical workloads on the mainframes, but started to put new, less demanding and less mission-critical applications on the much less expensive, good enough platforms. The markets were finding their own new balance - as markets are wont to do. But, in doing so, they do not care one iota about any individual company - just the health of the overall market. So, some companies flourish, and others decline and perhaps disappear.
A few months ago I participated in a meeting on media and content as part of IBM's 2007 Global Innovation Outlook initiative. We had executives from various media companies and subject matter experts from academia, as we usually do in GIO meetings. But in this particular meeting, for the first time, in addition to adult thought leaders we invited younger people - students, some in college, some in graduate school. As you can imagine, media executives were very concerned with protecting their content, revenues and profit, and the value of their brand as they embrace the new technologies and business models. But the students - brought up on the Web, instant messaging, social networks and massively multiplayer online games - saw things differently and had little sympathy for the struggles of the media companies. What the media companies call piracy, the students often referred to as sharing.
Companies whose industries are getting restructured by technological and market forces in front of their eyes - as seems to be happening in just about every industry to a greater or lesser degree - must be flexible and adapt or else face extinction. This is very, very hard. Business models drastically change - as happened to us in IBM in the 1980s and is happening to music companies now. The culture, brand and values of companies get stretched to the limit in such times of crisis. Often, when stretched too far, they break.
If it is your own company fighting to survive, it can be an emotionally painful experience – as I can personally attest. But, if you can be dispassionate and watch the struggles from afar, it is truly fascinating to see how the invisible hand deals with companies fighting to survive in a rapidly changing marketplace, as they explore how to develop innovative new products and services, restructure their business models and re-position their brands. Like spectator sports at their best, the outcome is far from clear. The unpredictability of free markets is one of the most intriguing aspects of Adam Smith's world.