Is There a Future for Vertical Integration in the End Markets IoT Value and Supply Chain?

Vertical integration can be defined as one company or vendor owning and controlling assets across the entire, or at least a large part of, the value chain, including connectivity, hardware, software, analytics, and other capabilities in a specific market or industry, hereby establishing a dominant position by tightly controlling and owning the customer experience.

Many large technology suppliers, from semiconductor vendors to carriers, network infrastructure providers, and Original Equipment Manufacturers (OEMs), are considering climbing up (or down) the value chain to control a larger portion of the Internet of Things (IoT) revenue opportunity, which is increasingly moving toward analytics, security, and end market services. This is informed by saturating growth and decreasing margins on commoditizing connectivity services and hardware components. One possible strategy to accomplish this is to acquire companies and assets across the entire value chain, offering end-to-end solutions and services while at the same time locking in customer ownership by adopting the service provider role. However, customer ownership is very tenuous as can be learned from past failures. Alternatively, but more rarely, these vendors can develop capabilities in-house.

Examples include Verizon Wireless, a carrier having spent billions of dollars over the past years to acquire fleet telematics and smart cities assets like smart kiosks and smart lighting platform capabilities. Nokia has started to offer services directly to the end user in verticals like mining. DT offers real-time parking information infrastructure and Park and Joy service to cities. Vodaphone has adopted a similar strategy as evidenced by the launch of the V IoT platform and products. In many cases these vertically integrated approaches are based on proprietary technology. Benefits of controlling the entire value chain include better software/hardware integration, optimized end-to-end security, and advanced customization. But this comes at the price of higher costs, delayed time to market, and reduced flexibility.

At the same time, many other suppliers are engaging in wider coalitions, partnerships, commercial agreements, and loose ecosystem cooperation frameworks to further their cause collectively, still competing on the service level but joining forces on underlying enabling technology. This often coincides with the adoption of open platforms, open source approaches, and open data policies and market place approaches. These paradigms allow vendors to capitalize on the leadership image and visionaries’ perception while taking advantage of the flexibility of interoperable, vendor-agnostic approaches in terms of cost and time to market.

As an aside, it is interesting to look at an analogy in the consumer smartphone market where Apple stands for vertical hardware/software integration, while Google’s open source Android is the heart around which a large ecosystem of OEMs and application developers is orchestrated, not just in mobile but also in smart home and automotive. While many have predicted the downfall of Apple’s model years ago, it has been upheld remarkably long, maintaining brand-fueled premium pricing levels to this day. However, Apple’s approach might yet be getting ready for a reality check, with its stock price recently dropping spectacularly due to mounting component supply chain concerns about stagnating iPhone demand with sales of Apple’s new models continuing to disappoint.

At the same time, the Android ecosystem solidifies its dominant position, with a scale at least twice that of Apple (2+ billion Android users versus 1 billion iOS users). Android fuels a large and expanding ecosystem of OEMs with newcomers from China but also Nokia coming back to the game, offering a plethora of options to consumers in terms of performance, price levels, screen sizes, battery life, user interfaces, modularity, and expansion capabilities. It is hard to imagine Apple continuing to compete against this collective force of technology giants, however loyal its fan base might be. One possible outcome would be for Apple to open up iOS to third parties, a very unlikely scenario, going against its very DNA. Dropping prices will also be hard as Apple’s economies of scale will not be able to (continue to) match those of the competitive Android ecosystem. In any case, it increasingly looks like Apple’s decade of money printing since the launch of the first iPhone in 2007 might yet be coming to an end. It remains to be seen if it will be able to reinvent itself yet again.

However, Google/Alphabet has dabbled in vertical integration as well, with its own Pixel phone brand or the acquisition of smart thermostat vendor Nest. This should only be seen as a secondary play next to its primary open ecosystem strategy. Nevertheless, having some presence in hardware allows Google to create an (early) hardware-capable playing field for its software and platform innovations.

The other elephant in the room, Microsoft, seemingly continues to hover between vertical integration and its role as horizontal software and platform provider, moving in and out of the smartphone hardware business while at the same time successfully launching its hybrid laptop/tablet Surface brand, borrowing quite a few tricks from Apple. And of course its Windows 10 and Office suite can hardly be called an open platform ecosystem as they continue to enjoy monopolistic market shares. Regardless, Microsoft has turned a page, and now manages an attractive portfolio of services and platforms leveraging its software, cloud, IoT, Artificial Intelligence (AI), and voice assets, mostly staying away from vertical integration in segments like smart cities and automotive.

While some of the largest Information and Communication Technology (ICT) suppliers continue pursuing vertical integration strategies, these approaches should increasingly be seen as exceptions and isolated initiatives, notwithstanding some rare, temporary success cases, amid a wider IoT environment moving toward collaborative models based on open-ended, standards-based, and open source approaches and market places. In a way, vertical integration is diametrically opposed to this and will turn out to look increasingly futile and irrelevant. In the future, no single brand or supplier will be able to control and manage end-to-end value and supply chains in an IoT and smart cities environment that will become exponentially complex, both from a business and a technology perspective, due to very specific capabilities linked to AI, cyber security, and niche requirements. However, old habits do not die easily, and it remains to be seen if some of the giants will be able to resist the temptation of value chain control and ownership.

Vendors and suppliers should heed the advice of not ignoring the wider transformations that are reshaping value chains and ecosystems. Leading the way in exploring new collaborative business models is going to be critical to acquire early competitive advantages.