Thoughts on Disruption Theory

Just a quick list of my thoughts on Disruption Theory;

What does Disruption Theory predict?

This is very important. This is the “reason for existing” of any theory.

  1. Disruption theory is basically the prediction of how incumbents will react towards an entrant.
  2. Disruption theory predicts how incumbents will react. The prediction is based on an understanding of how attractive it will be for the incumbent to flee upmarket. That is, to abandon the low-end market and focus on the high-end. Incumbents will typically only flee up market if their business as a whole is not threatened in the short-term.
  3. If incumbents choose to react, and if the incumbents have huge resources relative to the entrant (which if generally the case), then incumbents are most likely to win.
  4. Conversely, if incumbents do not choose to react, the entrants will gain a foothold at the low-end of the market.
  5. If technological improvements and the profitability situation is favourable to the entrants, then they will progressively improve their product to the point that they will endanger, or even push out the incumbent.

So really, Disruption Theory does not directly predict success. It predicts how incumbents will respond, and it provides a general trajectory of how businesses will fare given their responses.

What is the predictive power of Disruption Theory?

The predictive power of Disruption Theory is similar to how the Newton’ Three Laws of Motion predict motion. If you are observing a curve ball thrown by a baseball pitcher, you need to consider Newton’s Three Laws, the Law of Gravity and aerodynamics. In particular, aerodynamics can be hard to predict and that is why we have air-tunnel experiment facilities (and no gravity testing experimental facilities). Disruption Theory is just one of these. Without good understanding of the other theories, the predictions of Disruption Theory will be inaccurate.

Furthermore, if the person applying the laws of physics to a curve ball does not know the speed of the ball, the angle to which it was thrown, the wind conditions, the rotation speed and more, then they will not be able to accurately determine its trajectory. This is despite the laws of physics being completely well known and defined.

Now the question is, is business more complicated or less complicated than a curve ball? If it is even comparatively as complicated as a curve ball, then it is reasonable to assume that even if Disruption Theory was 100% correct, we still wouldn’t be able to accurately predict the trajectory of a curve ball unless other laws were defined, and we knew detailed business conditions.

If you ask me, I’m convinced that business is more complicated than a curve ball.

Given the complication situation, the best we can hope from Disruption Theory is a probability percentage. This is like how we are given weather forecasts. Meteorologists don’t tell us exactly how the weather is going to be. They sometimes get it totally wrong. However, more often then not, they get it right and we are OK with that. Even despite the fact that the we fully understand the basic laws behind the weather, and have tons of data. It would be a monumental achievement if Disruption Theory ever reached the predictive power of a typical weather forecast. We can not reasonably expect more.

Faulting Disruption Theory because Christensen failed to accurately predict Apple’s fate, is like totally dismissing the basic laws behind the weather because a meteorologist made the wrong forecast once or twice. In short, it’s ridiculous.

Applying it to Uber

People in Silicon Valley seem to be very upset that Clayton Christensen said that their favourite company, Uber, was not “Disruptive” in his definition of the term.

Let me give my two-cents on the matter.

  1. I agree that Uber is not “Disruptive” in Christensen’s definition. It is clear that Uber is directly challenging the taxi industry, and that the taxi industry is motivated to respond. In particular, the taxi-industry is in no way fleeing upmarket.
  2. The consequence of not being “Disruptive” is simply that it will not follow the trajectory of what Christensen described. Incumbents will not flee upmarket and Uber will not drive them out through future improvements to its service.
  3. Whether Uber will ultimately succeed is a totally different matter. They are free to pursue their own trajectory. However, what Christensen described is a way for a weak entrant to overcome a powerful incumbent. Uber will not be able to leverage the power that the “Disruptive Trajectory” provides. It will not be able to succeed as a weak entrant. It has to become powerful, more powerful than the incumbents to succeed.
  4. Therefore, Uber will have to really on a brute-force approach. Fortunately, Venture Capitalists are happy to provide Uber with ample cash to spend on expansions and promotions. Uber as a result is able to use money-losing promotional tactics, something that the much smaller incumbents cannot. And clearly Uber seems too be compelled to use these tactics as they raise more and more money.
  5. An important point to note is that taxi companies are small all over the world. They operate very regionally, most often with a territory that covers only a few cities. Often, taxis are even self-employed. Taxis are also not a very profitable business, and hence taxi companies have not accumulated enough capital to spend on high-tech, let alone self-driving cars.
  6. Hence my understanding is that Uber is a Goliath entrant vs. the small incumbent Davids. Uber’s trajectory should be like how supermarkets obliterated mom & pop grocery stores. That is to say, you don’t need to know any kind of business theory, let alone “Disruption Theory” to see how it is going to end.
  7. Hence the real question for Uber is not whether it can push out taxis. Without any regulation, the answer is clear even without “Disruption Theory”. The question is will Uber be a sustainable business? Will it raise prices after venture capital runs out and there is no competition left? If they are forced to employ their drivers as employees and if they have to also pay for their driver’s cars, which is quite possible long term, can they still maintain current prices? If Uber becomes a monopoly, will they be any better than the regulated monopolies before them for both the drivers and the customers? I have serious doubts on this, and unless Uber discloses the sustainability of its business, commits to future low prices and the welfare of its drivers, I think that strictly regulating Uber makes a lot of sense. The last thing that you want is for Uber to kill your local taxi industry, and replace it with one which is just as expensive (potentially more) and where all the profits are funnelled to a Silicon Valley company far away. This is why we have anti-trust laws, for example, and this is why we regulate industries (like the public transport, mail, health and food industries) that directly affect the welfare of our citizens.
  8. Of course, there is discussion that Uber is more than just a taxi business. That it is a more general transportation/delivery service. This suggests that Uber does not compete only with taxis, but with busses, trains, subways, delivery trucks, Fedexes, Amazon drones, and more. Note the totally different economies regarding scale and costs, completely unattainable by people driving their private cars for Uber. Can Ubers compete with busses? Can Ubers compete with trains? Can Ubers compete with the Fedex delivery network? Can Ubers compete with Amazon drones? Can they ever be cheaper than these highly optimised systems, which use specialised vehicles but still aren’t too profitable to begin with? It’s easy to compare Ubers to taxis, but to the other businesses, not so much. It will be a much steeper challenge for Uber to disrupt these businesses, and even a phenomenally good mobile App is not likely to help much. Maybe it will work in regions with underdeveloped public transport infrastructure like California and some developing nations, but I don’t see it working like that in developed countries where auto lobbyists were not able to sabotage the development of public transport.

So in conclusion, Uber is definitely a threat to the taxi industry, but not because it is “Disruptive”. It is such a threat, probably just because it has the deepest pockets in the industry. It is a national supermarket network vs. a mom & pop store kind of battle.

  • Kenny

    I think you’re really on point when it comes to Uber except for the part when you seems to implied that opportunity follow capital when in fact it is the opposite,

    • Thank you for asking. It’s such are relief not being on Twitter, constrained to reply no more than 140-characters. 🙂

      There are two things to consider in my mind;

      1. Opportunity is speculative

      Opportunity is speculative and therefore there will be cases where perceived opportunity will be larger than actual. We do not yet know what Uber’s actual profitability will end up being in the end, after they stop their promotions/subsidies/incentives.There is a lot of speculation there. In particular, there is often the assumption that a sufficiently large number of people will forgo car ownership and instead use Ubers, thus vastly increasing the number of hired rides. This is speculative on two points: a) that they will truly forgo car ownership, b) that they will choose Uber over other forms of public transport.

      2. Uber is being valued on businesses it is not yet successful in

      Many people are quick to point out that the current Uber valuation is not based on its being a taxi company. They point out that Uber has the potential to be a) a general transportation company, b) disruptive to automobile manufacturers. At this point, Uber and/or the incumbent companies have not shown signs (at least in my view) that disruption will occur.

      More importantly though, posturing as something much larger than what you currently are (a taxi company) is something that the incumbents cannot do. Hence there is an asymmetry in the amount of venture capital Uber can raise vs. your local taxi company. If you prefer, you could also say that there is an asymmetry in the “opportunity” that Uber has vs. your local taxi company. Either way, the asymmetry of capital exists.

      UPDATE:

      Just to clarify, although I am personally skeptical of Uber’s valuation, this is not the point that I want to make here. I am totally fine with people investing money wherever they like, whether they make money or lose it.

      I am merely trying to point out that a huge asymmetry of capital alone can suffice to explain a lot of market upheavals. Although huge capital has traditionally been associated with incumbents, venture capital has changed the game. Startups can often become much, much larger in capital than established incumbents, especially if the industry was fragmented, and if they can paint a rosy picture for investors.

      In this sense, venture capital itself is hugely “disruptive”.

      • Kenny

        I see Uber, disrupt the taxi companies the same way Apple disrupted phone companies such as Nokia and the market they are creating is several times larger than that of the taxi, therefore they should not be look at through the lenses of usual disrupting theory, but I agree wih your take on this issue great post

        • Thank you.

          Yes indeed, I see Apple/Nokia and Uber/Taxis as similar battles.

          I also think it’s important to look for more examples outside of tech. Capital asymmetry, unlike Clay’s disruption theory, does not depend on technical progress causing the product to overshoot customer expectations (aka “good enough”), suggesting that it has been much more commonplace.

          Shopping malls & supermarkets vs. small local retail shops.

          Starbucks vs. independent coffee shops.

          Global convenience store chains vs. mom & pop stores.

          My examples heavily lean towards retail, mostly because I haven’t yet done the necessary research, but also because, like taxis, retail is often what small business owners do. However I’m confident that the idea can be expanded to many businesses outside tech. In fact, I would even consider the extreme power of capital to be a tenet of capitalism itself.