2008-02-05 #1

Markets of Increasing Returns Demand Adaptation

Few would disagree with the statement that technology has changed how people, and the businesses they run, interact. Technological advancements such as solid-state transistors, personal computers, and distributed networks like the internet have not only effected new human behaviors but accelerated the rate of change for such behaviors. W. Brian Arthur, in the article “Increasing Returns and the New World of Business,” contends that to understand how to make business thrive in such an accelerating environment, we must understand the dynamics of knowledge-based markets (100). Leaders in knowledge-based markets of increasing returns must abandon optimization philosophies and harness the effects of adaptation.

The concept of diminishing returns in markets of bulk processing is well researched and accepted by the business world. Markets of diminishing returns are characterized by an equilibrium that is typically reached between supply and demand. This equilibrium ultimately causes profit margins to shrink for suppliers and gives the market a more stable, if not predictable, nature. In contrast with markets of diminishing returns, markets of increasing returns are non-linear in nature. Increasing returns are realized in industries that focus, not on bulk-processing of resources or manufacturing, but rather of turning knowledge into something valuable to the consumer. Increasing returns amplify success or failure through network effects, time to market, and heavy up-front costs (Arthur 100-102).

The rapidly changing software development industry is an excellent example of why it is necessary to prefer adaptation over optimization. The industry is plagued with failed projects run by leaders who are nestled in a false sense of security by optimization processes that worked in a bulk-processing industry. Highsmith, a known thought-leader in the industry, helps project leaders understand that centralized processes which are fine-tuned for efficiency in a repetitive bulk-processing environment, are not capable of supporting the high rate of change and uncertainty experienced when turning knowledge into executable software. Instead, Highsmith highlights the lessons that can be learned from biological organisms, specifically, how adaptation to external forces and early arrival to a solution is far more effective than trying to predict the future with deterministic cause-and-effect logic in a market that continually produces emergent behavior (9-13).

In software development I have experienced the horror of optimizing determinism and the pleasure of agile adaptation. One such deterministic project that was managed in large phases and specified in detail at the beginning of the project ran over twice as long as estimated and even more over budget. The project sponsors were continually disappointed as were the end-users while the project team experienced frustration and turn-over. In another project of equal team size and similar functional scope, project sponsors were impressed and end-users satisfied. This was achieved by adaptive techniques such as time-boxed iterations of work, frequently scheduled demonstrations to gain feedback from users, fifteen minute daily status meetings, and prioritizing the most important work at the beginning of each iteration. The adaptive team worked in time-boxes of three weeks so they could easily change direction in the next iteration when new requirements or information came to the fore.

Knowledge-based businesses, those that operate in markets of increasing-returns, are built by people who advance their technology and science. Harnessing adaptive concepts in these organizations accommodates several of what Cockburn calls "human failure modes" including making mistakes, inventing rather than researching, and being inconsistent (48). The business leaders that discern whether to apply deterministic processes or embrace adaptive practices will reap rewards in both markets of diminishing returns and in those of increasing returns.

Works Cited

Arthur, W. Brian. "Increasing Returns and the New World of Business." Harvard Business Review July-August 1996: 100-109.

Cockburn, Alistair. Agile Software Development. Boston: Pearson Education, Inc., 2002.

Highsmith, James A. III. Adaptive Software Development: A Collaborative Approach to Managing Complex Systems. New York: Dorset House Publishing Co., Inc., 2000.