First-mover advantage

First movers can make their technology/product/services harder for later entrants to replicate. For example, if the first mover reduces the costs of producing a product, then they will establish an absolute cost advantage, not just a marginal cost advantage. Not only this, but the first mover will be able to apply for patents, copyrights, and any other protective advantages that will further enhance their establishment in the market.[2]

Another way technology leadership comes into play is when a firm has had a unique breakthrough in its research and development (R&D), providing sustainable cost advantage if the innovative idea can be sustained and protected. It must be taken into consideration that technological changes are happening at an incredibly rapid pace. Therefore, patents are a weak protection as the transitory value is low. With the short lifetime of any technological advantage, patent-races can actually prove to be the downfall of a slower moving first-mover firm.

The second type of first-mover benefit is the ability to control resources necessary for the business that are of a higher quality than resources later entrants will be able to use. An example would be the advantage of being the first company to open a new type of restaurant in town and being able to obtain a prime location. This strategy was used by Walmart when they were the first to locate discount stores in small towns. The first entrant could also control the supply of raw materials needed to make a product, as well as obtaining the ideal supply chain. First-mover firms also have the opportunity to build resources that may discourage entry by other companies. An example of this is increasing production capacity to broaden product lines, therefore deterring following firms to enter and successfully make profits. This strategy is often used by Inditex with their fashion retail supply.[3] When economies of scale are large, first-mover advantages are typically enhanced. The enlarged capacity of the incumbent serves as a commitment to maintain greater output following entry, with the threat of price cuts against late entrants.[4]

The final type of benefit that first movers may enjoy comes from buyer-switching costs. If it is costly or inconvenient for a customer to switch to a new brand, the first company to gain the customer will have an advantage. Buyers will rationally stick with the first brand they encounter that performs the job adequately. Especially for consumer products, the first mover has the opportunity to shape consumer preferences and to earn customer loyalty. Satisfied consumers tend not to spend time seeking information about other products, and tend to avoid the risk of being dissatisfied if they switch. Some examples of pioneering brands in product categories include Coca-Cola soft drinks, Kleenex tissues, and Nestlé foods. These brands are known to often dominate their markets for a long time. These brand preferences appear to be more important for retail purchases by consumers than for products purchased by businesses, as businesses buy products in larger volume and have more incentive to search for lower-cost options that will contribute to an economy of scale.[3][5]

Secondary or late-movers to an industry or market have the ability to study first-movers and their techniques and strategies. "Late movers may be able to 'free-ride' on a pioneering firms investments in a number of areas including R&D, buyer education, and infrastructure development."[4] The basic principle of this effect is that the competition is allowed to benefit and not incur the costs which the first-mover has to sustain. These "imitation costs" are much lower than the "innovation costs" the first-mover had to incur, and can also cut into the profits the pioneering firm would otherwise enjoy.

Studies of free-rider effects say the biggest benefit is riding the coattails of a company's research and development,[6] and learning-based productivity improvement.[7] Other studies[8] have looked at free rider effects in relation to labor costs, as first-movers may have to hire and train personnel to succeed, only to have the competition hire them away.[4] For example, Craigslist was the first and biggest website to look for short-term rentals. AirBnB came in a few years after and built a massive business at the expense of Craigslist.[9]

First-movers must deal with the entire risk associated with developing a new technology and creating a new market for it. Late-movers have the advantage of not sustaining those risks to the same extent. While first-movers have nothing to draw upon when deciding potential revenues and firm sizes, late-movers are able to follow industry standards and adjust accordingly.[4] The first-mover must take on all the risk as these standards are set, and in some cases they do not last long enough to operate under the new standards.

"New entrants exploit technological discontinuities to displace existing incumbents."[4] Late entrants are sometimes able to assess a market need that will cause an initial product to be seen as inferior. This can occur when the first-mover does not adapt or see the change in customer needs, or when a competitor develops a better, more efficient, and sometimes less-expensive product. Often this new technology is introduced while the older technology is still growing, and the new technology may not be seen as an immediate threat.[4]

An example of this is the steam locomotive industry not responding to the invention and commercialization of diesel fuel (Cooper and Schendel, 1976). This disadvantage is closely related to incumbent inertia, and occurs if the firm is unable to recognize a change in the market, or if a ground-breaking technology is introduced. In either case, the first-movers are at a disadvantage in that although they created the market, they have to sustain it, and can miss opportunities to advance while trying to preserve what they already have.

New products and services which require significant R&D or development will also require significant investments. Therefore, the firms will need to have the funds available to be able to deal with the up-front investments. If they don't have the cash on hand, this could lead to high loans and debts which puts increased pressure on the products to do well.[9]

Though the name "first-mover advantage" hints that pioneering firms will remain more profitable than their competitors, this is not always the case. Certainly a pioneering firm will reap the benefits of early profits, but sometimes profits fall close to zero as a patent expires. This commonly leads to the sale of the patent, or exit from the market, which shows that the first-mover is not guaranteed longevity. This commonly accepted fact has led to the concept known as "second-mover advantage".

While firms enjoy the success of being the first entrant into the market, they can also become complacent and not fully capitalize on their opportunity. According to Lieberman and Montgomery:

Vulnerability of the first-mover is often enhanced by 'incumbent inertia'. Such inertia can have several root causes:

1. the firm may be locked into a specific set of fixed assets,
2. the firm may be reluctant to cannibalize existing product lines, or
3. the firm may become organizationally inflexible.[4]

Firms that have heavily invested in fixed assets cannot readily adjust to the new challenges of the market, as they have less financial ability to change. Firms that simply do not wish to change their strategy or products and incur sunk costs from "cannibalizing" or changing the core of their business, fall victim to this inertia.[4] Such firms are less likely to be able to operate in a changing and competitive environment. They may pour too much of their assets into what works in the beginning, and not project what will be needed long term.

Some studies which investigated why incumbent organizations are unable to be sustained in the face of new challenges and technology, pinpointed other aspects of incumbents' failures. These included: "the development of organizational routines and standards, internal political dynamics, and the development of stable exchange relations with other organizations" (Hannan and Freeman, 1984).

All in all, some firms are too rigid and invested in the "now", and are unable to project the future to continue to maximize their current market stronghold.

First-mover advantages are typically the result of two things: technical proficiency (endogeneic) and luck (exogeneic).

Skill and technical proficiency can have a clear impact on profits and the success of a new product; a better product will simply sell faster. An innovative product that is the first of its kind has the potential to grow enormously. Technically competent companies are able to manufacture their products better, at a lower cost than their competitors, and have better marketing proficiency. An example of technical proficiency aiding first-mover advantage is Procter and Gamble's first disposable baby diaper. The ability to get ahead of the market through technical breakthroughs, the use of materials that were low in cost, as well as their general manufacturing proficiency and distribution channels, allowed P&G to dominate the disposable diaper industry.

Luck can also have a large effect on profits in first-mover-advantage situations, specifically in terms of timing and creativity. Simple examples such as a research "mistake" turning into an incredibly successful product (serendipity), or a factory warehouse being burned to the ground (unlucky), can have an enormous impact in some instances. Initially, Procter and Gamble's lead was aided by its ability to maintain a proprietary learning curve in manufacturing, and by being the first to take over shelf space in stores. Large increases in the birth rate, in the years that Procter and Gamble's first disposable diapers were released, also added to their industry profits and first-mover advantage.

Much of the problem with the concept of first-mover advantage is that it may be hard to define. Should a first mover advantage apply to firms entering an existing market with technological discontinuity, the calculator replacing the slide rule for example, or should it apply solely be new products? The imprecision of the definition has certainly named undeserving firms as pioneers in certain industries, which has led to some debate over the real concept of first-mover advantage.

Another common argument is whether first-mover advantage constitutes the initiation of research and development versus the entry of a new product into the market. Typically the definition is the latter, since plenty of firms spend millions in research and development that never result in a product entering a market. Many factors affect the answer to these questions; including the sequence of entry; elapsed time since the pioneer's first release; and categorizations such as early follower, late follower, differentiated follower, etc.

A commonly accepted way of measuring a first-mover advantage by pioneering firm's profits as the consequence of its early entry. Such profits is an appropriate measure, since the sole objective of stockholders is to maximize the value of their investment.

Still, some issues have risen with this definition, specifically that dis-aggregate profit data are seldom obtainable.[10] In turn, market shares and rates of company survival are typically used as alternative measures since both are commonly linked to profits. Still these links can be weak and lead to ambiguity. Early entrants always have a natural advantage in market share, which does not always translate to higher profits.

Though the name "first-mover advantage" hints that pioneering firms will remain more profitable than their competitors, this is not always the case. Certainly a pioneering firm will reap the benefits of early profits, but sometimes profits fall close to zero as a patent expires. This commonly leads to the sale of the patent, or exit from the market, which shows that the first-mover is not guaranteed longevity. This commonly accepted fact has led to the concept known as "second-mover advantage".

In 1994, Jeff Bezos founded Amazon.com as an online bookstore, and launched the site in 1995. The product lines were quickly expanded to VHS, DVD, CDs, computer software, video games, furniture, toys, and many other items. What many people don't know is that Book Stacks Unlimited, or books.com, was founded in 1991, and launched online in 1992. Founded by Charles M. Stack, it is considered to be the very first online bookstore, however Bezos and Amazon was much more successful due to the fact that Bezos was able to understand that web usage was increasing 2000% each year, and therefore was able to market Amazon accordingly. Amazon has since dominated the online bookstore business, and continues to expand to other product markets as well. BookStacks on the other hand was sold to Barnes and Noble in 1996.[14]

The biggest issue that arises is that, despite the evidence of first-mover advantages, the fundamental question of how or why these advantages occur is still unanswered. When attempting to discover the answer, it became clear that it was too difficult to differentiate between an actual advantage and just blind luck.[4] Before this research can be completed, crucial management decisions, such as the optimal time for to produce and market a product, need to be studied. Ultimately, some firms are more suited to be pioneers, others are more suited to wait and see how the product does and then improve upon it, releasing a slightly modified reproduction.

As of now, we have a much clearer understanding of advantages that firms who move their product much later have than those that first-movers enjoy. The biggest concern currently is that almost no effort has been put towards determining the "resolution of technological and market uncertainty" which are both considered to be major determinants in the optimal timing of product release. There is, also, no methodology to establish whether inertia is or is not acceptable.[4]

Determining the differences between the advantages of followers and first-movers may be a conceptual issue, but empirical issues revolve around explicit strategies that first-movers employ to improve upon their advantage. New information is needed to support any acceptable theories relating to the mechanisms, advantages, and disadvantages that first-movers are thought to have at their disposal.[4] Researchers in this field must avoid using the same data repeatedly, which is a trend that has crippled the progress of this investigation.

A future study should better delineate the differences between first-mover advantages and other advantages that a firm may have, such as superior manufacturing, or a better marketing scheme. Funding such a study would be extremely useful to any company that has extra money to spend for their next quarter. Furthermore, it would be useful to study how the strength of each advantage varies as it translates from industry to industry. It is quite possible that each industry has its own unique benefits that have yet to be formally documented. An example of one that has, is that first-mover advantages have proven to be much more prevalent in consumer-goods, as opposed to producer-goods industries. Lastly, better knowing the length of time that a first-mover advantage lasts would be vital to any company trying to determine whether or not it should take the chance of being the first to market a particular type of product, and how long the product would be profitable.