The Wizard of Oz (a great training video for learning to work with start ups by the way), has a moment where Dorothy asks a newly arrived friend if she is “a good witch, or a bad witch.” Putting aside the obvious “duh” that you wanted to throw at the TV, as Dorothy looks at an angelic, wand clutching Bugsy Berkeley blond pushing every subliminal cue Hollywood could then throw, she does make an interesting point.  Who’s a good witch, depends upon where you sit, or whichever house you are under.

I am reminded of this as I watch Apple get pummeled for its actions surrounding the iPhone, and its relationship with third party developers. The back story, for those of you that have missed it, starts with Apple introducing the iPhone, which is tied to an exclusive sales relationship with a single cellular carrier.  It continued with the development of various software programs by third parties which purported to “unlock” the iPhone so that it could be used on other cellular networks.  Further on, others developed applications to run on the iPhone (a logical thing to do as it provided a way to reach a growing base of new customers).  Then, Apple released an update of its iPhone operating system, which when executed, rendered “unlocked” phones inert, and third party applications wiped away.  What a resulting hullabaloo…..   Now were learn that Apple intends to release software that will facilitate third party software development for the iPhone, and the blogosphere is alight with the debate of whether Apple “finally gets it.”  Well, what exactly are they getting?

If you look closely, there is a growing tension in technology, particularly consumer technology, between open and closed platforms, or standards.  Broadly speaking, an open platform is one that allows parties other then the owner of the platform to freely develop their own products in reliance on the open system.  And, a closed system is one where only the owner, or licensed third parties, can develop products in reliance on the system.  Note here that I am not talking about intellectual property rights, i.e., the comparison of proprietary software and open source software.  Here I am concerned merely with how the owners of a prevailing operating system, or standard, interact with third parties.

As innovations mature, it generally results in a small number of providers holding the majority of the market power.  Usually, the businesses with the most cost efficient way to obtain customers win.  This is not a new thing, and in fact our economic history is full of this repeating cycle, as innovations mature there is a concentration of market power in fewer and fewer hands.  You might recall that at one time there were many, many privately owned railroads crisscrossing our country, or more than the Big Three car manufacturers.  There were more than 3 major US personal computer manufacturers not long ago too. 

Current consumer technology, particularly software and telecommunications, provides a very interesting example of the tension between concentration of distribution and the continuation of innovation.  What you are seeing regularly is that as a technology matures it tends to coalesce around a few dominant standards that are controlled by the winners.  This leaves innovators to do one of two things – create truly unique technologies that over time could become winners in a new market, or find a way to benefit from a developed standard to reach customers quickly.

It should be noted that there are a range of government regulations that are intended to regulate the concentration of market power, and to enforce access to prevailing market standards, or to at least prohibit abusive practices resulting from their use by owners.  You see that play out in areas such as antitrust (remember the lawsuit against Microsoft a few years back?), communications access rules (following the debate about net neutrality?) and various other places.  These are big stakes issues, and the tension between government regulation and standard owners is often great, particularly as a technology matures.  What is interesting about Apple’s current situation is that with the exception of a few spurious lawsuits that are really the legal equivalent of “sour grapes”, there is not a great deal of commentary about whether Apple is doing anything that should be regulated by the government.  The commentary is more about Apple somehow being thickheaded or evil.  That is not to suggest that I believe that the current level of enforcement of US antitrust or communications laws is sufficient to foster innovation, but that’s not the question being asked by the market today.

The question that is being asked in the market is whether the owner of a prevailing standard has an obligation to make it open and amenable to third parties.  And, if so, under what circumstances should it be open?  You see this in the evaluation of Apple’s roll out of the iPhone and the relationship between iTunes and the entertainment industry, you see it in comparisons of Facebook (open) and Myspace (closed until recently), or in how cellular carriers limit the application of third party software and services (such as VOIP) on their networks.  Openness is “good” and closure is “bad.”

Well, as an investor that looks to benefit from innovation, I must say that I prefer businesses that open up their standards for other businesses to benefit.  Most of the companies in Amplifier Venture’s current portfolio benefit in some way from access to an open platform of some sort, or are embracing openness as a key part of their business plan.  I could easily argue that open standards foster innovation and incremental improvements.  Certainly, there is a great deal of independent data to support that.

But, seriously, what’s in it for the owner of the standard?  If law and rules don’t compel openness, why should anyone adopt an open standard?  I think that the determination as to whether to open up a standard comes from a consideration of the following factors:

1. Exclusive Ownership .  Single owners can derive more profits all things being equal by maintaining exclusivity.  Collective ownership is more likely to be open, since the market participants have decided that they have more to gain economically by adopting a common standard and competition on other product aspects, rather than engaging in a zero sum game where only one standard can win among a number of competitors.  Compare Windows to Lunix.  One is owned by a single owner, and the other is not really “owned” by any particular company, rather it is a developing platform which is in many aspects truly open.
2. Competitive Posture .  How dominant is a particular offering.  Is it so unique that successful competition is difficult without access to the standard?  Or, if trying to build market share against an established competitor, should an owner open up a standard to encourage others to accelerate its adoption.  Compare the behavior of Myspace with Facebook.  Myspace has (had) a dominant position in social networking, and a closed system.  Facebook has grown in part due to its relatively open system that encourages third parties to develop additive products and experiences.  It’s worth noting, by the way, that Myspace appears to be moving towards greater openness, while Facebook may be heading towards closing off some aspects of its system (or at least developing its own proprietary competitors for third party products based on its open system).
3. The Consumer .  What do consumers want?  Open systems tend to be more chaotic, and in many instances harder to support, than closed systems.  Compare the user experience of an iPod with a standard Mp3 player on Windows.  Or, if you are “lucky” enough to have both in your house, compare installing a video camera on Vista vis-à-vis OS X.  If consumers value “choice” over a uniform and predictable operating experience, that will tend to reward standard owners who open their systems.  It’s worth noting that consumer preference is the area that standard owners tend to use most often when justifying keeping a system closed.  This has the effect of cheapening at times the legitimacy of the argument; it certainly is the argument that Apple used for “bricking” some of its phones. But, having had the experience of trying to install peripherals in an open operating systems, I can tell you that it’s just not that fun….
4. Marketing .  Among the technocrati who write and blog about technology, there is a clear preference for standard owners who open up their systems to others.  There are probably many reasons for this bias, including the bias of venture investors, entrepreneurs and others who wish to smooth their own innovative paths.  So, a standard owner might seek to gain positive good will in the market by opening its system.
5. What’s at Stake ?  Companies are in the business of maximizing return for their investors.  Depending upon how they are managed, and the other values that management may have, other factors might come into play.  However, make no mistake -- the most important single question a standard owner asks is will they make more money by keeping or sharing their technology.  When an owner opens up a standard, it’s an economic decision.

When you apply the above factors to Apple’s behavior, you probably won’t be surprised with what I say next: people should really just lighten up on Apple.  Until someone decides that they are breaking some law or regulation, they are merely doing what all companies do – trying to maximize its market position.  Over time, it will balance factors, including the marketing benefits of its position, and will either succeed or fail as a business.  And meanwhile, myriad entrepreneurs and innovators around the world will wake up in the morning with the goal of making their own system a standard.  As my grand dad used to say, “they should only have such problems.”