Currents of Disruption: In War for Customer Ownership, Digital Platforms Have Won

 In Market and Investment Insights

In the digital era, old-economy thinking about owning the customer must evolve, says Brad Slingerlend, co-Portfolio Manager of the Janus Henderson Global Technology fund.

On June 28, after Inc. (AMZN) said it would buy online pharmacy PillPack, Walgreens Boots Alliance Inc. (WBA) Chief Executive Officer Stefano Passina told analysts he was “not particularly worried” about the purchase.

He should be.

Boston-based PillPack built PharmacyOS, a platform that helps people to take multiple daily medicines safely and effectively. It also handles prescription refills.

“PillPack is meaningfully improving its customers’ lives,” Amazon Chief Executive Officer of Worldwide Consumer Jeff Wilke said in a release. “We want to help them continue making it easy for people to save time, simplify their lives and feel healthier.”

Here’s one way Amazon will do that: “It’s time to take your statin. You’re also low on Flomax. Should I refill that prescription? “Yes, Alexa.” “The generic alternative is much cheaper. Should I order that instead?” “Yes.”

For about $1 billion, according to media reports, or about 0.1 percent of its enterprise value, Amazon acquired instant pharmacy industry expertise and licenses to operate in nearly every state. Within five years it could feasibly be filling prescriptions within an hour as part of Prime, probably for lower prices than pharmacies offer today.

Walgreens, which doesn’t have an artificial intelligence voice assistant or suitable logistics network, can likely never compete on that basis because it’s not a platform and likely never will be. While Amazon, through its ease of use, choice and service has reset customer expectations in every market — whether it currently operates in it or not — visiting a Walgreens provides, well, let’s just say it’s also a memorable experience.

The crux of the existential crisis facing companies built before the digital revolution is whether they can transform from selling a service or product into a platform and, if they can’t, whether they can plug into a digital platform for continued distribution.

Successful platforms have five elements: global scale; access to substantial customer data and permission to use it; a product or service that can be provided where, when and how people want it; protection from disruption/startups; and the ability to change as markets evolve.

Netflix Inc. (NLFX) and Walt Disney Co. (DIS) are among the few to have made the transition. Just over 11 years after it began to transform from a mail-order DVD provider to a streaming service, Netflix in May briefly overtook Disney as the most valuable media company with a market cap of $152.6 billion, and had 130.1 million worldwide subscribers as of June 30.

Disney also fulfills the five criteria to be a successful platform, especially if it completes the purchase of 21st Century Fox’s movie and TV assets, which would also give it majority control of streaming service Hulu. Disney coordinates the operation of physical theme parks, merchandise, retail and publications units with global digital franchises including its eponymous studio, Star Wars, Marvel, DreamWorks and the ESPN and ABC networks.

But those are exceptions. Building a platform that customers want to use is not easy, as shown by General Electric Co.’s (GE) decision last month to seek a buyer for GE Digital. The company spent billions building Predix, a platform for utility and airline customers that it hoped would help it to become a top 10 software company by 2020 with revenue of $15 billion. It lost money on sales of $500 million last year, according to the Wall Street Journal.

A major reason companies struggle to transform is the inability of executives who earned their MBA degrees in the last century to let go of thinking that revolves around “owning” the customer.

Marriott International Inc. CEO Arne Sorensen, talking in June about the topic at the New York University International Hospitality Industry Investment Conference (at his company’s own property in Times Square, New York City), said: “We are in an absolute war for who owns the customer.”

What Sorensen fails to realize is that the war is over and that platforms including Booking Holdings Inc. (BKNG) (formerly Priceline), Expedia Group Inc. (EXPE) and Alphabet Inc.’s (GOOGL) Google have won. Instead of thinking about owning the customer, he has to focus on giving the customer the service they want, while accepting the tolls the platforms charge for access to THEIR customers.

Like retail and travel companies, large banks such as JPMorgan Chase & Co. (JPM), Citigroup Inc. (CITI) and Bank of America Corp. (BAC) are investing massively in digital and mobile in a bid to protect themselves from the inevitability of Amazon, Google or another platform coming in and stealing customers away forever.

JP Morgan is spending $8 billion a year on digital and mobile technology, and in late June announced an app called Finn that targets “digitally centric” younger consumers. Yet it launched only for iPhone users; the Android version won’t be available until closer to 2019, a misstep that Amazon or Google likely wouldn’t have made.

No doubt US banks look fearfully at what happened in China, where Tencent Holdings Ltd. (700:HK) and Alibaba Group Holdings Ltd. (BABA) are moving toward 500 million banking and insurance users. Alibaba’s Yu’e Bao unit became the world’s largest money market fund with $210 billion in assets within four years of its June 2013 launch.

The differences between companies that succeed in making the digital transition and those that don’t may become clearer as the era of ultra-cheap money ends. If they were serious about becoming successful platforms, 20th century business models should have begun making the necessary technology investments more than a decade ago instead of pandering to yield-hungry investors who rewarded share buybacks and rising dividends with higher equity prices.

For companies that have under-invested in their futures, the ramifications are likely to be difficult to recover from.

Disruption is creating compelling investment opportunities for those who know where to look. Learn how to harness the power of disruption in your portfolio.

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Technology industries can be significantly affected by obsolescence of existing technology, short product cycles, falling prices and profits, competition from new market entrants, and general economic conditions. A concentrated investment in a single industry could be more volatile than the performance of less concentrated investments and the market as a whole.

First published on MarketWatch on 09/14/2018.

Reprinted with permission. The opinions expressed are those of the authors and do not necessarily reflect the views of others in Janus Henderson Investors organization.

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