Is the Grass Greener? On the Strategic Implications of Moving Along the Value Chain for IT Service Providers

Information technology (IT) service providers that offer both customized and routinized IT services (help-desk services, software services, business process outsourcing, consulting services) are often advised to consider moving up or down the value chain. Such advice is couched in language that emphasizes the revenue possibilities that exist higher up the value chain (moving from software outsourcing to packaged software, for instance) or volume that exists lower down in the value chain. However, the reality for firms that have attempted such moves is more ambiguous—many highly successful service providers have tried to move out of their niche and failed. Why? We address this question of why service providers may fail when they move up or down the value chain using agent-based modeling. We create a set of representative IT service firms, endow them with different types of resources and capabilities, and model the profitability implications of moves up and down the value chain in the presence of competitors. We run a series of simulations using these representative firms to see when such moves along the value chain are likely to be successful and when they are not. We find that firms moving up the value chain are successful only when such moves are accompanied by significant resource changes. In contrast, firms moving down the value chain are likely to be successful only if such moves are accompanied by learning capability arising out of higher absorptive capacity. Not surprisingly, we find that moves along with the value chain without significant investments in resources and capabilities, for the most part, end in failure.

Information technology (IT) service providers are often advised to consider moving their service offerings along the value chain as a way to enhance their competitiveness. On the basis of this advice, service providers operating successfully at the lower end of the value chain have tried to expand into higher-order consulting services, whereas those operating higher up on the value chain have sought to expand into more routinized services. In both cases, such efforts have been met with limited success. In this paper, we examine why this might be the case, using an agent-based model developed specifically for this purpose. As part of the model, we use the resource-based view of the firm to construct agents, representing individual IT services firms with three distinct strategic orientations (archetypes) operating at different parts of the value chain with varying resource endowments. We then examine the outcomes associated with these firms when they transition along the value chain. Although we find that moving along the value chain is generally risky, we identify specific conditions under which such moves may be favorable to firms. We find that firms moving up the value chain are likely to be successful only if such moves are accompanied by significant resource changes. In contrast, firms moving down the value chain are likely to be successful only if such moves are accompanied by learning capability arising out of higher absorptive capacity. We find that resource fungibility moderates these relationships. We conclude with a discussion of the managerial implications of our study as well as opportunities for future empirical research within the IT services industry based on our propositions.