HBS Working Knowledge has an interview with HBS professors Pankaj Ghemawat and Ramon Casadesus-Masanell, who consider the competitive dynamics of the software wars between Microsoft and open source:
One main advantage of open source software is that because users can modify the code directly (as they encounter problems or have new ideas on how to improve it), the development cycle is significantly shorter. Proponents of OSS claim that if this demand-side learning (as we call it) is sufficiently strong, OSS will oust traditional software. In addition, software engineers claim that the better architecture of most OSS projects make them a potentially superior product, adding to the probability of success.
However, OSS has disadvantages too. Most importantly, it comes from behind in terms of market share (installed base). Because the value of an operating system depends critically on the number of users, traditional software has an advantage. Clearly, a larger installed base implies that there will be stronger direct and indirect network effects, and this will enhance the value of the operating system to current and potential users. In addition, a larger installed base also implies that there will be more feedback on bugs and more suggestions for new features.
Our paper introduces a dynamic mixed duopoly model in which a profit-maximizing competitor (Microsoft) interacts with a competitor that prices at zero (Linux), with the installed base affecting their relative values over time. We use a formal model to ask what conditions are needed for Linux to take over Windows. The questions that we address are: Is Linux’s superior demand-side learning sufficient to win out? What is the effect of forced procurement by governments and some large corporations on the long-run equilibrium? How do cost asymmetries play out? Can Microsoft use piracy strategically to improve its market position?
Our main result is that in the absence of cost asymmetries and as long as Windows has a first-mover advantage (a larger installed base at time zero), Linux never displaces Windows of its leadership position. This result holds true regardless of the strength of Linux’s demand-side learning. Furthermore, the result persists regardless of the intrinsically better design and potential differential value of Linux. In other words, harnessing demand-side learning more efficiently is not sufficient for Linux to win the competitive battle against Windows.