Showing posts with label Option-Value. Show all posts
Showing posts with label Option-Value. Show all posts

Friday, May 21, 2010

Baldwin's "Option Value"

In a presentation entitled "Unmanageable Designs: What Some Designs Need from the Economy and How They Get It". Professor Carliss Baldwin provides more support for those people who are contemplating becoming a member of the Community of Independent Service Providers.

Harvard Professor Carliss Baldwin is someone that we watch closely here at People, Ideas & Objects. Review of her papers have provided clear direction in the areas of "modularity and thin crossing points", "mirroring hypothesis" and "actionable transparency". We have benefited substantially from these concepts. In this presentation Professor Baldwin brings another substantial concept to this project, "Option Value".

There is a definitive reason that the Draft Specification is eleven modules. Particularly from a software development point of view. Having everything operate as one integrated system with the size and scope of the Draft Specification is probably impossible. The ability to break down the size of the system into modules helps the developers deal with the complexity that larger systems provide. Modularity also allows users to be familiar with a smaller set of application functionality, familiarity that is consistent with their training and skills. For example a person that works in the "land" function will probably rarely leave the Petroleum Lease Marketplace Module.

Modularity is something that Professor Baldwin has spent much of her time on during the past decade. What really brings out the value of modularity is what she calls the "option value". This is particularly important as we have recently been discussing the Industrial Districts (ID), Small Knowledge Intensive Enterprises (SKIE), Business Groups (BG) and Community of Independent Service Providers (CISP). Option value is critical to the performance of this community.

In slide number two Professor Baldwin summarizes her three main points. I want to subsequently address each point in detail.

  • Designs need to become real.
    • They become real by creating the perception of value.
  • Designs act as a financial force.
    • Perception of value = incentive to invest
    • In making the design = "use value"
    • In making the design better = "option value"
  • Modular designs with option value.
    • Create hurricane type forces
    • Will change their economic "space"
    • Unmanageable and dangerous (unless you understand them)
To her first point, the Draft Specification is real because people can see the value that the specification can provide. The purpose of the specification is to provide a vision of how the industry could operate using the Joint Operating Committee (JOC) as the key organizational construct of the innovative producer. Perception is reality.

Baldwin's second point should note that members of the Community of Independent Service Providers (CISP) have a substantial business opportunity. By joining, these people have the opportunity to develop a service based offering that delivers the People, Ideas & Objects software applications to the innovative producer. They have as their overall objective; "to provide the most profitable means of oil and gas operations". To address the "use value", as we have noted before, we are moving towards the systemic culture of the oil and gas industry, the JOC. By recognizing the JOC we are indeed adopting the culture of how the industry works. Contrast this "use value" to the SAP culture of a manufacturing firm.

And lastly to address the "option value". The power of a modular specification, particularly in software that supports an industries culture, that is backed up by a dedicated software development capability, and most importantly, the producers, CISP and People, Ideas & Objects gaining the option value. This type of design becomes a "hurricane" financial force that will change the oil and gas "space". I can assure you that this hurricane is beginning. If you have an interest in becoming a member of the CISP, I would highly recommend that you begin your research phase today.

The critical element of this hurricane force is the Community of Independent Service Providers. Having the Draft Specification without this community does not generate the value. As Baldwin notes on Slide 23 "Modularity in the absence of option potential is at best a breakeven, at worst an expensive waste of time". This is intuitively the case, Professor Baldwin then asks the important questions.
  • What is this elusive property that gives rise to option value?
  • Where does it arise?
  • Can we measure it?
Answering that first question, what is the "elusive property" Baldwin notes on Slide 29:
  • Option value lies in seamless, asynchronous upgrading
    • Modeled in design rules.
I have been a strong proponent of asynchronous communications. People, Ideas & Objects adopted a technical vision early on in the design of the Draft Specification. Within that technical vision, a cornerstone of it is what we call Asynchronous Process Management (APM). Today I am stating that the methods that the CISP and user communities interact with the developers of People, Ideas & Objects is in this asynchronous manner. Therefore we have captured that "elusive property that gives rise to option value". The creative and iterative development of the applications and communities.

In terms of measuring option potential. I have selected the following five points from slides 29, 30 and 32 as key to the CISP.
  • Successive, improving versions are evidence of option potential being realized over time - after the fact.
  • Designers see option potential before the fact.
  • What do they see?
  • Users - new perceptions => new preferences
    • Perceptions of desires emerge through use.
    • Value of discovery, direct experience play.
    • Unexplored potential = option potential.
  • Pfister's Observation (In Baldwin's words)
    • Recombining modules in new ways has more option value than the modules themselves.
Lastly, Professor Baldwin suggests ways in which we can gain from "option value". These past few months we have been reviewing many of the principles that were used in forming People, Ideas & Objects, Community of Independent Service Providers and the Draft Specification. Whether that is through ID's, SKIE's, BG's, or the CISP I think the value is there and this project is moving forward.
  • What do option rich modular designs do to the economy?
    • Answer: Attract entry with a promise of lots of $$$
  • How do you manage something inherently unmanageable?
    • At first you don't.
    • Then, small footprints yield high ROIC.
    • Then, lead firm M & A
  • Will you always get a modular cluster of firms?
    • Yes, almost certainly.
And what actions does Professor Baldwin's recommend you should do: (Recall this is a 2005 presentation.)
  • Plunge in.
  • Get lucky
  • Watch out for Microsoft
  • Get bought by HP.
Professor Baldwin's research strategy - look for;
  • Stable patterns of behavior involving several actors operating within a consistent framework of ex ante incentives and ex post rewards.
My personal opinion of what is valuable today, and this ties in with this project, is ownership or access to Intellectual Property (IP). It's the only asset that provides any long term sustainable value generation. Members of the Community of Independent Service Providers have access to all of the IP that is part of People, Ideas & Objects, the ideal framework of "ex ante incentives and ex post rewards". Management of this IP at People, Ideas & Objects is noted here.

Our appeal should be based on these eight "Focused on" priorities and values of how better the oil and gas industry and its operations could be handled. They may not initially be the right way to go, but we are committed to working with the various communities to discover and ensure the right ones are. If your an enlightened producer, an oil and gas director, investor or shareholder, who would be interested in funding these software developments and communities, please follow our Funding Policies & Procedures, and our Hardware Policies & Procedures. If your a government that collects royalties from oil and gas producers, and are concerned about the accuracy of your royalty income, please review our Royalty Policies & Procedures and email me. And if your a potential user of this software, and possibly as a member of the Community of Independent Service Providers, please join us here.

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