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A theoretical review of network effects
on platform products

Waseda University
Japan
Kazuhiko Kato
Tatsuyuki Negoro

Introduction• Discussion about the diffusion of platform products is often based
upon the theory of positive network effects. There have been many cases
upon the theory, such as QWERTY vs. Dvorak’s DSK, Microsoft Internet
Explorer vs. Netscape Navigator, VHS vs. Beta and so on.

• On the other hand, we have already obtained a common finding
regarding the existence of network effects which prove the increasing value
for users as the number of its users increases.

• This paper is focusing on so-called indirect network effects arisingfrom the amount and variety of complementary products.

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Contents
Contents：
1) The purpose of this paper
2) Past Literatures and the definition of network effects on platform products
3) The concept of network effects on platform products and correspondingreferences
4) The classification of network effects and comparison with that of
Katz&Shapiro(1985)
5) Conclusion and future assignments
References

Kazuhiko Kato & Tatsuyuki Negoro3

The purpose of this paper• To review the concept of network effects in theory. For example,
it presents a new elaborated concept of network effects and eightperspectives in platform products with layered structure whichconstructed by three players i.e. platform leaders, complementary
products (complementors) and users.

• To classify network effects particularly on platform products withthe layered structure on this paper, which demonstrates in a quite
different categories from those of Katz & Shapiro (1985)• To prepare developing the platform strategic theory by adopting
the classification. For example, it explains how to address main
strategic levers i.e. strategic schemes for the growth of ecosystem
made up of platform leaders and complementors, by leveraging
network effects on the platform strategy on a theoretical basis.

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Past Literatures and the definition of network
effects on platform products

Direct and indirect effects by Katz and Shapiro (1985)
Katz and Shapiro (1985) classified 2 categories on network effects as follows,

zDirect physical effects: The consumption externalities may begenerated through a direct physical effect of the number of purchasers on thequality of the product. The utility that a consumer derives from purchasing atelephone，for example, dearly depends on the number of other households orbusinesses that have joined the telephone network. These network externalities
are present for other communications technologies as well, including Telex, data
networks, and over-the-phone facsimile equipment.

zIndirect effects: There may be indirect effects that give rise to
consumption externalities. For example，an agent purchasing a personal
computer will be concerned with the number of other agents purchasing similar
hardware because the amount and variety of software that will be supplied foruse with a given computer will be an increasing function of the number of
hardware units that have been sold. This hardware-software paradigm also
applies to video games, video players and recorders，and phonographequipment.
Source: Network Externalities， Competition, and Compatibility Michael L. Katz; Carl Shapiro (1985)
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Network effects in this paper• The definition of network effects on this paper is as follows,– The utility of users caused by the network as increasing of users
adopting products• The network means the relationship between a user and other users• As a reference, Rohlfs(2001) described the meaning of
network externalities– Network externalities. These apply to products and services that use
telecommunications networks. As the set of users expands, eachuser benefits from being able to communicate with more persons( who have become users of the products or services)
Source: Rohlfs,J.H.(2003).“Bandwagon Effects in High-Technology
Industries”, The MIT Press. p8

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Definition of platform productsz The definition of platform product on this paper is as follows,– “Platform product is a “core” product (hardware, software or services)which positions inside complex products with layered structure.”
Negoro, T. & Kato,K.(2006) partly revised.
Source: Negoro,T & Kato,K.(2006) “A Critical Development of the Four
Levers Framework on Platform Leadership by M. A. Cusumano & A.
Gawer”, RIIM, Waseda Univ. Working Papers,No.18.2006.p14

z As another reference, the term of platform is explained
by Cusumano, M.A as follows,– The term “Platform” can refer to a foundation product that has themost value when it works as the core of a system of components
made by one or more firms.
Source: Cusumano,M.A.(2004).”The business of software”, Free Press,
p.74

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The concept of network effects on platformproducts

An additional separation：Layer of network
Outlined picture of network
An additional separation:
Layered network

General network

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Kato & NegorohiUser Layer

Complementor Layer

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New elaborated concept：The significance of specific linkages
Concept of network effects

This study points out as another conceptA) The number of network membersB) Linkage between specific members

f

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k

b

b

d

d

g

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s

Bold lines show
more significant
than normallines.

e

j

c
h
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s
e

j

c
h
i

The number of linkages

The significance of specific linkages

The incentives for platform users are caused by
the number of linkages because it generates
network effects.

The number of linkages is not necessarily
causing the incentives for platform users
because of the significance of specific linkages.

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Classification of network effects between layers
4 types of network effects between layers
1) Network effects between users

2)Network effects between complementary products(complementors) ：The increase of platform products’ users causes
network effects between complementary products(complementors).

2) Network effects between
complementary products(complementors)
3) Network effects between a user
and complementary products(complementors)
4) Network effects between acomplementary product(complementor) and users

1) Network effects between users：
The increase of platform products’ users causes
network effects between users

3)Network effects between a user and complementary
products (complementors)：
The increase of complementary products andcomplementors caused by the increase of platformproducts’ users generates network effects to users.
4) Network effects between a complementary product(complementor) and users ：The spread of users caused by the increase of
platform products generates network effects tocomplementors.

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Perspective 8 codes on this paper
Views/models

Perspective
8 codes on
this study

The number anddiversity of linkages

The significance of
linkages

1

UU-N

UU-S

2

CC-N

CC-S

3

UC-N

UC-S

4

CU-N

CU-S

UU-N, CC-N, UC-N and CU-N
UU-N explains that from platform users’ point ofview, the incentives in choosing platform dependon the number and diversity of other accessible
users.
CC-N explains that from platform complementors’
point of view, the incentives in choosing platform
depend on the number and diversity of otheraccessible complementors.
UC-N explains that from platform users’ point ofview, the incentives in choosing platform dependon the number and diversity of other accessible
complementary products (complementors).
CU-N explains that from platform complementors’
point of view, the incentives in choosing platform
depend on the number and diversity of otheraccessible users.

For example, UU-N
stands for User toUser in terms of
Number. CU-S stands
for a Complementor
to Users in terms of
Significance.

UU-S, CC-S, UC-S and CU-S
UU-S explains that from platform users’ point ofview, the incentives in choosing platform dependon the significance of other particular accessible
users.
CC-S explains that from platform complementors’
point of view, the incentives in choosing platform
depend on the significance of other particularaccessible complementors.
UC-S explains that from platform users’ point ofview, the incentives in choosing platform dependon the significance of other particular accessible
complementary products (complementors).
CU-S explains that from platform complementors’
point of view, the incentives in choosing platform
depend on the significance of other particularaccessible users.

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Layered structure of platform products and complimentary products

To explain the relationship among Platform products, Complementary Products
and Users, this paper uses concise pictures below,

C.P: Complementary Products

Complementors

C.P-A

C.P-A

C.P-B

C.P-C

Platform Users
Platform Providers

Platform Products

Makers

Products

Consumers

Layered structure：this picture shows that there are many complementary productson the platform

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The incentives for users and complementors (the number and diversity)
From PF users’ point of view

From complementors’ point of view

PFUserーB

PFUserーA

The
incentives inchoosing PF
for users
andcomplement
ors dependon thenumber anddiversity ofaccessible
members.

PFUserーC

PFUserーE

PFUserーD
PFUserーF

PFUserーG

PFUserComplementor-D
Complementor-C
Complementor-A
Complementor-B
Complementor-E

Complementor-H
Complementor-I

Complementor-F
Complementor-G

Platform（PF)Platform（PF)UU-N) The number and diversity ofcomplementary products(complementors)

CC-N) The number and diversity ofuser segments

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The incentives for users and complementors (the significance ofspecific linkages)
From PF users’ point of view

PFUserーB
PFUserーA
PFUserーC

PFUserーE

PFUserーD

From complementors’ point of viewThe
incentives inchoosing PF
for users andcomplemento
rs depend onthesignificanceof accessible
members.

PFUserComplementor-D
Complementor-C
Complementor-A
Complementor-B

PFUserーF
PFUserーG

Complementor-I
Complementor-F
Complementor-G

Platform（PF)Platform（PF)UU-S) Significance towards
complementary products(complementors)

CC-S) Significance towards user
segments
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Complementor-E

Complementor-H

Bold lines
show moresignificant thannormal lines.

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Corresponding actual cases 1),2)

1) Network effects between users
Actual case in the number of linkages (case UU-N): OS users chose OS
type to share the information easily e.g. regarding trouble shooting withthe large number of other same OS users.
Actual case in the significance of linkages (case UU-S): OS users chose
OS type to exchange files consistently with the significant other same
OS users. e.g. Linux users.

2) Network effects between complementary products(complementors)
Actual case in the number of linkages (case CC-N): Complementors
developing statistics software chose to adopt the spreadsheet softwareon the OS that is already diffused widely.
Actual case in the significance of linkages (case CC-S): Complementors
providing a training for particular application software chose OS for thesignificant segment users’ demand. e.g. Unix training outsourcers

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The incentives for users and complementors (the number and diversity)
From PF users’ point of view

PF User-A

C.P.-A（1）

C.P.-A（2）

The incentives
in choosing PF
for users andcomplementors depend on
the number
and diversityof accessible
members.

PF User-B

C.P.-B

From complementors’ point of view

C.P:

C.P.-C

C.P.-E
C.P.-A（3）

Complementa
ry Products

C.P.-D
C.P.-F

C.P.-GPF Segment-A

PF Segment-B

PF Segment-E

Note）Segment
means a party
formed byusers with thesameComplementor-B
Complementor-A
properties.

Platform（PF)Platform（PF)

UC-N) The number and diversity ofcomplementary products(complementors)

CU-N) The number and diversityof user segments

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PF Segment-D
PF Segment-C

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The incentives for users and complementors (the significance ofspecific linkages)
From PF users’ point of view

PF Users-A

C.P.-A（1）

C.P.-A（2）

The incentives
in choosing PF
for users andcomplementors
depend on thesignificance ofaccessible
members.

PF Users-B

C.P.-B

C.P.-A（3）

PF Segment-A

PF Segment-D
PF Segment-C

PF Segment-B

PF Segment-E

Bold lines show
more significant
than normal lines.

C.P.-C

C.P.-E

From complementors’ point of view

C.P.-D
C.P.-F

Platform（PF)UC-S) Significance towards
complementary products(complementors)

Complementor Complementor-A-B

C.P.-G

C.P:
Complementa
ry Products

Note）Segment
means a party
formed byusers with thesameproperties.

Platform（PF)CU-S) Significance towards user
segments

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Corresponding actual cases 3),4)

3) Network effects between a user and complementary products(complementors)
Actual case in the number of linkages (case UC-N): Game users chose theplatform i.e. game hardware brand, because of the diversity of application
software.
Actual case in the significance of linkages (case UC-S): A user chose theplatform for getting killer game application software. e.g. Final Fantasy X/
Sony Play station user

4) Network effects between a complementary product (complementor)
and users
Actual case in the number of linkages (case CU-N): A complementor
developing game contents application chose the platform game maker due
to the large number of game users.
Actual case in the significance of linkages (case CU-S): A complementor
manufacturing USB cable connecting PC to portable game chose theplatform game maker with targeting the specific segment of music
listeners over the portable game. e.g. GAMETECH CO.,LTD./USB cablefor Play station portable

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The classification of network effects and comparison
with Katz&Shapiro (1985)

Comparison between traditional classification of network effects by Katz and Shapiro(1985) and that of this study （in case of the number of linkage）

Classification on this study

Place where exhibits
network effects

Factor bringing effects

Katz&Shapiro’sclassification

1) Network effects between
users

Between users

The number ofplatform products’
users

Direct physicaleffects

2) Network effects between
complementary products

Betweencomplementary
products(complementors)

The number ofplatform products’
users

None

3) Network effects between
a user and complementary
products (complementors)

A user andcomplementary
products

The number anddiversity ofcomplementary
products(complementors)

Indirect effects

4) Network effects between
a complementary product(complementor) and users

A complementor andusers

The number anddiversity of end-users
and user segments

None

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Conclusion and future assignments

Conclusion and future assignments

To sum up, there have been many studies about network effects and lots ofstudies argue the influence to end-users, based on the network scale (the number ofsubscribers). However, this paper alludes the necessity of network effects with thesignificance of linkages between members i.e. accessible frequency and weight, as
well as the number of linkages between members.
In addition, the paper classified four categories between couples of layers
among platform products, complementary products and users, compared with two
categories between products and users mainly by Katz & Shapiro (1985). In
addition, an actual case is presented to each four category, which exhibits thetheoretical difference concerning network effects between the study and that of Katz
& Shapiro (1985).

As a future assignment, the study is still open to question about mainlevers i.e. strategic schemes for the growth of ecosystem made up of platform leadersand complementors, by leveraging network effects on the platform strategy on atheoretical basis. Further studies shall be provided.

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References[1] Cusumano,M.A.(2004).”The business of software”, Free Press[2] Evans,D.S.,Hagiu,A.&Schmalensee,R.(2004).”Invisible Engine”, MIT Press[3]Gawer,A. & Cusumano,M.A.(2002).“Platform Leadership”, Harvard Business School Press[4]Hagiu,A.(2006). “How Software Platforms Revolutionize Business “ <http://hbswk.hbs.edu/item/5482.html>
5/1/2007[5]Hagiu,A.(2006). “Multi-sided platforms :From microfoundations to design and expansion strategies”<http://www.people.hbs.edu/ahagiu/TSP_microfoundations_and_strategies_01062007.pdf > 5/1/2007[6]]Hagiu,A.(2006). “New Research Explores Multi-Sided Markets” <http://hbswk.hbs.edu/item/5237.html>
5/1/2007[7]Katz,M.L& Shapiro,C.(1985）.“Network Externalities, Competition, and Compatibility”, American Economic
Review,Vol.75,No.3,pp.424-440.
[8]Katz,M.L& Shapiro,C.(1986).“Technology Adoption in the Presence of Network Externalities”, The Journalof Political Economy,Vol.94,No.4,pp.822-841.
[9]Katz,M.L& Shapiro,C.(1994).“Systems Competition and Network Effects”, The Journal of Economic
Perspectives,Vol.8,No.2,pp.93-115.
[10]Negoro,T & Kato,K.(2006) “A Critical Development of the Four Levers Framework on Platform
Leadership by M. A. Cusumano & A. Gawer :Through the Re-examination of Cases by M. A. Cusumano &A.Gawer and an Additional Case Study of Java”, Research Institute of Information Technology andManagement, Waseda Univ. Working Papers,No.18.2006.
[11]Rohlfs,J.H.(2003).“Bandwagon Effects in High-Technology Industries”, The MIT Press[12]Shapiro,C. & Varian,H.R.(1999).“The Art of Standard Wars”, California Management Review,
Winter1999,Vol.41,No.2,pp.8-32.
[13]Shapiro,C. & Varian,H.R.(1999).“Information Rules”, Harvard Business School Press
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Thank you so much for your kind attention.

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Back Uｐ

Abstract
•

•

•
•

•

•

Network effects appear to increase the benefits that consumers derive from a product as the user
set expands. In platform products, they are known as one of key mechanisms of being successful
on that business. This is mainly because they generate the incentives for users in choosing theplatform. For examples, many business achievements, such as VHS video, Microsoft windows OS
and NTT Docomo i-mode have exhibited network effects. The purpose of this study is to present a
new elaborated concept of network effects and eight perspectives in platform products withlayered structure which constructed by three players i.e. platform leaders, complementary
products (complementors) and users.
Firstly, there have been many studies about network effects and almost all studies have argued
the influence to end-users, based on the network scale (the number of subscribers). However, thestudy alludes the necessity of network effects with the significance of linkages between members
i.e. access frequency and weight, as well as the number of linkages between members.
Secondary, the study classifies four categories and eight perspectives working between couplesof layers among platform products, complementary products and users. Four categories are as
follows,① Network effects between users, ②Network effects between complementary products(complementors), ③Network effects between a user and complementary products(complementors), ④ Network effects between a complementary product (complementor) andusers.
Consequently, the study offers two suggestions. The First one is a new elaborated concept
regarding network effects i.e. the significance of linkages between members. The other one is four
categories between couples of layers among platform products, complementary products andusers, compared with two conventionally categories between products and users typically by Katz
& Shapiro (1985). In addition, an actual case is presented to each four category, which exhibits
the theoretical difference concerning network effects between the study and that of Katz &Shapiro (1985).
Keywords: Network effects, Platform products, Complementary products, Complementors

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Network Externalities， Competition, and Compatibility Michael L. Katz; Carl Shapiro (1985)•

There are many products for which the utility that a user derives fromconsumption of the good increases with the number of other agents consuming
the good. There are several possible sources of these positive consumption
externalltles.1•

1）The consumption externalities may be generated through a direct physicaleffect of the number of purchasers on the quality of the product. The utility
that a consumer derives from purchasing a telephone， for example， dearly
depends on the number of other households or businesses that have joined
the telephone network. These network externalities are present for othercommunications technologies as well, including Telex，data networks， andover-the-phone facsimile equipment.

•

2）There may be indirect effects that give rise to consumption externalities. For
example，an agent purchasing a personal computer will be concerned with thenumber of other agents purchasing similar hardware because the amount andvariety of software that will be supplied for use with a given computer will be
an increasing function of the number of hardware units that have been sold.
This hardware-software paradigm also applies to video games， video players
and recorders，and phonograph equipment.

Network Externalities， Competition, and Compatibility Michael L. Katz; Carl Shapiro (1985)
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Network Externalities， Competition, and Compatibility Michael L. Katz; Carl Shapiro (1985)•

In addition to the sources of consumption externalities mentioned inthis paper, there are a number of more subtle ones， These include: （i)the fact that product information is more easily available for more
popular brands; ii）the role of market share as a signal of product quality;and （iii）purely psychological, bandwagon effects.

1

Network Externalities， Competition, and Compatibility Michael L. Katz; Carl Shapiro (1985)
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References of network effects on this study( in case of the number of linkages)

Classification on
this study

Place where
exhibits network
effects

Factorbringing
effects

Substance ofeffects 'example

Actual cases in case of thenumber of linkages

Example:Which to choose?

①Network
effects between
users

Between users

The numberof platformproducts’users

Sharingcomplementary
products and its
information withother users

Word OR
Ichitaro？

②Network
effects between
complementary
products

Betweencomplementary
products(complementors)

The numberof platformproducts’users

Offering
complementary
products of its own
with tie-in othercomplementary
products

MS-Word users chose tocontinue the same OS ascomplementary products in asystem renewal to share
applications, and information
regarding OS with others.
Complementors developing
statistics software chose to
adopt the spreadsheet softwarethat is already diffused widely.

③Network
effects between
a user andcomplementary
products(complementors)

A user andcomplementary
products(complementors)

The number
and diversityofcomplement
ary products(complement
ors)

Getting the number
and diversity ofaccessible
complementary
products(complementors)

Game users chose the platform
i.e. game hardware brand,
because of the diversity of
application software.

Sony Playstation OR
Microsoft
Xbox？

④Network
effects betweenacomplementary
product(complementor)
and users

A
complementary
product(complementor )and users

The number
and diversityof end-users
and usersegments

Getting the number
and diversity ofaccessible users
and user segments

Complementors developing
portable game contents
application chose the platformgame maker due to the numberof game users.

Sony PSP OR
NintendoDS？

Excel OR
Lotus 1-2-3？

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References of network effects on this study( in case of the significance of specific linkages)
Classification on
this study

Place
where
exhibits
network
effects
Betweenusers

Factor bringing
effects

Substance ofeffects’ example

Phenomenon in thecase of thesignificance of specificlinkages

Examples: Actualcases

The number ofplatform
products’ users
and accesssignificanceSharingcomplementary
products and its
information withother significant
users

Prevalence (orsurvival)of platform between
specific significant
users even it has
small number

A user adopts thesame application withpartners because they
are using only Ichirato.

② Network
effects between
complementary
products(complementors

Betweencomplementaryproducts(complementors)The number ofplatform
products’ users
and accesssignificanceOffering
complementary
products of its own
with tie-in othersignificant
complementary
products

Prevalence (orsurvival)of platform between
specific significant
complementary
products even it has
small number

A complementor
releases integrated
software; Lotus Super
Office for niche longstanding users③Network
effects between
a user andcomplementary
products(complementors)

A user andcomplementaryproducts(complementors)The number anddiversity ofcomplementary
products(complementors)
and accesssignificance

Securing theaccessibility ofsignificant specificcomplementary
products and(complementors)

A user chooses Sony
Play station for getting
killer game application
software. e.g. Final
Fantasy X④Network
effects between
a complementary
product(complementor)
and users

A
complementary product(complementor )andusers

Prevalence (orsurvival)of platform between auser and specificsignificant
complementary
products even it has
small number
The number andSecuring thePrevalence (orsurvival)
diversity of endaccessibility ofusers and user
significant specific of platform between asegments andusers and usercomplementor andaccesssegments
specific significant
significanceusers even it has
Kazuhiko Kato & Tatsuyukismall
Negoronumber①Network
effects between
users

Kato & Negoro

A complementor
developing a cooking
recipe application
choose Nintendo DS
with targeting thesegment of
32
housewives

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