12-6-7 Disruptive Text Article

7/31/2019 12-6-7 Disruptive Text Article

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DIGITAL DIFFUSION AND THE PROSPECT OF DISCONTINUOUSCHANGE IN THE

HIGHER EDUCATION TEXTBOOK INDUSTRY

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1. INTRODUCTION

Digital diffusion has indisputably changed the nature of publishing. For example,

previously published materials were predominately available at brick and mortar stores. Now,

virtually all printed material is available through the internet. The techniques of publishing have

changed from setting type to desktop publishing. This has reduced costs to large publishers and

opened the realm of publishing to authors with limited resources.

This raises the specter of the magnitude and character of this change, Is this change

sustaining and enhancing the existing compatancies of dominant incumbent publishers?

Alternatively, does this change undermine these existing compantcies, disrupt the status of

incumbents, and provide opportunities for new entrants to succeed in the industry?

Aspects of the effects of this digital diffusion and its concomitant change have been

explored in other chapters of this volume, For example, Faustino (2012) investigated the

disruptive elements and trends in the general publishing industry. Colbjrnsen (2012) examined

edge and ad hoc innovators in relation to digital publishing and book apps.

This chapter focuses on whether the effects of digital diffusion into the higher education

textbook sector has fomented sustaining or disruptive innovations.

2. The Background of Higher Education

Textbook Publishing.

Historically, higher education textbook publishing has been a relatively low technology

industry in comparison to the usual technology focused industries studied by innovation scholars.

In fact, prior to the advent of digital publishing, the printing process employed in textbook

publishing was a direct and close descendent of the Guttenberg press process of the 15th century.

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As a result, the financial success of college textbook publishers has largely been based on its

distinctive traditional business model.

The traditional business model involves publishers marketing to educators who make the

decision to adopt a textbook. After the adoption decision by educators, publishers are essentially

free to sell the textbooks to the captive market of students without the influence of any price

competition. The product was traditionally a printed, hardbound textbook, which was revised on a

regular cycle in order to render used textbooks obsolete. This business model, more than the actual

textbooks themselves, has been the centerpiece of the financial success of the dominant, incumbent

publishers.

Over the past twenty-five years, the book publishing industry has produced a succession

of new products, many based on the utilization of digital technology. These include supplemental

materials such as online cases and chapter readings homework that can be answered and corrected

on a computer, and textbooks custom designed by individual professors. Given the fundamental

nature of the traditional industry business model, if these innovations are disruptive, they are

bound to undermine the traditional business model; if they are sustaining or continuous, they will

perpetuate the traditional business model (Christensen, & Raynor,. 2003; Johnson, Christensen,

and Kagermann, H. 2008).

These issues are examined through a comparative case study of the McGraw Hill Higher

Education division, a company that has been a leader in the industry for over one hundred years,

and Flat World Knowledge, Inc., a relatively new entrant into the industry and a digital native that

applies (at least in part) a non-traditional, Freemium business model.

Tthe analysis in this study will examine the consistency of available case evidence with

one of two innovation scenarios. Scenario one, that digital diffusion is disrupting the traditional

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college textbook publishing business model of McGraw Hill and other incumbent publishing

companies, which provides an opportunity for new market digital publishing entrants (such as Flat

World Knowledge) to penetrate the book publishing market. Scenario two, that digital diffusion

of e book publishing business models and offerings are promoting a wave of sustaining or

continuous innovation that supports the traditional business model and consolidates the dominance

of incumbents (such as McGraw Hill).

This chapter is comprised of six sections.

This introduction comprises the first section.

The second section reviews the conceptual framework (including a literature review).

The third section describes the studys case comparison methodology.

The fourth section presents the rcase study findings based on interviews, the analysisof annual reports and other public records.

The fifth section sets forth the studys findings, its implications for the chaptersprimary study questions, and reviews areas for future study.

3. THE CONCEPTUAL FRAMEWORK

As previously noted, the recent history of the college textbook publishing industry has

a. included the introduction of new products and services, mainly based on digitalcapabilities. It is necessary to aexamine these innovations in the context of thetraditional college textbook publishing business model to assess the nature andcharacter of these developments and the magnitude of change that they have fomented.Sustaining and Disruptive TechnologyChange .

The concept of the technology based change is well founded in th discipline of

Management (Tushman & Rosenkopf, 1992; Tushman & OReilly, 1996; Christensen, 1997;

Christensen et al, 1998; Loch & Huberman, 1999; Romanelli & Tushman, 1994; Gersick, 1991;

Klepper, 1996). Technology based change is generally divided into two categories: incremental or

sustaining change or innovation, and revolutionary, discontinuous, fundamental, radical,

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transformational or disruptive change (Tushman & Rosenkopf, 1992; Tushman & OReilly, 1996;

Christensen, 1997; Christensen et al, 1998; Loch & Huberman, 1999; Romanelli & Tushman,

1994; Gersick, 1991; Klepper, 1996).

III.

The disruptive innovation paradigm provides a strong framework to analyze the nature and

transformational potential of business innovations. Clay Christensen is credited with introducing

the concept of disruptive innovation into the lexicon of business management (Christensen, 1997;

Christensen and Raynor, 2003; Christensen, Anthony, and Roth, 2004).

The disruptive innovation model divides innovations into two general categories, disruptive

innovations and sustaining innovations (Christensen, 1997: p. xviii). Sustaining innovations are

developments that improve on the existing performance of a product, process or business model.

In contrast, disruptive innovations bring to a market a very different value proposition than had

been available previously (Christensen, 1997: xviii). Often, disruptive innovations

underperform established [products, processes, or business models] in mainstream markets. But

they have other features that a few fringe customers value. Products based on disruptive

[innovations] are typically cheaper, simpler, smaller, and, frequently, more convenient to use

(Christensen, 1997: xviii).

Disruptive innovations usually enter the market in one of two ways (Schmidt and Druehl,

2008: pp. 347-369). First, low-end disruption occurs when the new product enters the low-end of

the existing market and then moves up-market (ibid.). New market disruption occurs when the

innovation meets a need for customers that are distinctly different than those of existing low-end

customers (ibid.).

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The defining characteristic of sustaining innovation is its competency enhancing nature;

that it results in developments that improve on the existing performance of a product, process or

business models (Christensen, 1997; Christensen et al, 1998).

The primary feature of disruptive change or innovation is that it is competency destructive

and undermines the status quo of the industry in which it occurs (Christensen, 1997).

Under the Christensen paradigm, disruptiveinnovations enter an industry at the low quality

or minimal feature and low priced market segment or industry tier. (Christensen, 1997: xviii). As a

result, incumbents cede the lower end of the market to new entrants because the new technology

does not adequately serve the core, most profitable customers of incumbents (Christensen, 1998).

This allows the technology to gain a secure foothold in the industry.

Other studies have also examined the underperformance of incumbents presented with

discontinuous technological innovation. These articles attribute this phenomenon to inertia,

filtering, processes, procedures, and culture oriented to the prior technological regime or dominant

resign (Tripsas & Gavetti, 2000; Tushman & Rosenkopf, 1992; Tushman & OReilly, 1996;

Hannan & Freeman, 1977, 1984; Henderson & Clark, 1990; Gersick, 1991; Sull, 1998).

The Christensen branch of this theory suggests that as new technologies develop, their

offerings move towards the main stream, and incumbents are driven towards niche position

(Christensen, 1997). This results in the former dominant firms losing market share and moving

toward extinction (Christensen, 1997; Christensen et al., 1998).

The existing literature is inconclusive as to whether an ambidextrous strategy (i.e. a

strategy that continues to pursue the prior dominant design and also pursues the new innovations

vying for a position of dominance) can successfully address the challenges presented by

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discontinuous innovation. Christensen (1997) found that such a strategy interferes with

incumbents future successes by holding them captive to obsolete cultures, filters, routines, and

processes. However, Tushman and OReilly (1996) suggest that such an ambidextrous strategy

can successfully serve as a bridge between the prior dominant design (ie. print publishing) and the

new innovation (i.e. the emerging new dominant design, i.e.. the digital publishing).

For the purposes of this study, five factors characteristics are analyzed to examine the

sustaining or disruptive character of the relevant innovations. First, whether the innovation brings

new value to the market (disruptive) or helps the status quo value (sustaining). Second, whether

the innovation as entered the market place enhances the performance of existing technology

(sustaining) or underperforms the existing technologies (disruptive). Third, whether the innovation

is less expensive, simpler, or more convenient (disruptive) or not (sustaining). Fourth, whether the

segment of the market served by innovation is ceded by incumbents as they move up market

(disruptive) or whether incumbents compete for this market share (sustaining). Fifth, whether new

entrants capture the lower end of the segment or industry, aggrandize their position, and then move

up market as the innovation is further developed (disruptive) or not (sustaining). A chart of these

factors is attached as appendix A.

4. CASE STUDY DATA AND

METHODOLOGY

a. Case Comparisons:

b.

.

This study examined how an incumbent textbook publisher with a legacy of print

publishing business models and print offerings and a new textbook publisher that was born digital

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developed their digital offerings and business models over time. Specifically, we wanted to

investigate how the diffusion of digital technologies and tools for digital publishing shaped the

evolution of digital publishing choices and business models for each publisher. Extant theory on

disruptive and sustaining technology and associated impacts on organizational and industry

evolution inform the construction of scenarios for the higher education publishing sector, and the

expectations for publisher choices within each scenario.

The research approach consisted of an archival study of two contrasting cases of publishers.

A case-based approach is justified for exploring the meaning and validity of new analytical

categories like our disruptive and sustaining innovation based organizational change, since as Yin

(1993) points out, a case-based approach is especially advantageous when the analytic goal is to

relate a narrow range of phenomena (ie digital diffusion) to a broader context ( ie. textbook

publishing) . Case-based research is especially applicable when, as here, the boundaries between

phenomenon (digital publishing technology diffusion ) and context (e.g. digital publishing

strategy) are somewhat unknown and require clarification (Yin, 1993, p. 13; Eisenhardt and

Graebner, 2007). Multiple case studies are an appropriate method for theory building (Eisenhardt,

1989) and analytical generation (Yin, 1993, p. 37).

Case One; An Incumbent Publisher with a Print Publishing Legacy.McGraw Hill has been involved in the Higher Education Textbook Industry for more than

one hundred years. It is a publically traded company. Accordingly, the history of its business

conduct is widely available through its annual reports, 10K filings, and press accounts regarding its

business conduct.

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In summary, McGraw Hill is a venerable publisher that has adapted its offerings and

perhaps been at the vanguard of employing digital technology. It is a dominant incumbent in the

industry.

Case Two: A Digital Native Publisher Flat World Knowledge, Inc.

Flat World was created as an online digital publisher that, at least in part, offers access to

textbooks for free. Flat World is essentially an upstart publisher that touts an innovative business

model that includes a Freemium revenue model component. This involves providing free access to

digital versions of its textbooks on its website. It also offers inexpensive black and white versions

of its textbooks and other study materials to students through its website.

In summary, Flat World is a new entrant with digitally based innovations that, on first

examination, appear to target the low end of the market

c. Data Sources.

The data analyzed in this study is was derived from a number of public and private sources.

Data on McGraw Hill is principally derived from twenty-five years of annual reports, from

1986 through 2011. This focus on annual reports is particularly appropriate since these documents

describe both the factors influencing the market place and a firms strategies to exploit this

environment. They are subject to significant regulation, oversight by the SEC, and substantial

scrutiny by independent auditing firms and by industry analysts. Thus, the information set forth in

annual reports in generally considered reliable. This data is supplemented by 10K reports,

memoranda released by firms, and financial, strategic, and market share data held by such firms.

Data regarding Flat World was derived from information provided by the company to

publishers and academics, information in trade publications and the general press. Further

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information was also obtained through interview with the president of Flat World Knowledge, Jeff

Shelstad, conducted telephonically on February 1, 2012.

Industry and market share data are derived from industry trade associations such as the

National Association of College Stores, the American Textbook Council; from research and data

developed by textbook publishers such as McGraw Hill and Flat World Knowledge, and from on-

line retailers such as Amazon, from public sources such as the Department of Education, and from

industry coverage in the New York Times.

IV. Case Findings;

MCGRAW-HILL

McGraw-Hill is a seminal participant in the modern higher education textbook market.

The company was founded in 1898 and has been continually involved in textbook publishing since

that time. Presently, McGraw-Hill is the third largest college publisher in the United States

(McGraw-Hill Higher Ed. Intensifies Its Strategy : p. 1).

Its education division is responsible for a significant component of the parent companys

revenues. For example, MHE contributed 40.1% of the parent companys 2009 revenues (The

McGraw-Hill Companies, Inc. Company Profile, 2010: p. 8). The Higher Education,

Professional and International Group, known as HPI, serves the college and university markets,

as well as professional, international and adult education markets (The McGraw-Hill Companies,

Inc. Company Profile, 2010: p. 8).

Through most of its history, MHE has relied on the traditional educator focused business

model to produce extraordinary performance. In the historical absence of technological

innovation, publishers have employed a differentiation strategy focused on employing a rather

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small cadre of academically distinguished scholars to author textbooks, textbooks have been

published mainly in hardback format, and the final product was sold to students mainly through

dedicated college bookstores.

The traditional dominant design in the industry has been inextricably connected to its

unusual business model. The consumer value proposition component of the business model targets

the professors and administrators that select the textbooks and make the purchase decision. These

educators are the gatekeepers. The targeting of educators has involved deploying a strong sales

force to convince professors and educators to adopt the publishers textbooks. This has also

involved providing free textbooks and materials to professors and designing the publishers

offerings to appeal to solving the needs of professors (e.g. instructors notes, standard homework

assignments, pre-fabricated quizzes and exams). The profit formula component of the business

model is based upon purchases and payments from the captive consumer base comprised of

students (Koch, 2006). Thus, the key CVP component of the traditional business model largely

ignores the needs of the ultimate consumer, the students.

Historically, a further component of the traditional textbook business model is that

distribution has largely transpired at the college books stores dedicated to conducting business at

the institution where the educator is employed (CITE). This limited point of distribution has

further served to make the student purchaser a captive consumer, powerless to influence either

price or selection through the elementary economics principles of supply and demand.

Finally, the revision cycle rewriting existing textbooks renders prior editions largely

obsolete and forces students to purchase new textbooks at high prices.

Thus, in or about the early 1980s, at the advent of the digital era, McGraw Hill provided

print four color textbooks and published ancillary materials (e.g. workbooks, homeworks, practice

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tests), authored by distinguished scholars, marketed to educators that selected the required editions,

distributed mainly through college or university bookstores, and sold to a captive student body that

was forced to purchase the textbooks in order to pass the classes in which they were enrolled.

The issue explored in this study is whether the digital innovations that followed were

sustaining or disruptive. Specifically, were the new digital publications competency enhancing or

competency distructive? Did they target the low end of the market or simply help solidify market

share within the market? Did they bring new value to the market or help sustain the status quo

value? Did they undermine the traditional educator focused business model or help entrench this

business model? Did the innovations underperforms the existing technologies when they entered

the market or did they improve the performance of existing products and services? Were the

innovations less expensive, simpler, or more convenient? If the innovations served the lower end

of the market, did they cause dominant incumbants to cede the lower end of the market move up

market to continue with their prior offerings? Did the new digital offerings allow their adopters to

capture the lower end of the segment or industry, aggrandize their position, and then move up

market as the innovation is further developed?

McGraw Hills annual reports from 1986 through 1997 clearly demonstrate the firm

essentially continued to offer the products and adhere to the same educator focused business model

during this period.

In 1986, McGraw Hills college division was part of a unit referred to as the Book

Company (McGraw Hill annual Report, 1986, p. 21). The report states that its revenues were

based substantially on newer revisions of several publications.

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With regard to digital diffusion, the 1986 Annual Report prospectively refers to the

computer and communication revolution which will transform the industry (p. 1). In this context,

the firm also boasts about the introduction of its initial digital offerings, CD ROM products (p. 2).

At this time, the College Divisions sales were down. Specifically, revenues had

decreased by 17% over the previous year. From this time in 1986 until the present, the Higher

Education Division experience continual growth.

In 1988, the company restructured into three divisions: Publishing, Information Services,

and Financial Services (p. 1). McGraw Hill acquired Random House publishing for $200 million

(p. 6). This brought on experienced sales staff on board (p. 6). The firm also stated that its plans

for increased sales growth included a focus on new editions and revisions. In fact, the following

year, McGraw Hill stated that the take-over had netted twenty five new sales managers, 127 new

editions, and 113 new revisions (McGraw Hill Annual Report, 1989, p. 14).

Although it had previously recognized the advent of the digital revolution, the Annual

Report makes clear that digital products were not yet the focus of its business or future growth in

the 1980s. Nevertheless, the division grew 8.5% , up to $5.6 billion in annual revenues (McGraw

Hill Annual Report, 1988, p. 11). Future industry growth was anticipated by the predicted growth

in college enrollments (p. 11).

Thus, during the mid-1980s, McGraw Hill was clearly entrenched in the traditional higher

education textbook market. In this regard, its emphasis on sales staff and printed textbook new

editions and revisions is consistent with the traditional business model (i.e. target the gatekeeper-

educators, derive revenue from the captive student purchasers). Furthermore, the products were

still solely comprised of print materials. No innovations directed at the low end of the market are

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described; no competency disruptive innovations are described. To the contrary, the emphasis on

new editions and sales staff is directed to supporting the existing price structure with the existing

products.

The 1989 Annual Report hearkens McGraw Hills new, digital custom textbook printing

service. This is demonstrated by the fact that the company vaunts that it introduced the first

computerized publishing system that lets teachers customize a textbook to match their curriculum

(p. 3). The application of digital technology to mass produce customized textbooks is not

competency destructive. Rather, it simply results in a printed textbook that excludes chapters that

a professor would not cover and includes certain materials that would have assigned through been

supplemental reading materials. The company further indicates this customized product will allow

the company to succeed against the used book market and reduce inventories (p. 14).

Customization makes the applicable textbook unique and undermines the used book

market. Furthermore, the custom textbook is clearly directed to educators, not students, since it

solves the problem for educators of allowing them to have a book tailored to their expertise and

specific teaching needs. It is significant that there are no references to providing materials to

students on a more economical basis or competing on the basis of price. To the contrary, the

emphasis on new and revised editions and undermining the used book market is a tactic that tends

to prop-up existing prices or support price increases. Such a product is based on the publisher

having a data base of substantial depth and breadth to provide the educator with a sufficient

selection of materials. Developing such a data base required the significant resources of dominant

incumbents.

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This demonstrates that the early effects of digital diffusion into the industry produced

sustaining innovations, such as custom publishing, that helped to perpetuate the traditional

business model, entrench the position of the textbooks offered McGraw Hill, support the present

pricing scheme, and otherwise secure the dominance of incumbent firms.

For context purposes, it is necessary to review the phenomenon of premium pricing and the

used book market. The traditional business model essentially imbues publishers with monopolistic

pricing power. Specifically, when a publisher convinces an educator to adopt a textbook, all of the

students that are the ultimate consumers essentially have to purchase the textbook and, due to

copyright protection, no other publisher can produce the book. This practice insulates the

purchasing transaction from the elementary economic principles of supply and demand.

As a result, the price of many texts climb[ed] to $150 or more in the U.S. (is this data

based only on North America or USA data?) (The Future of Educational Publishing, 4/17/11).

From 2007 to 2008, the average student spent $488 (NACS, 2008). During the 2010-2011

academic year, the average annual textbook cost to a student had increased to approximately $900-

$1,000 (Weir, 2010). More importantly, college textbook prices have increased at twice the rate

of inflation . Increasing at an average of 6 percent per year, textbook prices nearly tripled from

December 1986 to December 2004 . (GAO, 2005). In 2010, college textbook prices had

increased by 11 percent (Weir, 2010).

A second phenomenon is recognized in these annual reports: The influence of the used

book market. The used book market developed through repurchase of used texts from students and

reselling the used books and sale to subsequent students by college book stores. Used textbooks

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have generally cost approximately seventy five percent of the new textbook price (Please provide

CITE). Each semester, the stock of used textbooks increased until it essentially undermined the

profitability of the new textbook by limiting the numbers sold. The 2009 College Store Industry

Financial Report disclosed that used textbooks accounted for over 30% of the sales (NACS, 2009).

To combat the influence of the used book market, the major higher education textbook producers

tended to shorten their revision cycles from 4-5 years ten years ago, to 3-4 years in the current

market (GAO, 2005).

In its 1992 Annual Report (p. 15), McGraw Hill patently refers to students resistance to

higher book prices (along with decreased enrollments) as a principal factor depressing growth in

College publishing division. However, McGraw Hills response was not devise some economical

textbooks or to revise its business model and compete on the basis of price. Rather, McGraw Hill

responded by shortening its the revision cycle (p. 15). This had been the traditional tactic

employed against the used textbook market.

However, McGraw Hill now employed digital innovations as well.

For example, the 1992 Annual Report promotes its Primus custom textbook publishing data base

as a response, claiming it encourages the purchase of new textbooks (p. 15). Another digital

strategy included developing digital supporting materials to encourage the purchase of new

textbooks (p. 15). These include videodisks, videotapes, tutorial software programs, and

computerized tests. This is an early reference to bundling digital products to support the sales of

its printed materials. Again, McGraw Hills application of new digital technologies was directed

to supporting the sales of its hardbound, printed textbooks under the traditional business model (a

competency enhancing application).

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One departure from were the McGraw Hill Overture Book series. Thi was a new black and

white imprint obviously directed at offering lower priced textbooks. As simpler product entering

at the lower end of the market, this had the possibility of assuming the characteristics of a

destructive innovation under the Christensen (1997) paradigm. However, Overture Books never

divided the market into an upscale and downscale segments, and did not take over the low end. In

fact, Overture Books was never mentioned in another annual report.

From 1993 through 1996, McGraw Hill continued with the same pattern. For example, in

1993 and 1994, the Annual Reports cite the used book market and students resistance to higher

text books as the cause of relatively flat sales (1994, p. 31). In fact, in its 1994 Annual Report,

McGraw Hill acknowledged that students were buying fewer textbooks. At the time, McGraw Hill

was the third largest college publisher at the time (p. 30). During the 1993 year, McGraw Hill

stated that despite staff cuts of 8%, the sales force was expanded by over 22% (p. 11). The sales

force was directed at persuading educators to adopt McGraw Hill textbooks.

Additionally, the company clearly recognized that the digital revolution must be a part of

its future. For example, the Annual Report states that McGraw Hill is capitalizing on the growing

demand for multimedia learning products (p. 9). It continued to emphasize its Primus custom

publishing product. In the three years since its introduction, Primus had expanded to over 1,000

campuses (p. 30). The company also referred to the growing importance of on-line, CD-ROM, and

other laser disk mediums (p. 8). As previously noted, these are educator focused materials that

help organize and lead classes, manage home works, and provided notes. Each of these

applications is competency enhancing in that they ultimately supported the marketing of printed

text books to educators, the cornerstone of the traditional business model.

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In contrast to the conservative nature of its applications of digital technologies, the 1994

Annual Report predicts the close of an era when information is pushed out to consumers and the

beginning of an era when is pulled in by broadchatchers (p. 5). This would seem to require the

firm to deviate the traditional products and business model, each which focused on pushing out

educational materials through professors to students However, as demonstrated by the subsequent

years annual reports, such innovation, either in products and services, or in its business model.

never materialized.

Perhaps the most important component of the 1997 Annual Report is the overt recognition

that bundling digital supplemental materials to printed, new textbooks was designed to combat the

used book market. McGraw Hill explained this practice and its effects as follows, the used book

market share has leveled off partially due to the creation of value packs where new textbooks are

bundled with components such as CD-ROMs or Web sites (P. 29).

This again describes the practice known as bundling. This involves bundling digital

ancillary products adopted by a professor to required textbooks (e.g. self-grading home works).

Students are able to gain a valid password only with proof of purchase of a new textbook. As a

result, students cannot share these materials or sell them on the used textbook market.

Furthermore, these supplemental materials were clearly educator focused. In this regard, they

alleviate educators from the burden of having to design such practice materials, quizzes and even

tests. Moreover, in some circumstances, the quizzes and tests are even automatically evaluated and

scored by computer analysis, relieving professors from the dreaded task of grading oppressive

numbers of quizzes and exams. Essentially, this bundling represents a sustaining or competency

enhancing innovation in that required the purchase of new printed textbooks monetized under the

traditional business model.

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McGraw Hill further indicated that Technological innovation continues to gain

momentum in higher education publishing, with demand for custom publishing and Web-enhanced

curriculums growing (P. 23). This substantiates that company was still focused on applying

custom publishing as a sustaining innovation to support the traditional business model.

In 1996, a significant factor was the divestiture of Shepherds by McGraw Hill in return for

acquisition of Mayfield publishers. It also acquired Times Mirror higher Education Group in late

1996 (p. 29). It engaged in the immediate revision of titles such as KnorrePuntos de Partida, an

Invitation to Spanish, GarrisonManagerial Accounting, which expanded the existing key frontlist

materials.

The role of McGraw Hills acquisitions in the context of industry consolidation also

demands review. If the digital diffusion was precipitating an era of destructive innovation, it

would have caused the dominant incumbent publishers to suffer some negative business

consequences such as contracting market share or revenue losses. However, McGraw Hills

acquisitions had the opposite effects. The 1994 acquisition of Random House provided increased

market share by adding significant titles and increased revenues. The additions of Mayfield and

Times Mirror had similar effects.

These acquisitions were part of a trend of industry consolidation. Four firms ascended to

essentially control the industry: McGraw-Hill, Pearson, Houghton Mifflin Harcourt and Reed

Elsevier.

Through the mid-1990s, the four big publishing companies [Pearson, McGraw-Hill, Reed

Elsevier, and Houghton Mifflin] absorbed dozens of independent textbook companies. Several

major educational publishing houses have disappeared as a result of these mergers and

acquisitions (American Textbook Council, 2005: p. 2).

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Thus, the consolidations have also helped sustain the dominance of the major incumbents,

including McGraw Hill. (U.S. General Accounting Office [hereinafter GAO], 2005; Koch,

2006).

In recent years, companies such as Reed Elsevier and Thomson have divested themselves

of education businesses, feeling education has lagged behind other areas in the switch to digital

distribution (Houghton Mifflin Plans $4B Acquisition of Harcourt, 2007). For example, in

2007, publishing giant Reed Elsevier put education publisher Harcourt up for sale (Houghton

Mifflin Plans $4B Acquisition of Harcourt, 2007). Harcourt was acquired by Houghton Mifflin

(Houghton Mifflin Plans $4B Acquisition of Harcourt, 2007).

The late 1990s resulted in a continued focus on using technology to develop sustaining

innovations to support the traditional business model. In this regard, each annual report included a

statement similar to the following: technology continues to be the key trend in higher education

for course management and content delivery, the division will aggressively pursue a variety of e-

initiatives, including the already successfulPageOut, e-books, eLearning sessions, the Online

Learning Center, and faculty training and support. (McGraw Hill Annual Report, 2001, p. 28).

Other than the e-book, virtually all of these digital based innovations were deployed to help market

the companys traditional printed textbooks and to support the traditional business model.

The major innovations introduced by McGraw Hill in the 21st Century have been based on

the continued diffusion of digital capabilities. ALEKS was also introduced in 2001; this is an on-

line evaluator and tutor for higher education math (McGraw Hill Annual Report, 2002, p. 13).

Grade Summit was also launched in 2001; this helps college students assess learning needs,

optimize study efforts, achieve better grades (McGraw Hill Annual Report, 2001, P. 13). Both

ALEKS and Grade Summit ultimately utilize technology to alleviate educators from performing

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these evaluations and tutoring functions. This focus on educators helps confirm the firms

perpetuation of the traditional business model and, hence, the sustaining nature of the

technological innovations.

McGraw-Hill launched its present custom educational publishing platform, Create, in 2010

(McGraw-Hill, Cengage Enhance Custom Offerings, 2010: p. 5). Create is a self-service

website that allows [professors] to create custom course materials print and eBooks by drawing

upon McGraw-Hills comprehensive, cross-disciplinary content (McGraw-Hill Website - Create,

2011). This includes 4,000 leading textbooks .. 5,500 articles 25,000 law and business

cases 11,000 readings (ibid.; McGraw-Hill, 2010 Annual Report, p. 8). It allows access to all-

rights-reserved, third party sources, such as the Harvard Business School library (McGraw-Hill

Website, Special Collections, 2011). It also allows educators to upload their own custom content

(McGraw-Hill Website - Create, 2011). According to McGraw-Hill Higher Education, custom

publishing has been increasing at 25% a year (McGraw-Hill, Cengage Enhance Custom

Offerings, 2010).

McGraw-Hill now offers about 95 percent of its current textbooks in eBook form,

featuring interactivity, search and note-taking functionality (McGraw-Hill Website Fact Sheet,

2011). However, e-textbooks are not a significant component of the market. In this regard, .

McGraw-Hill Connect is a comprehensive on-line, all-digital platform that serves as

interface between course materials and students (McGraw-Hill Website Connect, 2011).

Connect provides students with access to their professors recorded lectures, notes, Powerpoints,

practice exams, and homework assignments (Global Publishing Industry Profile 2009: p. 9). It

also gives instant feedback on homework (ibid.). The company indicates that it has experienced

strong growth in its Connect product (McGraw-Hill, Cengage Enhance Custom Offerings, 2010;

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McGraw-Hill, 2010 Annual Report, p. 30). As a result, McGraw-Hill is adding 170 new online

courses (ibid.).

McGraw-Hill also has formed a partnership with Blackboard Inc. to make its full Connect

materials fully compatible with, and accessible to students on their college or university

Blackboard sites (McGraw-Hill Website Fact Sheet, 2011).

McGraw-Hill predicts that technology will continue to be a key trend for course

management and content delivery (ibid.). A key McGraw-Hill strategy is to focus on driving

digital usage including e-books, homework support for students and online faculty training and

support (ibid.).

Needless to say, each these innovations is a tactic focused on persuading educators to adopt

McGraw Hill products and services and to help market its printed textbooks. In this regard, the

marketing and sales of these digitally based products is directed to universities and colleges and

universities. In the first instance, they often reduce the work load of professors. For example,

Connect is a streamlined manner for professors to disseminate course materials and even avoid

the onerous task of correcting quizzes, homework assignments, and examinations. It is necessarily

connected to the use of a McGraw Hill printed textbook as the principle teaching tool. Similarly,

Create, the current custom publishing system, is continually referred to in the context of

professors and educations, not to students. These factors confirm that McGraw-Hill has been

focused on the current traditional business model and has used technology as a sustaining

innovation to produce printed textbooks that are marketed and distributed under the traditional

business model.

Furthermore, during the period between 2000 and 2010, MHE revenues grew from $880.4

million to $1,323.7 million in revenues (McGraw Hill Annual Reports 2010, 2011). The company

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attributed these increases to the growth in enrollment in higher education institutions during the

same year. 2010 revenue growth was generated from traditional print published titles; including

Nichols, Understanding Business, 9e;Holes Human Anatomy and Physiology, 12/e; Lucas, The

Art of Public Speaking,10e; Saladin,Anatomy and Physiology, 5/e; and Sanderson, Computers in

the Medical Office, 6/e (ibid.: pp. 22, 30). Digital growth was achieved by the Homework

Management product line, which was related to the Connect platform (ibid.: p. 30). These digital

applications are patently competency enhancing in that they ancillary to a print textbook utilized

by the class and support the traditional business model.

This essentially follows the archetypal pattern of sustaning change: Strong, steady

financial performance by a dominant incumbent based on the continued execution of its traditional

business model and sustained by incremental technical innovations.

In summary, McGraw Hill digital innovations have mainly focused on ancillary products

and services that tether educators and students to its printed textbooks that are marketed and sold

through its traditional business model (i.e. that markets to educators and sells to captive students).

These digital innovations include Create (that allows professors to customize their printed

textbooks essentially an incremental improvement on the printed textbook) and connect (that

provides on-line study materials, homework, and tests that are corrected by computer essentially

an incremental improvement on printed supplemental materials). None of these digital products

and services entered the market at the low end. Instead, they were inextricably attached to high

end, printed textbook offerings. None of these digital innovations underperformed the market.

Rather, they essentially increased the performance of the printed textbook and other previously

printed ancillary materials (e.g. workbooks and homeworks were printed before they were

distributed on line and were self-correcting). None of these digital innovations were alternative

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inexpensive substitutes for the more expensive printed textbooks. To the contrary, in certain cases,

such as bundling, the digital offerings were part of an explicit tactic to support the premium pricing

enjoyed by McGraw Hill. None of these innovations undermined the traditional educator focused

business model. These facts support the conclusion that digital diffusion into the higher education

textbook industry has been the basis for sustaining, not disruptive, innovation.

A. FLAT WORLD KNOWLEDGE, INC.

Flat World was founded in 2007 on the premise that it could offer higher education

textbooks to students via Internet for free (Publishing Perspectives, 8/23/2010). Given that it is

difficult to compete on the basis of price with a free offering, such an innovative business model

has the potential to be an agent of disruptive change in the educational textbook market industry.

The most salient characteristic of Flat World is the fact that it makes access to all of its

textbooks available for free at its Website. This is obviously a product, service, and tactic that is

based on digital technology.

However, the free use of these textbooks is limited. They may only be viewed at the Flat

World website for free; they cannot be downloaded, printed, or stored on a persons laptop or

tablet for free. As a result, the company generates revenues through the sale of . optional materials

to students (Snyder, 2009). For example, consumers can elect to order a print copy of any book

for between $29.95 and $69.95 (Flat World Knowledge Website, 2011). The textbooks can be

self-printed for $24.95 or e-books can be downloaded for the same price (Flat World Knowledge

Website, 2011). Flat World also offers supplemental class material, such as study aides for $14.95,

and audio books for $39.95 (Flat World Knowledge Website, 2011). Single chapters can be

downloaded for $2.49 (Flat World Knowledge Website, 2011).

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Only 1% to 2% of its website traffic is directly related to its free offerings (Flat World

Interview, 2/1/12). Based on data collected during its 2009 Beta release, Flat World learned that

two thirds of its orders are for print copies of the textbook and one third are for PDFs and study

aids (ibid.). Approximately, 70% of its printed material is distributed through college bookstores

and 30% is distributed digitally through its website (Flat World Interview, 2/1/12). The majority

of demand is for its economical black and white materials (Flat World Interview, 2/1/12).

According to Flat World, its consumers make 1.2 purchases per site visit and one in ten purchase

additional study materials.

Flat World estimates that it receives an average of $20 per individual consumer. This

breaks down as follows. Flat World indicates that approximately 65% of its users purchase some

add-on for an average purchase of $34 (Flat World Knowledge Website, 2011; Flat World

Interview, 2/1/12; 150,000 College Students to Save $12 Million ,2010; Anderson, 2010).

Flat World began offering textbooks in the area of business studies (Publishing

Perspectives, 2010). However, it has now expanded into the twenty-five of the largest disciplines,

which are comprised of general education courses, such as introductory psychology and sociology

(Weir, 1/20/10). This expands Flat Worlds potential consumer base to community colleges, as

well traditional colleges and universities (Snyder, 2009). Furthermore, Flat World is expanding its

original 20 book library to approximately 50 books by 50 authors by 2012.

The company began to offer its textbooks to the general public in March 2009 (ibid.). The

textbooks are produced in a manner similar to traditional textbook publishers: they are authored by

respected scholars under peer review (Ibid.; Snyder, 2009;150,000 College Students to Save $12

Million ,). As of August 2010, Flat World had published twenty four textbooks, which were

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selected by 1,300 professors at 800 different colleges in the U.S. and fifty other countries (ibid.).

This is three times more professors than the previous year (ibid.).

Flat World authors enjoy a high royalty rate of 20% (in contrast with the 15% royalty rate

in the traditional textbook business model) (Publishing Perspectives, 8/23/2010). Under the Flat

World model and its digital technologies, textbooks are continually updated in real time and made

available through the Internet (Flat World Interview, 2/1/12). This results in an average revision

cycle of six to nine months (Flat World Interview, 2/1/12). Moreover, the revision schedule is

driven by the author and professor, not the publisher (Flat World Interview, 2/1/12) This liberates

the Flat World books from the traditional three-year revision cycle. This also means that the

authors are free from the devaluing effects of the used book market, piracy, and the international

book market (Publishing Perspectives, 2010).

Flat World indicates that its custom textbook options are a key to its future success (Flat

World Interview, 2/1/12). Under Flat Worlds custom textbook option, professors are permitted, in

fact encouraged to customize any textbook (Publishing Perspectives, 2010; 150,000 College

Students to Save $12 Million , 2010; Flatworld Interview, 2/1/12). This includes omitting

chapters or even adding material (ibid.). It is estimated that over 30% of its books have been

customized by faculty (ibid.). This is made possible by a Creative Commons License, rather than

the traditional all rights reserved approach employed by traditional publishers (ibid.; 150,000

College Students to Save $12 Million ,2010). This permits professors that adopt a Flat World

textbook to make changes even at the sentence level (Flat World Interview, 2/1/12).

This leads to the issue as to whether Flat Worlds business model and the foregoing

factors describe a pattern of discontinuous or disruptive change, or possible emergence of Flat

World as a new dominant incumbent that contributes to an era of sustaining or continuous change.

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The actual products and services, e-books, printed textbooks, and ancillary services such as

digital work books, study guides, tests and educator customized textbooks are essentially similar to

those offered by McGraw Hill. Thus, they do not particularly underperform the market, or offer

more limited features. The textbooks are authored by respected academics and its catalog

corresponds to the trdtional course offerings. The books and ancillary materials are offered at less

expensive prices than those offered by McGraw Hill. However, alone, this essentially constitutes a

price differentiation strategy. Thus, the intrinsic characteristics of Flat Worlds products and

services do not appear to be disruptive innovations.

However, a business model itself can constitute a disruptive innovation. Flat World does

offer access to its textbooks for free on its website. This is clearly designed to market its materials

directly to students. This represents a radical departure from the traditional higher education

textbook business model, which marketed textbooks to educators to help support premium pricing.

In terms of physical publication, the Flat World free on-line textbooks are simple, black and white,

digital files. Thus, they have some of the characteristics of disruptive innovations: They are

entering at the low end of the market, they are cheaper, simpler, and underperform the four color

imprints offered by McGraw Hill.

However, to succeed, such a Freemium model must attract or be attached to a profitable

revenue stream and allow Flat World to move up market. The free on-line textbooks, as

educational materials, cannot attract revenues through advertising. Also, they are not bundled;

they do not require the mandatory purchase of any other products or services. Thus, the Freemium

component of Flat Worlds business model is not self-sustaining.

Flat World does subscribe to a traditional higher education textbook business model as

well. In this regard, Flat World focuses on persuading educators to adopt its textbooks and

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ancillary materials, which in turn generates sales to a captive student population. Flat World

appears to focus on differentiating itself from other higher education textbook publishers in two

ways.

First, it offers all of its materials at substantially lower prices. Flat World textbooks cost

between $29.95 and $69.95 (Flat World Knowledge Website, 2011), and the textbooks can be self-

printed for $24.95 or e-books can be downloaded for the same price (Flat World Knowledge

Website, 2011). The average textbook is now $. Flat World anticipates making profits through

the volume that will be generated by offering its products to students at a fraction of the price of

the traditional textbook publishers (Publishing Perspectives, 2010). Flat World estimates that each

of its textbooks will achieve profitability at around the fifth semester that a book is available

(Publishing Perspectives, 2010).

Second, its custom book publishing is more extensive than those offered by dominant

publishers such as McGraw Hill. This is made possible by a Creative Commons License, which

allows even sentence level alteration.

Flat World is also focused on competing in the heart of the market. This includes twenty-

five of the largest disciplines, which are comprised of general education courses, such as

introductory psychology and sociology (Weir, 1/20/10).

Thus, its business model is conventional and aimed at educators.

However, the Freemium offerings considered in conjunction with the traditional business

model suggests that Flat World is pursuing an ambidextrous business model. This is comprised of

offering access to its catalog for free on-line and marketing and selling print textbooks and

ancillary materials under a traditional business model.

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CONCLUSION

McGraw Hill has continually developed digitally based products and services that solve

problems for educators as the targeted consumers. This include Create, a custom text book

publishing product that allows professors to design their own textbooks from available materials;

Connect, a product that a product that relieves professors of the task of composing,

disseminating, and correcting quizzes, homework assignments and tests. Furthermore, McGraw

Hills higher education publishing division has had respectable earnings in virtually each of the

relevant years. Thus, there is no evidence that this dominant incumbent is retreating up-market or

surrendering market share or otherwise suffering negative business consequences as a result of this

pattern of digitally based innovations. Accordingly, McGraw Hills innovations have clearly been

sustaining in nature and directed at perpetuating its traditional business model.

It is axiomatic that Flat World is entering the textbook market at the lowest end by offering

its products for free. For the add-on sales, the average transaction is $34. Books are available in

black and white through print on demand or by download in PDF format. This clearly appeals to

existing low-end users who do not require the features of the traditional textbooks and wish to pay

a lower price. Finally, the low price and easy accessibility also attract the un-served market

presently diverted to the used book market, international editions, or pirated material. Thus, the

entry point and consumer value proposition fit the disruptive innovation model.

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However, the Flat World business model is dependent on educator adoptions, not direct

student sales. Furthermore, its focus on its common license custom publishing products is

essentially a differentiations strategy, designed to distinguish its service form the service offered

by McGraw Hill and the other dominant incumbents.

Furthermore, Flat World has formed strategic alliances with Virginia State University and

the University System of Ohio to provide the main textbooks to all students (VSU, 2010; Reid,

2011). This will undoubtedly require coordinating with the relevant college bookstores, the

traditional point of distribution for higher education textbooks (nb. the Freemium component of

their business model would displace these book stores as a link the value chain). Additionally, Flat

World has formed another strategic alliance to publish audio books and brail books for

handicapped persons.

In summary, these factors suggest sustaining or continuous change.

The radical Freemium component of the business model has existed since 2007 and has not

heretofore undermined the college textbook market. Rather, it has evolved into a component of

Flat Worlds marketing plan to support the educator focused adoption process. It creates a halo

effect with students, with educators at large institutions that adopt textbooks for a diverse student

bodies, and even with state legislatures that influence the adoption at large state university and

college systems (Flat World Interview, 2/1/12). For example, the president of Flat World was

invited to address the Utah state legislature on the issue of textbook expenses and access to

educational materials. The dominant incumbents have not tended to use price and improved access

to materials as part of their business strategy.

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This raises the issue as to whether this signals a retreat from the traditional business model

or a retreat up-market, as described in Christensens (1997) paradigm.

In February 2012, Flat World entered into an alliance with the MIT OpenCourseWare

program to provide complete open materials, including syllabi, lecture notes, assignments and

examination (heretofore, only textbooks were offered for free). If Flat World is moving to a more

student focused Freemium business model, and away from its current traditional educator focused

tactics, this could be evidence of the possibility of disruptive or discontinuous innovation.

These phenomena appear to require further study as the current trend develops and

becomes more clear. (it would be good at this point to suggest what future research needs to pay

attention to in order to determine whether true disruptive innovation is going to occur in the US

higher education text book market. Give the reader some suggestions of what needs to change to

provide such evidence. Also, if there are any examples of such possibilities (that are outside our

current Flat world example), please indicate that these other players might deserve closer research

attention in the future.

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