Entrepreneurial Innovations in Network Industries

Abstract

We contribute to the literature network effects by allowing entrepreneurs to sell their innovations to incumbents in addition to entering the industry. We identify three new effects. Stronger network effects make selling innovations attractive, as incumbents bid up the sales price in fear of letting a rival obtain the innovation. This improves innovation incentives. Increased compatibility, however, reduces innovation incentives by reducing the relative advantage the owner of the innovation gets, in turn resulting in a lower sales price. Finally, bidding competition for innovations is crucial. Innovation waves can occur in network industries as bidding competition is fierce in young industries with several players competing for the top spot, but weak in mature industries with a clear leader.