Foreclosure, Entry, and Competition in Platform Markets with Cloud

Platforms in two-sided markets compete over time by introducing new generations of their platform which they sell to consumers. New generations also allow the seller side of the market to produce and sell new products to consumers. For example, smartphones and video game consoles develop a new generation of their platform that is sold to consumers and that allows developers to produce and sell new apps or games to consumer. New platform generations are often backward compatible. That is, apps and games from the previous generation of the platform can be used on the current platform. Thus, cloud storage that is offered by the platform allows consumers to access previously purchased products which generates an opportunity cost for consumers that previously used a platform. When platforms compete over time, this opportunity cost acts as a switching cost on the consumer side of the market. This paper analyzes how backward compatibility affects dynamic platform pricing, the extent of platform focality, and platform entry and foreclosure. I find that unless the entrant’s platform is of significantly higher quality than the incumbents existing platform, an incumbent platform is able to retain its consumer base resulting in the entrant’s platform only capturing the least profitable consumers and making minimal profits. Thus, being first to market in a two-sided market where an incumbent can successfully retain its customers creates a significant competitive advantage