Confronting the Limits of Networks

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Around 1980 Robert Metcalfe, the inventor of the Ethernet standard and founder of 3Com, observed that the value of a network increases in proportion to the square of the number of people using it. This observation came to be known as Metcalfe's Law. It was similar to an idea developed by economists about network effects" — meaning that some resources become more valuable to a person using them according to the number of other people also using them. At the dawn of the Internet era, network effects became the Holy Grail for many business builders, who wanted to "get big fast" in order to exploit them before the competition did.

But Metcalfe's Law doesn't always hold, say Harvard Business School professor Andrew McAfee and consultant Fran·ois-Xavier Oliveau. As networks become very large, they can fall prey to saturation, cacophony, contamination, clustering and high search costs. Those phenomena mean that larger networks can, in some cases, have less value than smaller ones. The authors have identified several strategies that network builders can employ to maintain network effects or limit their decline. When followed properly, these strategies are more effective than a blind, bigger-is-better approach in which network builders rush to sign up as many users as quickly as possible.

Andrew McAfee is an assistant professor in the technology and operations management unit at Harvard Business School. Fran·ois-Xavier Oliveau is a consultant in the Boston Consulting Group's Paris office and a student at Harvard Business School. Contact the authors at andrew.mcafee@hbs.edu and foliveau@mba2002.hbs.edu.

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