Moats that erode: technology, rules and new rivals
Every advantage fades. How technology shifts, regulation and new rivals wear advantages down, with real cases from the United States and Europe, and the maths of a fading advantage.
Key takeaways
- A moat is a reason rivals cannot reach a business's profits (the word comes from the water around a castle).
- Returns on capital falling towards the cost of capital for several years.
- Common mistakes: Treating today's advantage as permanent.
Key idea
A moat is a reason rivals cannot reach a business's profits (the word comes from the water around a castle). Every moat erodes in the end. The useful questions in a case are what could make this advantage worthless, and how fast.
Three forces that erode advantage
- Technology shifts: a new technology makes the old advantage irrelevant. The best factory for a product nobody buys any more is worth little.
- Regulation: rules can remove a switching cost, force a network to open, cap a price or let new rivals in.
- New rivals with a different cost structure: an entrant that does not carry the leader's old costs can price below it, sometimes for years.
Real cases
- Technology, United States: Kodak's business was built on photographic film. On 19 January 2012 Eastman Kodak and its US subsidiaries filed for chapter 11 (a US court process that lets a company reorganise while it cannot pay its debts), with a plan that included the possible sale of its digital imaging patents. Scale in film was no protection once photography went digital.
- Technology, Europe: on 3 September 2013 Nokia agreed to sell substantially all of its Devices & Services business to Microsoft for EUR 3.79 billion and to license its patents for EUR 1.65 billion, EUR 5.44 billion in total. The economic reading: when smartphones moved the value from the handset to the software and the apps around it, scale in making phones stopped being enough.
- Regulation, Europe: on 6 September 2023 the European Commission designated six companies (Alphabet, Amazon, Apple, ByteDance, Meta and Microsoft) as gatekeepers under the Digital Markets Act, covering 22 core platform services, with six months to comply with its obligations. Rules like these aim to open large platforms to rivals, which weakens network effects and lock-in.
- Regulation, Europe: from 12 January 2027 the EU Data Act removes charges for switching cloud providers, including data egress charges (lesson 4).
Microsoft agreed to pay Nokia EUR 3.79 billion for its Devices & Services business and EUR 1.65 billion for a patent licence. What was the total, in EUR billions, and what share of it was for the patents, in percent? Give the share, rounded to one decimal.
Worked case
What a fading advantage is worth
The prompt
Illustrative numbers, fictional company. A card payment company in Poland earns economic profit (profit above the cost of capital) of PLN 50 million a year from its merchant network. A new instant payment system, free for shops, is arriving. The team expects the economic profit to fall 20 percent each year from next year. How much economic profit will it earn over five years, and how much less is that than if nothing changed?
The structure
- Five-year economic profit = sum of each year's economic profit
- Eroding profit: each year is the year before x 0.8
- Flat profit: five years of PLN 50 million, for comparison
Working it through
1. Year 2
Down 20 percent from PLN 50 million.
Year 2 economic profit (PLN millions):50 × 0.8 = 402. Year 3
Down 20 percent again.
Year 3 economic profit (PLN millions):50 × 0.8 × 0.8 = 323. Five-year total
Years 1 to 5: 50, 40, 32, 25.6 and 20.48.
Five-year total (PLN millions):50 + 40 + 32 + 25.6 + 20.48 = 1684. Without erosion
Five flat years at PLN 50 million.
Five flat years (PLN millions):50 × 5 = 2505. Share lost
How much of the flat total the erosion removes.
Share of five-year economic profit lost (percent):(250 - 168.08) ÷ 250 × 100 = 32.77
The recommendation
Over five years the company would earn about PLN 168 million of economic profit instead of PLN 250 million, about a third less, and by year 5 it earns less than half of today. That number sets the budget for a response. The company should be willing to spend up to a meaningful part of that PLN 82 million gap on defending or replacing the advantage, for example by offering the new payment method itself and earning on services around it, rather than defending fees the new system makes free.
Risks: The 20 percent rate of erosion is an assumption; test faster and slower cases; A real valuation would also discount later years, which lowers both totals.
Returns on capital falling towards the cost of capital for several years. Price premiums shrinking while costs do not. Customers starting to use a rival alongside you. A new rival growing fast with a very different cost structure. A regulator consulting on your market. Any one of these is a question to ask in a case, not yet an answer.
Treating today's advantage as permanent. Defending the old source of profit instead of moving to the new one. Assuming regulation only adds costs: it can also remove a rival's moat and open a market for your client.
A bank in the United Arab Emirates earns high fees on money transfers abroad because customers find it a hassle to set up a new provider. A new rule lets customers move their payment details to any licensed provider in one click. Which force is eroding the bank's advantage?
Why was Nokia's scale in making phones not enough to protect it when smartphones arrived?
Sources, checked on 2026-10-01. Company figures are from the company's own reports or filings; per-unit figures and comparisons are our arithmetic on them.
- Eastman Kodak Company, Form 8-K (US SEC filing) on its chapter 11 filing, 19 January 2012: https://www.sec.gov/Archives/edgar/data/31235/000119312512016443/d285282d8k.htm
- Nokia Corporation, Form 6-K (US SEC filing) on the sale of its Devices & Services business to Microsoft, 3 September 2013: https://www.sec.gov/Archives/edgar/data/0000924613/000110465913067659/a13-20077_16k.htm
- European Commission, "Commission designates six gatekeepers under the Digital Markets Act", 6 September 2023: https://digital-markets-act.ec.europa.eu/commission-designates-six-gatekeepers-under-digital-markets-act-2023-09-06_en
- European Commission, "Data Act explained" (cloud switching and the end of switching charges): https://digital-strategy.ec.europa.eu/en/policies/data-act-explained
Sources for this lesson (5)
- Recognized public explanations of case-interview concepts and terms
- Eastman Kodak Company, Form 8-K (US SEC filing) on its chapter 11 filing, 19 January 2012
- Nokia Corporation, Form 6-K (US SEC filing) on the sale of its Devices & Services business to Microsoft, 3 September 2013
- European Commission, "Commission designates six gatekeepers under the Digital Markets Act", 6 September 2023
- European Commission, "Data Act explained" (cloud switching and the end of switching charges)
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