Business models, indeed, also go through cyclical adjustments as other variables of the tech and financial systems matures. It is difficult to trace back the business that first deployed and utilized the marketplace business model with high degree of success, though some have argued Craigslist is actually one of the first. But one thing we know for sure is there has been a exponential boom and investment in startups that operate a pure marketplace business model.
Marketplace has its place in today’s economic and societal system in that (1) they are usually pretty asset and liability lite so future growth can have a higher probability of experiencing exponential growth with much capital constraints, relatively speaking (2) it acts as an aggregated of supply and demand, one in which it actually helps customers and revenue provider to find pricing efficiency in their demand. Easy-to-access price comparison environment is actually a good thing as it flushes out inefficiency in the system.
With that being said, building a marketplace and thinking through the short-term and long-term strategic financial implications, customer experience amongst many other variables are really exciting. I will lay out below the different types of marketplaces below, financial implications of such, along with variables to think through when it comes to building and maintaining the moat of your marketplace.
First I think it’s crucial for the founders / mgmt team to identify the type of marketplace they operate in as each have their nuances and opportunities to observe and/or capitalize on.
- 1-sided marketplace: 100% of the user bases are BOTH buyers AND sellers at the same time.
An example of this would be the popular dating apps such as Match.com and Bumble, in which it is extremely difficult, if at all possible, to draw a distinction as to who is the supply and demand side of the equation. In this specific case, one could argue the gender ratio imbalance could perhaps split the line between the supply and demand side of the equation, but the fundamental value-add for both sides is more or less the same.
- 2-sided marketplace: This is the classic marketplace in which you can easily, distinctly the buyer and seller within your user base, or say this in the classic economic way, it’s obvious which side is the supply OR the demand.
An example of this would be eBay, Airbnb and Uber. You should be able to easily identify the supply and demand side of the equation. It will be host / guest for Airbnb, driver / rider for Uber and seller / buyer on eBay.
- 3-sided marketplace: This is more complex marketplace business model, in which you have can a linear or non-linear supply and demand relationship with the involvement of at least three parties.
An example of this would be Honor, a company that provides personalized home care for people who want to continue to live in the homes they love—safely and happily—as they age. Families and older adults is the demand that interacts directly with the supply side, home care owners, who then also interact with their own supply side, 3rd party professional caregivers. I suspect this is the case for this specific industry given the insurance liability, other risk mgmt and certification reasons.
Building and maintaining a marketplace is no easy feat, regardless of whether you are a 1-, 2- or 3-sided marketplace. It is also crucially important to put thoughts into the following variables as there short-term and medium-term brand equity, scalability, financial implications: geography, interaction frequency, average $ per interaction, disintermediation, cashflow.
- Disintermediation – As a marketplace builder, you want to make sure you build several layers of disintermediation in places to avoid drastic decay on both supply and demand side of equation as you continue to devote more growth capital into growing both sides of your marketplace. Most marketplace makes margin by charging either and/or the supply and/or demand side.
Decay in supply and demand side of the marketplace will have drastic implications on your financials and the whole user experience as you will have to charge more on either supply and/or demand of marketplace to balance the margin, which might perhaps cause further decay given the heavy imbalance might cause further decay as users from both ends cannot find incremental utility value-add from using your platform.
But not all is lost if systems are build-in to minimize and mitigate disintermediation. Relationship building between the supply and demand side of your marketplace is good as that will for sure enhance customer NPS and other branding scores, and perhaps longevity and trust in your product / service, but you also want to make sure that you aren’t building too friendly of a relationship, one in which both sides can transact OUTSIDE your marketplace.
Some ways you can minimize disintermediation in your marketplace are:
1) Mask numbers and contact info of both sides of the marketplace.
2) Establish heavy incentive for the supply side of the marketplace.
3) Build incremental incentive structure i.e. we will charge you 20% service fee for first 50 bookings, followed by 18% for the next 30 bookings and finally 5% after you cross 150 bookings. Hopefully by then, the sheer volume and revenue the supply derives from your marketplace will drastically outweigh any incentive to disintermediate from your marketplace. - Supply and Demand Geography – the depth of the geography of your supply and demand has implications on marketing customer acquisition costs and channels as well as the among of upfront capital needed to establish the first spark. Take Honor, the marketplace for elderly, as an example. Honor is the type of marketplace that requires very strong physical and regional presence given how high-touch their product / service is, which is very different than that of Airbnb’s expansion model. Thinking through how important high-touch is to your product / service is is important.
But depending on the timing and capital environment, a highly regionalized marketplace with relatively low upfront barrier to entry will usually creates a trough of competitors in the earlier phase of that industry. I remember seeing at least 5-6 Bird / Lime scooter competitors in ~mid-2018, which is just 12-18 months since the founding of Bird and, they sooner ventured into the Greater Austin Area just a few quarters after. I am sure you can see at least 5-6 same or different scooter companies in other 1st and 2nd-tier cities.
Given the variables at play here, building saturation into the local market will give you several legs up as you are essentially flooding the market with your product, but also equally as important, is those scooters actually function as a brand equity building tool, so even if 5% of the scooters released to the Austin market either malfunction or users mistreated the items, the investment still makes logical sense, or at least, in the earlier phase of the early buildup of your regional customer base. Once the saturation is completed, the optionalities might soon widen up drastically i.e. you don’t have to engage in long-term price compression to push out your competitors.
- Supply and Demand Interaction Frequency – The frequency of the interaction between the supply and demand side as well the average $ per interaction is important as (1) it impacts upfront CAC and secondary CAC, which can also be defined as customer re-engagement costs (2) revenue and cashflow model.
If the frequency of interaction between the supply and demand only happens once every few months, that you might want to factor in secondary customer acquisition costs (CAC) / customer re-engagement costs into your equation. There are a small handful of startups out there that are engaged in industries with really high interaction frequency, daily i.e. high-tech toothbrush company, ride sharing, food-related delivery i.e. Grubhub or Postmate since we all have to brush and eat 1-3 x daily. But on the flip side, the average $ per interaction will be comparatively extremely low to that of Airbnb, one in which guests probably interact with the platform on average every 1-3 months, but comes with comparatively $ per transaction.
To be continued…
Intersection notepad 