Platform Economy
Platform business vs Linear business
A traditional linear business sells products or services which they own or produce. This means that in order to grow margins and profitability, a linear business needs to control a larger part of the supply chain. Growing linear business leads to growing costs. For example, we can think of a car manufacturer. If they sell more cars, they also have to buy and produce more parts, spend more time assembling the cars etc. Large part of the revenue is used to produce new products.
A platform business provides a platform which connects buyers and sellers or producers and consumers. If there was a car selling platform, it would mean that the platform would not sell their own cars but bring the car sellers and buyers together. No investments in factories, no need for huge storage spaces and no need to hire thousands of employees to sell the cars. Users of the platform do it all by themselves.
Business models for platforms
If a platform does not sell, or even not own the products on their platform, how do they make profit?
Couple common business models would include — small fee from each transaction or selling advertisements for the platform. Many platforms have also introduced the premium users or added functionality. Basically, by paying a certain amount, a user will receive some added functionality or perks.
In its early stages, a platform business may encounter a chicken-and-egg problem. If the buyer hopes to find sellers on the platform and the seller hopes to find buyers on the platform, why would they join a platform with nothing to buy or sell yet?
How to conquer the chicken-and-egg problem:
- Invest big in the early days: This could mean heavy marketing to convince future users of the value of the platform
- Act as a producer: Initially, a platform can act like a linear business to grow their network. To attract consumers, the business can create their own content and products for a while. Think of it as giving CPR to the platform. The platform will breathe on its own after it has attracted enough of buyers and sellers.
- Tap into an existing network: Little bit questionable, but AirBnB used to market their business on Craigslist. If a user clicked the Craigslist post, it would send them on the AirBnB site. This strategy is vulnerable to the host shutting the business off their platform
- Attract valuable users: A social media platform might want to get a celebrity user to join their platform who attracts people interested in following their life. A marketplace might want to attract high quality sellers which would in turn attract buyers who need high quality consumables
- Target user groups who fill both sides: Again, social media sites are a great example, because a single user can at the same time be a consumer and a producer. If you view your friend’s profile on Facebook, you are a consumer. If a friend views your profile, you are a producer. Similarly, in a used car marketplace, a user might want to sell their car, but also buy a new car to replace the old one.
- Early stage value creation: Create value for the user even when there is no other party. For example, if AirBnB had no people willing to rent their house, the app could for example still show the nearest hotels or compare by different metrics to build a differentiating perspective in user’s mind
Identify Moat to gain network effects
As the software and business idea is easily replicated with platform businesses, they need “moats”. Just as medieval castles had deep moats filled with water, platform business needed something to prevent competitors copying the idea. Probably the best moat is the network effect. Youtube is pretty much the standard in sharing and consuming videos on the internet, even though it would be easily replicated. Even if a competitor released a better video-streaming service, the time and effort for the network to migrate buys Youtube enough time to improve their own service.
The network effect might also be unfavorable for the platform. If left unmonitored and unrestricted, the users will use the platform in harmful ways. Chatroulette was supposed to be a way to meet new people instantly around the world by setting up a webcam connection between random users. Instead, as the network grew, the user base grew male-dominated and in many ways indecent. Now, the public picture of Chatroulette is something very different than meeting new people and having fun little chats.
How to spot platform opportunities?
- Technology that reduces transaction costs
- Look for existing, but underserved networks
- Fragmented markets. For example: USA’s leading used car dealer Carvana owns 2% of the used car market. A platform connecting these markets is bound to be successful(https://www.autonews.com/dealers/sellers-are-adjusting-shifting-expectations-fragmented-used-vehicle-space)
What is next?
As a company in a single industry eventually faces its maturing and decline phases, the platform giants have started to leverage their network effect to spread into new industries. Apple started by making computers. Now they are extending their reach to cars. What has and will connect these products is their ecosystem, or the development platform. An existing iOS user is probably more likely to buy an Apple car than a car which doesn’t support their platform.
Look out for part two of this blog that will talk about IOT and blockchain. Blockchain possibilities for IOT could be for example, a service which controls devices connected to the network. Blockchain can be compared to the internet. It serves as the platform on which new platforms can be built. As the technology is new, untapped possibilities are numerous.
Reference:
- Largely based on the book “Modern monopolies” By Alex Moazed and Nicholas L. Johnson
- https://commons.wikimedia.org
Thank Joel Hiltunen for your support to write this article
