Business Model: Two-Sided Marketplace

Two-Sided Marketplace

A Two-Sided Marketplace business model is a platform for economic exchange between two distinct user groups that provide each other with the benefits of a large network.

Sometimes Called "Platform Business Model"

The concept of “Platform Business Models” has taken hold in academic, government, and consulting circles to describe the way tech giants like Amazon, Alibaba, and Airbnb create and capture value.

Yet it is not as common for these companies to refer to their business models as platform business models. Instead, when you peer closer you see a number of different archetypes: Amazon has e-commerce, marketplaces, product sales, pay-per-use, and other models. Alibaba has even more business model archetypes. Airbnb started as a 2-sided and is now a multi-sided marketplace model.

 

Therefore we find the term “Platform Business Model” useful for policy and concepts, but as business model designers we find the concept of “platform business model” too vague. We want to help you figure out the pricing and value chain driving the business or concept you are describing first.

Two-Sided Marketplace vs. PaaS

This should therefore help clarify the difference between a Platform-as-a-Service company. Platform-as-a-Service provisions a technical platform for software creation, whereas two-sided marketplace companies broker a relationship between two entities, often taking a cut of the transaction revenue.

Two-Sided Marketplace Evaluator

Valuable to Customer

Benefits

Challenges

Key Performance Indicators

Valuable to Business Offering Marketplace

Benefits

Challenges

Key Performance Indicators

When it Works Well

Services designed to create a network effect

Like a freemium model, a two-sided marketplace works well when its design allows it to add increasing numbers of users in order to create a network effect—that is, the effect created when a product (like telephones) or a service (like a social network) becomes more valuable as more and more people use it.

The more users there are on one side of the marketplace, the greater the value of the services they receive from the other side, and vice versa. For example – Facebook was somewhat valuable to advertisers when they had mostly every college student join the social network. But now that everyone’s mom, grandmother, and high school friend is on Facebook – the social network is exponentially more valuable to advertisers.

 

When the platform grows, so do the returns, as users pay more for access to the marketplace. In standard industrial-era businesses, greater scale leads to diminishing returns. You get the opposite effect in Two-Sided Marketplaces: greater scale makes it easier to get and keep customers, and thus profits increase as the network grows.

Value for both sides clear from the start

Two-sided marketplaces fail quickly if the value proposition for one side doesn’t clearly match a need on the other side. The marketplace solves the “chicken and egg problem.”

 

In Airbnb’s first high-growth marketplace, New York City, both sides of its customer pool were in deep pain and even willing to bend the law to relieve that pain. On one side, the cost of renting an apartment is astronomical; on the other, so are hotel prices, whose average can sometimes balloon above $500 a night in busy weeks. The initial value proposition was clear to both sides, and Airbnb addressed problems of trust with, on the one hand, well-shot, high-resolution, what-you-see-is-what-you-get photographs for room renters and, on the other, pre-vetted credit cards and generous insurance policies against potential damage for those renting rooms out.

Integrates Into a Workflow

Data-as-a-service models typically do not disrupt a core process but instead augment a workflow. Customer experience journeys and a deep understanding of the industry needs help to immediately provide value to the business. Few customers ask for an additional dashboard, so data services companies often follow a default design strategy to integrate into the day of the end-user, and a well-defined customer problem.

Builds Moats Around the Data

As software and hardware are commoditized, deriving value from meaningful datasets remains a core source of competitive advantage. While many leading software-driven companies open source their management, infrastructure, and monitoring tools; they tend to keep their data as a primary asset. Because it is difficult to copy a dataset without a large user base, companies focus on building a moat around the data.

Challenges to the Marketplace Model

Two Businesses in One

Building a marketplace is like building two companies simultaneously, each one dependent on the other. Finding the path to growth means carefully balancing features and offers on each side and constantly experimenting to get the balance just right.

It’s Hard to Turn on a Marketplace

The opening stages of a two-sided marketplace are challenging because the service it offers isn’t valuable until it has acquired a large enough base of loyal users on both sides. Value increases as the platform grow to match the demand on each side.

 

Kickstarter and companies like it have launched their marketplaces by heavily curating the first projects they offered for crowdfunding—they didn’t just open up their marketplaces and wait for the projects to show up. Typically they began with projects limited in type and appeal—in Kickstarter’s case, small documentaries, digital art, and other forms of interactive media. The tightly connected social networks of digital-art supporters became the first crowd of project funders, and with a few successes under its belt, Kickstarter then carefully opened up to other types of projects. This curation process has continued throughout the company’s history of growth.

Tokenization of web3 projects and Distributed Autonomous Organizations is an attempt to solve the cold-start problem by giving value in the form of tokens to early adopter collaborators and users. 

Regulatory Friction

A number of the fastest-growing marketplaces have encountered regulatory challenges. The most successful companies chose a risk-taking stance of strategically flaunting local laws, assuming that a large and engaged group of customers would later support any legal action. While Airbnb has faced challenges in markets like New York, Santa Monica, and Amsterdam and Uber has been banned in Denmark, and Bulgaria, with limits placed on growth in NYC and London, overall this strategy has paid off as measured in growth and market share dominance.

At the same time the EU, The Department of Justice in the US, the FTC, and other legal enforcers are questioning the winner-take-all dynamics and monopoly power of two-sided marketplaces like Apple’s App Store and Amazon’s marketplaces.

 

These companies may see limits to growth or reversals on previously friendly regulatory environments if their presence in a local market is not seen as a net benefit to the community.

Trends in the Marketplace Model

The Uber for Everything Trend is Over

For a while, many startups claimed to be the two-sided marketplace for every type of service experience. It turned out there was room for a few types of marketplaces, but only based on the market conditions and the need for connecting a dense network on both sides.

Migrating to Multiple Models

Marketplaces that are successfully connected to two sides may migrate to a multi-sided marketplace, and given the strength and presence of that market launch additional business models and enter new markets. Alibaba’s retail marketplace presence allowed the company to build financial services and healthcare offerings. Amazon launched AWS, build and launched hardware, and invested in original content creation. Airbnb launched “Experiences.”

Key Marketplace Mechanisms to Test

No two marketplace origin stories are the same – so it is very difficult to show standard momentum metrics for these models. The key is figuring out which side to start first, or whether you have to start both sides at once. Sarah Tavell has a strong framework focusing on the concept of minimum viable love: prove that you are able to create relationships of exchange and facilitate satisfying experiences first before building your marketplace. (See below: The Hierarchy of Marketplaces). 

Before You Consider Marketplaces

  • Is there a match in value propositions connected to solving a pain point (Airbnb in NYC: cover the cost of high rent, find more affordable hotel rooms)?
  • What regulation may throttle your growth?
  • Would you benefit from starting on one side of the marketplace first (single player before multiplayer model)?
  • Do you have a well-defined niche target segment for one or both sides?
  • Can you curate the first offering to limit choice?
  • What potential network effects will allow you to create tipping points?

Testing the Model

  • How can you simulate inventory before you have it?
  • How long does it take to attract organic users on both sides?
  • For later stage marketplaces – measure network effects and trading liquidity
  • Is there a user proposition that can be easily tested and implemented on both sides?
  • Do customers gain an advantage over existing comparable offerings?
  • Can you reduce friction within the onboarding experience on both sides?
  • How do you facilitate relationship connections in the marketplace that people love?

More on Marketplaces

Angelist Marketplaces Startups

The Q&A: Perry Chen, Kickstarter, by Hallie Davison, More Intelligent Life, 2015.

The Hierarchy of Marketplaces Parts 1 2 and 3, by Sarah Tavell, Benchmark Capital, 2020.

Paving the Way to Marketplace Liquidity, by Brian Rothenberg and Casey Winters, Greylock Partners, 2017.

Airbnb: The Growth Story You Didn’t Know, by Morgan Brown, Growthhackers, 2014.

Strategies for Two-Sided Markets, by Thomas R. Eisenmann, Geoffrey Parker, and Marshall W. Van Alstyne, Harvard Business Review, 2006. (limited access)

All Marketplaces Are Not Created Equal, 10 Factors to Consider When Evaluating Marketplaces, by Bill Gurley, Above the Crowd, 2012.

Marketplaces, by Jeff Jordon, A16Z, 2019 (video)

Marketplace KPI Spreadsheet, and Handbook, Version One Ventures.

A Price Theory of Multi-Sided Platforms. by Glen e. Weyl, American Economic Review, 2010.

7 Tips for Growing a Two-Sided Marketplace. by Shane Snow, Mashable, 2011.

Multi-Homing Users’ Preferences for Two-Sided Exchange Networks. by Tat Koon Koh and Mark Fichman. MIS Quarterly. 2014.

Two-Sided Markets: A Progress Report. by Jean-Charles Rochet and Jean Tirole, The RAND Journal of Economics, 2006. (paywall)

How to Create Financial Projections for a Two Sided Marketplace, by Projection Hub, 2014.

Internetwork Externalities and Free Information Goods, by Geoffrey Parker, ACM Digital Library. 2000.


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