The Rise of Two-Sided Software Marketplaces
What Is a Two-Sided Marketplace?
In recent years, two-sided software marketplaces have exploded in popularity. Apps such as Uber, Lyft, Airbnb, Fiverr, Paypal, and others have dominated the app marketplace since their release. Also referred to as a ‘platform business model’, these kinds of apps provide a platform for economic exchanges between two distinct user groups while granting the benefits of a large network. Two-sided markets can be found in many industries, encroaching on more traditional products and services. Some example markets include credit cards (cardholders and merchants), operating systems (end-users and developers), video game consoles (gamers and developers), search engines (advertisers and users), and healthcare organizations (patients and doctors).
These kinds of marketplaces aim to provide value to all involved parties: buyers, sellers, and the marketplace founders/investors. Two-sided marketplaces reduce buyer friction and facilitate easy, productive exchanges between consumers and sellers. Consumers and merchants are connected via a trustworthy platform which typically charges a commission on each transaction.
This style of marketplace has become extremely popular in a very short period of time and the growth does not appear to be slowing at all. According to a Coresight research report, global revenues from these kinds of platforms are projected to double from just below $19 billion in 2017 to over $40 billion by 2022. Pricewaterhouse Cooper has also released a report that projects the global revenue in the sharing economy will reach an incredible $335 billion by 2025.
Ease of Use
In the modern economy, speed and ease of use reign supreme. Two-sided marketplaces seek to marry these two concepts and provide a place for seamless, easy transactions. Consider, for a moment, what it was like hailing a taxi before services like Uber and Lyft entered the market. The customer had to call a number to request a taxi or stand out on a street corner waiting until an unoccupied taxi happened to drive by. The customer knows nothing about the driver and commits to paying an unknown sum, typically only in cash. Uber upended the taxi market by streamlining the process. Requesting a ride became as simple as tapping a button, and matchmaking algorithms reduced wait times significantly compared to traditional taxis. The customer could see a picture of the driver’s face, know their name, read driver reviews from previous riders, and know exactly the price of the ride before confirming. It also provided a means to make money for people who had not previously considered driving a taxi.
While two-sided marketplaces provide incredible value for the customer, they must also make it worthwhile for the sellers to participate. A successful two-sided marketplace will generate significantly higher demand for a seller’s product than if they were to go it alone. A property owner seeking to rent out can easily build a website to advertise online. But would that website get anywhere near the amount of exposure they would receive from listing it on Airbnb? It is highly unlikely. Even with the commission taken by Airbnb, the sheer volume of renters looking for available properties should more than make up for it.
The Network Effect
An important concept when considering two-sided marketplaces is the ‘network effect’ phenomenon. Essentially, the network effect increases the value of products and services as more and more people use them. The simplest example of this effect is the telephone. Phones are only useful if other people also have them. If only one person owns a phone, the value of the network is zero. As more consumers, businesses, services, and governments join the phone network, its value is drastically increased for each person. The emergency services phone number ‘911’ was first added to the telephone network in 1968. Think about the value that brought to everyone else the moment police departments joined the network.
When the network effect takes place on a two-sided marketplace, user acquisition costs drop significantly. As more consumers continue to join the marketplace, demand grows. That demand will naturally bring in new supply. More supply means better price competition, increased availability, and a wider selection of goods and services. All of which feed into creating new demand. The more the platform continues to grow and generate value for its users, the more the marketplace can justifiably charge for its services. As the two-sided marketplace grows, it provides increasing value to all parties involved.
Cross-Side Demonstration Virality
Another huge benefit of two-sided marketplaces, particularly in the P2P sphere, is cross-side demonstration virality. Any new consumers to platforms like eBay, Airbnb, and Uber are also potential sellers. Most of these platforms make it a point to advertise this to new customers.
Services like Uber and Lyft were known for their black cars and pink mustaches, respectively. Instagram made users’ photos look so great they wanted to share them across all social media channels. These services are designed in such a way that the user can’t help but show off the product or service to other potential customers when they use it. These are examples of demonstration virality. Cross-side demonstration virality is when either the seller or the buyer is capable of bringing in new customers and providers.
Take, for example, Eventbrite. Eventbrite hosts advertise events to their fanbases, bringing in new users to the platform. Some of those new customers will eventually become event hosts themselves. They will then advertise their own events which bring in another wave of new users. Rinse and repeat. The beauty of cross-side demonstration virality is that it creates a self-producing loop of ever-increasing supply and demand. In this way, growth on either the supply or demand side drives significant overall growth across the platform.
Two-sided marketplaces can organically generate cycles of growth, driving profits for the sellers and marketplace entrepreneurs while simultaneously providing increased value for the consumers. This is why two-sided marketplace apps such as Uber, Eventbrite, Etsy, and Airbnb have risen to such prominence over the years. As the opportunity for two-sided marketplaces has developed, Lithios has built several of these products for various companies (see an example here). By minimizing buyer friction, maximizing consumer retention, and dynamically growing to meet supply and demand, two-sided marketplaces are here to stay.
At Lithios we value outside opinions. This blog was written by one of our guest bloggers, Jonathan Baker, with feedback from the Lithios team.