Two-sided marketplaces – why and how they succeed.
Two-sided marketplace businesses are expected to grow exponentially in the next few years. Here’s why platforms are a great business – and how to go about building one.
What are two-sided marketplaces?
Two-sided marketplaces are platforms that bring customers and providers together to create and exchange value. Examples are websites like Airbnb, Fiverr, eBay, and Uber.
Other terms used for these kinds of platforms are two-sided market systems, multi-sided platforms (MSPs), multi-sided markets, or multi-sided or two-sided networks.
Marketplace businesses have become incredibly successful in a short period of time. What is more, the growth of multi-sided platforms shows no signs of slowing down. According to a report from Coresight Research, the income of these platforms will double by 2022 globally – from under $20 billion in 2014 to just over $40 billion.
PwC estimates the global revenues in the sharing economy can reach $335 billion by 2025.
PwC estimates that the global revenues in the sharing economy have the potential to reach a staggering $335 billion by 2025. There are at least three explanation for such confident projections, all of which relate to the unique nature of two-sided marketplace businesses.
Marketplaces scale exceptionally well because they don’t need to own their inventory. Airbnb, for instance, belongs to the world’s 100 largest companies in the travel industry without owning a single hotel room.
That’s a persuasive proposition – you could build a global business without needing to invest in initial inventory. In fact, there are many examples of successful marketplaces that have been built by bootstrapping.
Marketplace technology is no longer a barrier of entry like it was in the early days of the industry. Building the platform itself, with all its two-sided functionality and complicated transaction flows, used to take months and thousands of dollars in budget.
Today, using a marketplace SaaS tool like we offer at Sharetribe to build a multi-sided platform has become a viable option regardless of marketplace idea, industry, and business size. The maturation of such Saas solutions has significantly decreased the time and budget required to launch a two-sided business.
The third reason is that the two-sided market model can create powerful dynamics that speed up the growth of the business. When they work, these dynamics add value to all parties of the platform: the customers, the providers, and the marketplace entrepreneur.
Next, we’ll look at the benefits as well as challenges to overcome related to the business model.
The two-sided marketplace business model
Double-sided markets create value for all parties: providers, customers, and the marketplace entrepreneur.
The purpose of a two-sided marketplace platform is to facilitate interaction between providers and customers. The two user groups can find each other and exchange value on a trustworthy platform, and the platform – typically – charges a commission or another kind of each transaction.
The model offers significant benefits for all parties: the customer, the provider, and the marketplace entrepreneur.
Perks for marketplace customers: easier, faster, cheaper
Multi-sided marketplaces make it significantly easier, faster, and cheaper for customers to find what they need. As an example, consider what getting a taxi was like before Uber entered the market.
Depending on the market, the customer either needed to call a number or stand on the street and wait for an unoccupied taxi to drive by. They’d know nothing about the driver and commit to a ride the final sum of which typically remained a mystery until the very end – and often needed to be paid in cash.
Two-sided marketplaces make it significantly easier, faster, and cheaper for customers to find what they need.
Uber improved the experience in all these aspects. Ordering a ride became as simple as tapping a button, and wait times reduced due to Uber’s effective matching algorithm. Each drivers’ name, face, and reviews were knowable to the customers beforehand, and prices of rides reduced at least at first.
That is not to say Uber’s user experience (or business model) would be perfect. But they were good enough for a significant amount of people to switch from taxis, their own cars, or public transport to Uber.
Perks for providers: more customers, better tools
The nature of a two-sided market means that also the other side, providers, need to have something to gain from using the platform. More often than not, they are the side entrepreneurs should focus on the most.
Successful marketplaces generate providers a lot more demand they’d find on their own. Homeowners, for instance, could well build their own website for renting their house online.
But compare that to the exposure they get on Airbnb? Probably well worth the commission, particularly since they don’t need to pay anything unless they themselves make money. Listing a house or an apartment on Airbnb is also significantly easier than building a website for it.
Home owners could also list their homes on a generic classifieds site like Craigslist. That is likely just as simple as listing their site on Airbnb. However, Airbnb offers providers such powerful tools to manage their bookings, fees, and profiles that their service becomes much more attractive.
Thanks to the ease of listing and managing a vacation rental and the promise of good income, Airbnb has also brought in providers who previously wouldn’t have even considered renting their apartment.
Perks for the entrepreneur: double-sided network effects and cross-side virality
Two-sided marketplaces have tremendous potential to grow through double-sided network effects and cross-side demonstration virality.
Network effects means the phenomenon in which the value of a product, service, or platform grows as more and more people start using it. The telephone is an often-cited example of such a product, and most platform businesses and social networks belong to this category as well.
Two-sided marketplaces have tremendous potential to grow through network effects.
When network effects unfold on a two-sided business, the user acquisition costs drop. A growing number of customers means more demand, and the demand brings in new supply. More supply means more selection, availability, and price competition, all of which are powerful in bringing in new demand. At best, network effects create a virtuous cycle traditional businesses could never achieve.
As the platform grows and becomes more and more valuable to its users, the more value the marketplace entrepreneur can justifiably capture from each transaction. So, the larger the two-sided platform gets, the more value it generates to all parties.
What is more, particularly in the P2P sphere of the sharing economy, marketplaces can benefit from cross-side virality. Any new customer to a platform such as Airbnb, Eventbrite, or eBay is also a potential provider. In fact, all these three marketplaces effectively advertise the opportunity to their new customers.
Cross-side virality can significantly boost network effects. At the cost of acquiring a new customer, the platform also gains a new provider, who brings in new customers, who, in turn, become providers – and the wheel keeps turning.
Challenges of the two-sided business model
Getting the double-sided model to work requires solving a few marketplace-specific challenges.
The double-sided nature of marketplace platforms can generate dynamics that become a significant growth lever. But the same aspects that make platforms powerful are also the ones that present the toughest challenges for early-stage marketplace entrepreneurs.
The chicken-or-egg problem is the flipside of network effects. Customers – the demand – will favor a platform that has a great selection of high-quality supply. Providers – the supply – will be interested in marketplaces that have lots of demand. What is an early-stage marketplace entrepreneur to do?
There are many tactics to combat the chicken-or-egg problem. Most often, the recommended approach is to focus on the side that is the harder one to get in your niche. Aggregating them to a platform draws in the easier side almost automatically.
Building a two sided business is almost like building two individual businesses. Providers and customers are usually very different types of users who respond to different kinds of value propositions, features, and incentives.
The best way to reach liquidity is to focus on a small enough niche and market and expand gradually. A two-sided service marketplace, for example, might be tempted to offer every imaginable service from window cleaning to programming to reach a broader audience. But such a platform will need huge numbers of both customers and providers to ensure a random user finds precisely the service or customer they’re looking for.
On a marketplace focusing specifically on window cleaning in one city, solving the liquidity challenge becomes much more likely. After reaching liquidity and becoming profitable, horizontal or vertical expansion is infinitely easier.
A marketplace needs much more work than a traditional business to establish itself as trustworthy. Users need to trust each other and the platform before they’re willing to put their money, possessions, and sometimes even their safety at stake.
There are many things a marketplace entrepreneur can do to establish trust. Having a review feature is essential, and other mechanisms to create social proof are useful as well.
Owning the transaction also helps platforms combat typical two-sided marketplace challenges.
Marketplaces also often control the entirety of the transaction, from messaging to the complicated payment flow. This ensures the user experiences a smooth, frictionless transaction process, and that the marketplace operator can intervene if they spot something out of the ordinary.
Owning the transaction also helps platforms combat another typical two-sided market challenge. Namely, if the marketplace payment flow isn’t smooth or trustworthy enough, the provider and the customer might be tempted to arrange the payment amongst themselves without paying a commission to the marketplace. This is called platform leakage, or disintermediation. In addition to eating away at the marketplace business’ profits, this kind of behavior also exposes users to fraud and makes building trust all the more difficult.
A marketplace platform needs much more work than a traditional business to establish itself as trustworthy. Users need to trust each other and the platform before they’re willing to put their money, possessions, and sometimes even their safety at stake.
How to build a successful two-sided business? Launch an MVP as soon as possible.
Building a successful marketplace business is a process, not a project.
As you have noticed, the two-sided marketplace model offers tremendous opportunities as well as poses challenges that might prove tough to overcome. These kinds of businesses are all about user behavior, which is notoriously difficult to predict.
At Sharetribe, we’ve helped build successful two-sided businesses for over a decade. Our experience has taught us that the only way to know for sure if your idea will work is to launch it as quickly as possible.
This first version – the Minimum Viable Product, the MVP – should have all the essential functionality that helps you leverage the perks of the business model while mitigating the inherent challenges. In short, this means a powerful transaction engine, profile and listing creation, messaging, review features, and complete admin tools.
Building and launching the MVP should take as little time and money as possible. Those resources have a much higher return on investment when they’re used for marketing, community-building, and user research. These activities help reach liquidity, solve the chicken-or-egg problem, and create a foundation where network effects can kick in.
Sharetribe’s marketplace software has been designed with this iterative process in mind.
Your MVP should help you leverage the perks of the two-sided business model while mitigating the challenges.
Sharetribe Go offers a complete, off-the-shelf marketplace solution for creating a two-sided rental, service, or product marketplace. Launching an MVP with Go takes less than a day, doesn’t require any coding skills, and it can be used for free for 30 days.
Sharetribe Flex is an API-first solution for entrepreneurs or teams with development resources. It offers the complete marketplace feature set for rental and service businesses, along with the opportunity to develop a unique user-interface, custom features, and third-party integrations.
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