L11 - Two-sided Markets Flashcards
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What is a two-sided market?
Products and services that bring together groups of users from two sides
Eisenmann et al.
How is value created in a two-sided market?
Network effects
Eisenmann et al.
How does two-sided markets differ from traditional businesses?
○ In the traditional value chain, value moves from left to right: To the left of the company is cost; to the right is revenue. In two-sided networks, cost and revenue are both to the left and the right, because the platform has a distinct group of users on each side
○ In traditional businesses, growth beyond some point usually leads to diminishing returns: Acquiring new customers becomes harder as fewer people, not more, find the firm’s value proposition appealing. In two sided networks a bigger network = increasing return to scale
Eisenmann et al.
Name the three challenges in two-sided markets
- Pricing the platform
- Winner takes it all dynamics
- Threat of envelopment
Eisenmann et al.
What should businesses consider in relation to the pricing challenge? (Explain 2/6)
● Ability to capture cross-side network effects: Your giveaway will be wasted if your network’s subsidy side can transact with a rival platform provider’s money side.
● User sensitivity to price: Generally, it makes sense to subsidize the network’s more price-sensitive side and to charge the side that increases its demand more strongly in response to the other side’s growth.
○ Adobe’s Acrobat software follows this pricing rule → Writers pay and readers are charged nothing
● User sensitivity to quality: This pricing prescription can be counterintuitive: Rather than charge the side that strongly demands quality, you charge the side that must supply quality.
● Output costs: Pricing decisions are more straightforward when each new subsidy-side user costs the platform provider essentially nothing. This will be the case when the giveaway takes the form of a digital good such as a software program or a cheap service such as otherwise-idle computer time. However, when a giveaway product has appreciable unit costs, as with tangible goods, platform providers must be more careful. If a strong willingness to pay does not materialize on the money side, a giveaway strategy with high variable costs can quickly rack up large losses
● Same-side network effects: Surprisingly, sometimes it makes sense to deliberately exclude some users from the network. Platform providers normally welcome growth in the user base on either side, because it encourages growth on the other side.
○ In most markets, sellers would be happy to see fewer direct rivals; the same can be true for buyers when goods are scarce.
● Users’ brand value: All users of two-sided networks are not created equal. The participation of “marquee users” can be especially important for attracting participants to the other side of the network. Marquee users may be exceptionally big buyers, like the U.S. government. Or they may be high profile suppliers, like anchor stores in malls.
○ A platform provider can accelerate its growth if it can secure the exclusive participation of marquee users in the form of a commitment from them not to join rival platforms.
Eisenmann et al.
What should businesses consider in relation to the ‘Winner takes it all” challenge? (Explain 1/3)
● Multi-homing costs are high for at least one user: “Homing” costs comprise all the expenses network users incur – including adoption, operation, and the opportunity cost of time–in order to establish and maintain platform affiliation. When users make a “home”on multiple platforms, they increase their outlays accordingly. When multi-homing costs are high, users need a good reason to affiliate with multiple platforms.
○ E.g. only having one operating system like windows because having more than one is expensive
● Network effects are positive and strong–at least for the users on the side of the network with high multihoming costs: When cross-side network effects are positive and strong, those network users will tend to converge on one platform. A small-scale platform will be of little interest to users unless it is the only way to reach certain users on the other side. The odds of a single platform prevailing also increase when same-side network effects are positive
○ For example, when users of a software program need to share files with one another.
● Neither side’s users have a strong preference for special features: If certain users have unique needs, then smaller, differentiated platforms can focus on those needs and carve out niches in a larger rival’s shadow
Eisenmann et al.
What should businesses do to overcome envelopment? (Explain 1/3)
● Change business models: E.g a common way for specialists like Real (company) to reinvigorate their business models is to offer services as a systems integrator–helping enterprises knit together diverse systems and technologies.
● Find a “bigger” brother: E.g. Real (company) has found allies through partnerships with cable TV system operators and cellular phone companies. Subscription music – which requires a broadband connection – makes cable modem service stickier: Once consumers commit to a music service, they face switching costs. Changing vendors would force them to configure new music players and recreate playlists.
● Sue: Firms facing envelopment are wise to consider legal remedies, because antitrust law for two-sided networks is still in dispute. Antitrust law was conceived to constrain the behavior of traditional manufacturing firms and does not fully reflect the economic imperatives of platform-mediated networks. For this reason, dominant platform providers that offer bundles or pursue penetration pricing run the risk of being charged with illegal tying or predation
Two-sided platform has 5 characteristics
1) Attract critical mass
2) Match the two sides
3) Connect participants
4) Transact (create value proposition through interaction between the two sides)
5) Optimise digital offerings (rapid innovation)
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What is the 4 business models suggested by
Option 1: Remain unconnected and Supply the Connected Companies
Option 2: Offer a Full Connected Experience to your customers
Option 3: Offer a Connected Experience and Build a Two-sided platform Business.
Option 4: Service-only and aggregated services platform for connected experiences.
Garret & Ritchie
Garret & Ritchie have have found it helpful to discuss strategy in three hierarchical layers. What are these and explain?
- Corporate Strategy - What business are we in?
- Business Strategy - How do we compete?
- Functional Strategy - How do we deliver?
Garret & Ritchie
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What is an external developer platform?
An external developer platform (ExDP) is a repository of digital components open to external partners
Ross et al., 2019. Ch 6 - Building an ExDP
What are the two types of ExDP?
- An ExDP that allows partners to use the company’s internally developed components in the partner’s offerings.
For example, the Google Maps ExDP makes functionality and data related to Google maps available to external developers for use in other companies’ offerings. Kabbage’s ExDP makes its automated lending engine available to other financial services companies.”
- An ExDP that provides an industry platform by creating a market for related digital offerings.
For example, Apple invites application developers to make their offerings available to owners of Apple devices through their App Store. Similarly, Salesforce offers extensions developed by third parties to their customers through their AppExchange.”
Ross et al., 2019. Ch 6 - Building an ExDP
