takingpitches

Bill Gurley follows up on his marketplace post with one on marketplace pricing.  He used the term “rake” which is the commission or the amount skimmed off by the platform.  The key, is:

If your objective is to build a winner-take-all marketplace over a very long term, you want to build a platform that has the least amount of friction (both product and pricing). High rakes are a form of friction precisely because your rake becomes part of the landed price for the consumer…

High margins also make it easy for your competitors to come in and disrupt or prevent your network effect by drawing others to competing platforms:

High volume combined with a modest rake is the perfect formula for a true organic marketplace and a sustainable competitive advantage. A sustainable platform or marketplace is one where the value of being in the network clearly outshines the transactional costs charged for being in the network. This way, suppliers will feel obliged to stay on the platform, and consumers will not see prices that are overly burdened by the network provider. Everyone wins in this scenario, but particularly the platform provider. A high rake will allow you to achieve larger revenues faster, but it will eventually represent a strategic red flag – a pricing umbrella that can be exploited by others in the ecosystem, perhaps by someone with a more disruptive business model. As Jeff Bezos is fond of saying, “your margin is my opportunity…”

Booking.com took a much more aggressive approach (perhaps because it was the only one available) . They started with a 10% “agency model,” which not only represented a lower rake, but also provided better cash flow terms to the supplier. As such, they were able to signup nearly every small hotel in Europe…

Gurley points out a nice twist, where you can get the supply side of the marketplace themselves to bid up the “rake” if they see value in doing so.  This perhaps kicks in after the network has won in some sense.  The archtypal example is Google Adwords.  The only limitation to this, it has to be done in a way that does not turn off or cast doubt to the other side of the market, suppliers bidding for placement cannot destroy customer confidence in the recommendations that the platform is delivering.  I suspect that in many markets, “pay to play” would undermine the platform itself.

It turns out that the average rake at Priceline Group  is even higher today, as they allow merchants to voluntarily bid up their rake for better placement in the network (you can see this in the table above). This is one of my favorite marketplace business model “tweaks.” You start with a low rake to get broad-based supplier adoption, and you add in a market-driven pricing dynamic that allows those suppliers who want more volume or exposure to pay more on an opt-in basis. This way no one leaves the network due to excessive fees, yet you end up with a higher average rake over time due to the competitive dynamic. And when prices go up due to bidding and competition, the suppliers blame their competition not the platform (part of the genius of the Google AdWords business model). This also allows you to extract more dollars from those suppliers who desire to spend more to promote themselves (without raising the tax on those that don’t).

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I missed this incredible post from Bill Gurley where he breaks down the online marketplace built on networks, with the expertise of Chris Collinsworth breaking down a pistol offense.  So many things stick out that I excerpt freely below.  There are so many great themes, but perhaps the biggest that — like any good dealmaker knows — to have repeated success, both sides of the market have to walk away from a transaction thinking that they have gained so they return again and again.

• Great marketplaces do not simply aggregate a market; they enhance it. They leverage the connective tissue to offer the consumer a user experience that simply was not possible before the arrival of this new intermediary.
• When this experience delta is great enough, it creates “wow” moments for new users. “Wow” moments lead to word-of-mouth viral growth…”
• Another interesting example of this bi-directional advantage is AirBNB. For the property owner, the income is “found money” that simply didn’t exist prior to the marketplace. And in many cases the consumer receives a better price as well. If you can positively change the economics of an industry, you will find the participants on both sides rooting for your success. This gives you a huge head start when it comes to tipping the marketplace.
• In many marketplaces, the technology offering greatly enhances the user experience…as well as increasing switching costs.
• High buyer and supplier fragmentation is a huge positive for an online marketplace. Likewise, a concentrated supplier (or purchaser) base greatly diminishes the likelihood of a successful online marketplace. A highly concentrated supplier base will be reluctant to allow a new intermediary in their market, and as a result will likely fight rather than support your arrival. They will also be very reluctant to share in the economics of the industry…
• In some markets signing up suppliers is relative easy. In others, it can be a painfully slow process that requires lots of touch and local presence. At companies such as Yelp, Uber, and GrubHub, new city launches are relatively quick after a process model had been established for how to launch those cities.
• Remember, however, that supplier aggregation is the easy part. Aggregating demand is much harder and more critical.
• Another potential error that can be made while analyzing TAM is to fail to understand that the features and enhancements of the new marketplace may actual expand the market opportunity for the whole industry. This may sound like a brazen claim, but certain marketplaces do indeed expand the market — by exploring new price points or enhancing convenience or usability…Uber’s ease of use and simplicity have led many of its users to greatly increase the number of times they use an alternative car service. Some customers now use it as a second car alternative. As such, the company is meaningfully expands the market for black car services, which is in turn a huge boon to the suppliers that share in the economic expansion.
• All things being equal, a higher frequency is obviously better. Yelp, GrubHub, OpenTable, 1stdibs (for the designer) and Uber are all high frequency use cases, where the consumers can rely on the marketplace as a utility. Many failed marketplaces attack purchasing cycles that are simply way too infrequent, which makes it much more difficult to build brand awareness and word-of-mouth customer growth.
• Payment Flow. All things being equal, being part of the payment flow is superior to not being a part of the payment flow. This is due to the fact that it is much easier to extract reasonable economics when you are in the flow of payment. The supplier not only looks to you as a provider of revenue, but they receive that revenue “net of the fee.” Contrast this with a marketplace where you add value first, and then send a bill to the supplier at later date for services rendered. In this latter case the marketplace appears as an expense, and it’s easier for the supplier to view it is a “tax” versus a distribution relationship.
• Network effects are tricky and hard to describe but fundamentally turn on the following question: Can the marketplace provide a better experience to customer “n+1000” than it did to customer “n” directly as a function of adding 1000 more participants to the market? You can pose this question to either side of the network – demand or supply. If you have something like this in place it is magic, as you will get stronger over time not weaker.

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The Facebook or Linkedin Graph may have a psychologically lubricating effort into encouraging transactions on peer-to-peer talent marketplaces, taking a lesson from the room rental and ride-sharing sites, according to the Economist:

In addition, some peer-rental services (including Airbnb, RelayRides and Lyft) integrate with Facebook to let owners and renters check to see whether they have friends (or friends of friends) in common.

“We couldn’t have existed ten years ago, before Facebook, because people weren’t really into sharing,” says of the sharing economy does not” Nate Blecharczyk, one of Airbnb’s founders. Airbnb doesn’t require its users to connect their accounts to Facebook, but when people find they have friends in common with another user it sets their minds at ease. Thanks to social media, says David Lee, founder and managing partner of SV Angels, an early investor in Airbnb, “people are generally more comfortable meeting new people using technology.” Providing a secure platform for financial transactions is vital, he says, but creating a trusting community is just as important when it comes to attracting users.

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Many markets — online ones in particular — require suppliers to have a reputation to sell, which raises a chicken-egg conundrum.  How to get the sales to get the reputation?

Like in the real-world, one method of building a reputation on peer-to-peer networks is going in with some initial lower-price transactions to get reviews.  Take Airbnb, for example:

Another characteristic of such services is that users or listings with plenty of reviews will be sought after, whereas those with no reviews look less attractive. Mr Blecharczyk says Airbnb recommends that first-time listers set their prices “less aggressively” to encourage renters who might avoid a place without a review. As soon as one review appears, he says, inquiries can increase tenfold, and listers can raise their prices.

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I recently blogged about how to put community into the center of the marketplace.  Three relevant concepts which I discuss were dual-use curation, bookmarking, and single and multi-player modes.  Check that post out for a fuller description.

Let me throw in another concept that can super-effective for building and keeping community in the marketplace, as well as surfacing and validating talent.  This is annotation of the important documents, and this concept is best explained, curiously enough, by rap music.

Andreessen Horowitz recently put money into the rap lyrics community site, Rap Genius, which has built community through the annotation of the meaning of rap lyrics — and Marc Andreeseen explained why in a post:

Only a handful of people know that the big missing feature from the web browser – the feature that was supposed to be in from the start but didn’t make it – is the ability to annotate any page on the Internet with commentary and additional information.

Back in 1993, when Eric Bina and I were first building Mosaic, it seemed obvious to us that users would want to annotate all text on the web—our idea was that each web page would be a launchpad for insight and debate about its own contents. So we built a feature called “group annotations” right into the browser—and it worked great—all users could comment on any page and discussions quickly ensued. Unfortunately, our implementation at that time required a server to host all the annotations, and we didn’t have the time to properly build that server, which would obviously have had to scale to enormous size. And so we dropped the entire feature.

I often wonder how the Internet would have turned out differently if users had been able to annotate everything—to add new layers of knowledge to all knowledge, on and on, ad infinitum. And so, 20 years later, Rap Genius finally gives us the opportunity to find out. It’s an ambitious mission, and one we are proud to get behind.

CTO Vision has a post about applying some of the principles from RapGenius to enterprise IT.  Two excerpts:

RapGenius is a site that lets users upload lyrics. Then it lets other users annotate and explain the meaning of the words for each song. It has rocketed to the top of lyrics sites and is quickly becoming the top destination for lyrics on the net. Part of the reason why is the incredibly smart way they built their annotation capabilities. It is powerful and easy. Users can upload lyrics (or any other text) and others can very easily comment on that. And then people can evaluate the comments and suggested continued improvements. In building a platform for lyrics annotation they have built a great means to add context to text.

One non-rap example is the Apple iTunes Terms of Service.  Clay Shirky uploaded that to Rap Genius after he saw another document (the Mayflower Compact) had been uploaded.  Apple’s terms of service, like so many others, is long and hard to understand. Shortly after Clay tweeted about his upload people started coming in and annotating it and clarifying that is is you are agreeing to if you accept these terms. Other than just explaining, people are also pointing out places that make these terms potentially voidable and other issues of note. This is turning into a great example of how our platform can help people communicate and clarify meaning and form assessments on action the meaning might compel.

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In my last post, I explored how to think about building community into the center of the marketplace.  The related question is  constructing and setting the marketplace in motion.

Simon Rothman, an EIR at Greylock, identified two key issues in a fantastic recent post:  liquidity and centralization.

Liquidity

Rothman’s first rule concerns liquidity: the reasonable expectation from the demand side of finding what you are looking for and from the selling side of selling what you are offering.  He says:

Marketplaces strengthen with scale and scale comes from liquidity.

Liquidity isn’t the most important thing. It’s the only thing.

Until you reach liquidity, you’re vulnerable. After, you have the opportunity for dominance.

My comment on this, and this is one of the big changes that I have seen from the approach in the late 90s and now, is that emerging marketplaces I have seen are very careful in the beginning to keep access controlled so that transactions are few but they all clear as the kinks are worked out.

Centralization/Decentralization

The second key issue is what functions of the marketplace are centralized (platform makes choices and does the work) or decentralized (user makes choices and does the work).  Rothman argues:

At a high level, decentralization gives you speed, but the cost is an inconsistent and possibly poor user experience. When you structure your marketplace you need to evaluate each action and decide whether it should be centralized or decentralized.

There are numerous actions that can be centralized or decentralized and a choice has to be made about each.  These elements can include: customer support, payments, ratings, reviews, photos, pricing, metadata, fulfillment, transaction terms, communication, location, user and supplier verification, insurance, and on and on.

Again, my impression is that emerging marketplaces today are much more centralized (Apple versus PC) than they were in the late 1990s.  The reason to be centralized is to develop and engrain a consistent and magical user experience at birth.  On first glance, it does not make sense in terms of growth, because, for example, how do you scale if you’re managing the picturetaking for properties that folks want to list (AirBNB)?  It turns out sometimes that there are answers to these questions, and one of the lessons of so many marketplaces is that you may never have the chance to scale if the platform starts off on the wrong (and messy) foot.

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