Marketplaces are hard to build. It takes perseverance, business insight and money to establish a critical mass of users, inspire trust and facilitate transactions between buyers and sellers.
There is also a good reason why online marketplaces have been sprouting up in the last 15 years. The potential rewards are significant. The inherent network effects (as marketplaces grow, the value of the marketplace for the users grows exponentially) provide the leading marketplaces with a competitive edge, sometimes beyond reach for any new entrants. This dynamic can create an environment where only a few global winners and dozens of local champions emerge – think of Airbnb, Uber and Booking.com in their respective industries. All of them are multi-billion businesses.
Another great power of a marketplace model is its ability to create new business opportunities. Many entrepreneurs have built online marketplaces to bring buyers and sellers together where relationships between them haven’t existed before. One such example is Laundryheap, a marketplace for dry-cleaners and their customers. The London-based company has successfully transformed a completely offline industry into a digitalized market, creating extra value in the process. (Read the interview with its founder Deyan Dimitrov on how he started the company).
The evolution of marketplaces
Let’s now go deeper into marketplaces and first look at how they’ve developed in the last 20 years.
Listing marketplaces emerged first, some of them already in the 90s. They are essentially structured lists of companies and their contacts. Think of Craigslist, TripAdvisor and Yelp; they all make it easier to find and discover different service providers. In these first marketplace iterations, transactions still occurred offline without the involvement of the marketplace operators. This also meant that monetization possibilities have been limited to premium placements or subscriptions, modeled by the good old yellow page phone books.
The next logical step in the evolution of marketplaces has been defined by the incorporation of transactions. Simply put, a transaction in this sense is an exchange of monetary value between users. These exchanges have been made possible by two things: firstly, by the evolving technologies such as online payment processors, and secondly, by the ever-greater visibility of the existing marketplaces.
However, exchanging money also means that trust between buyers and sellers suddenly becomes a lot more important. And some marketplaces have been able to inspire enough trust that sellers and buyers needed to do business online without any prior relationships. Airbnb, for instance, promised to protect the interests of both the private accommodation providers and their visitors which unlocked a whole new market of private homes rentals.
Gradually, on top of ensuring streamlined transactions, the marketplaces started to manage the process of a) matching and b) delivering the services. Many of today’s marketplaces promise to effectively match relevant sellers and buyers. They also take ever-greater responsibility for the quality of service. Tinder, for instance, has based its entire model on the matching mechanics, Uber picks up the optimal taxi and promises that the car will be clean with a friendly driver. Codable, a marketplace for developers and WordPress owners, matches developers with projects that they are most qualified to successfully execute. These platforms certify quality, strictly define processes and usually provide an easy way to get refunds if the service rendered was below what the marketplace promises.
Key success factors
Now that we know a bit more about the evolution of marketplaces, let’s answer another fundamental question: what makes a successful marketplace? There are three elements, all very important - especially because most entrepreneurs don’t take them seriously enough from the start.
Marketplace liquidity is defined by the frequency of transactions. Simply put, you want to have as many transactions as possible from as few users. Keep in mind that a large number of potential users don’t necessarily point to market liquidity. We learned that ourselves. Some time ago, d.labs worked with Toothpick, an ambitious London start-up, in building a marketplace for dentists and their patients. In our case, a transaction has been defined by a patient selecting a new dentist. We’ve soon learned that this particular transaction doesn’t occur often; people tend to stick with their dentists. So we decided to first focus on the dentist clinics, providing them with an easy-to-use feature that allowed them to re-book their existing customers/patients. This way, we established our presence in the industry, and only after some time started to build the demand side – without spending big money on a marketplace with low liquidity.
Matching is the ability of the marketplace to offer the right service to the right people. The easier the buyers and sellers find themselves the better the marketplace. This can be done in several different ways. The whole proposition of Tinder is to give users as many matches as possible in the shortest period of time. They do this by making it super-easy to swipe for a potential match, and, secondly, by deploying a sophisticated recommendation system that makes potential matches more likely.
The decision process of Tinder users is normally based on a couple of photos and a short bio description. Other marketplaces have to go deeper and become more involved in the matching process. Accountant service marketplaces, for instance, could ask accountant firms to evaluate balance sheets that would help clients make a more informed decision. These marketplaces have to carefully manage and break down different steps of the matching process. And that takes time and a lot of insight.
The logic is pretty straightforward: the more trust a marketplace is able to inspire, the easier it is for them to retain users and increase their lifetime values. Generally speaking, there are two different strategies companies use to establish the element of mutual trust. Deciding on the right strategy is an important success factor.
1. Soft trust is when marketplaces leave the decision-making to the sellers. These marketplaces might provide certain reviewing functions, but they don’t curate the supply side in depth. Typical examples of marketplaces that are built around a soft trust principle are Fiverr, a marketplace for freelance services, and Hailo, a taxi-hailing app, now part of myTaxi.
2. Hard trust is arguably harder and more expensive to establish since the marketplaces vouch for the quality of services. One such example is Uber; they invest lots of effort to maintain high standards, especially on the part of the drivers.
How to get to a critical mass of users
The essential part of any business is to have a sustainable business model. In the context of marketplaces, developing business models comes down to the notion of a critical mass of users. This critical mass is determined by the number of buyers & sellers and how much they do business with each other (frequency of transactions).
To achieve critical mass, it is important that marketplaces are able to balance between the supply and demand sides of the equation. There are a couple of proven tactics to achieve just that:
a) Stand-alone mode: Instagram started as a photo filter provider; enough people were returning until they reached a critical mass.
b) Buyers bring sellers or sellers bring buyers: Restaurants on Just Eats, for instance, encouraged their customers that called for delivery to next time order food through Just Eats since the process is easier and less time-consuming.
c) Ensuring high-density: Uber carefully planned their expansion to ensure a high-density marketplace – they expanded city by city (as opposed to country by country) which provided them with a focus to keep a larger number of buyers and sellers in a smaller location. This is super important, especially, if the service is done in the physical world.
d) Focus on the hard side – When building a marketplace, the focus should be on both sides of the market, but one side is almost always harder to develop. Tinder’s “hard” side has been the ‘attractive’ people. So, they invested more effort into bringing cheerleaders, sports teams, and sororities on board.
e) Curate – To inspire trust, both buyers and sellers have to feel special. Rock Pamper Scissors, the hairdresser booking app, now defunct, only accepted hair saloons with the most creative hairstylists, for instance.
f) Create habits: Figure out how to make smaller, repetitive transactions between buyers and sellers.
Trends that you should keep in mind
Don’t forget that marketplaces are still evolving and adapting to new technologies and market needs. In our opinion, there are three distinct trends that will shape the future of marketplaces in the next few years.
Verticalization of the supply side
Marketplace businesses are exploring ever-narrower supply sides, digitizing a range of services that have been completely offline until recently. Even niche markets can have massive potential as the overall transaction volumes are rapidly expanding.
Adaptability to narrower use-cases
Start-up Slice provides pizza slice deliveries with one click. They believe that convenience can fuel marketplace liquidity. Optimizing the user experience can indeed reap big rewards if it unlocks new value on the market.
Think of them as the Turing Test of marketplaces – if the users can’t tell human assistants for machine-driven intelligence, the bots can create a lot of additional value while keeping the operational costs much lower. The health sector is especially quick in adopting bots. Modern menopause, a British company that we worked with, is one such example. Its platform Vera, that brings together medical specialists and women who experience menopause, deploys sophisticated bots for the online assessment process.
Questions? Ask us anything!
d.labs has helped create 15+ marketplaces so far. We’ve worked on wineries, hair salons, menopause assistants and dental clinics, among others. Some failed, others are still kicking and growing, a couple of them have been sold. There are many lessons we have learned and lots of knowledge we’ve accumulated.
We would also love to discuss your plans, marketplace-related, or other business ideas you might have in mind. Feel free to contact our associate partner Peter and schedule a free consultation. Talk to you soon!