7 Frameworks For Predicting Online Marketplace Success

What makes some online marketplaces billion dollar successes and others costly failures?

Uber and Airbnb are forging ahead relentlessly. Yet Homejoy, having raised $40 million in funding, ended up shutting down.

Why?

How much is down to execution and luck, and how much to fundamental differences between the industries they chose to play in or their precise business models?

What if there was a framework that could help us predict whether an online marketplace would be successful or not in a given industry?

It turns out that over the last few years a number of smart people have thought about this and shared their frameworks for assessing the potential for online marketplaces.

Let’s take a look at what they had to say…

Framework 1: Ben Holmes of Index Ventures

In a post from July 2014, entitled “Autobutler and the Six Characteristics of a Successful Online Marketplace“, Ben described how, when looking at online marketplaces, he and his colleagues at Index Ventures look for a proposition that fulfils 6 key criteria:

For the consumer:

• Convenience : Is it significantly easier to use the marketplace than not to?
• Choice: Does the marketplace have a good selection of sellers?
• Clarity: Are price and service level clear?

For suppliers:

• Promotion: Does the marketplace provide a way for sellers to efficiently promote their offering to highly qualified buyers?
• Productivity: Does the marketplace help sellers increase their utilisation or productivity?
• Practicality: Does using the marketplace fit conveniently into the sellers’ workflow? (A characteristic that can be seen strongly in so-called market networks.)

(They look for strong teams, too, just as they would with non-marketplace businesses.)

Framework 2: Imran Ghory

In his blog post Markets for Marketplaces in September 2014, Imran Ghory (previously an analyst at Index Ventures) presented a great list of factors that affect whether an industry is attractive for an online marketplace.

Demand side:

• Multiple-transaction behaviour (do customers make at least a few transactions per year?)
• Low vendor loyalty (do customers regularly switch between vendors?)
• Large market (customer spending of $10bn+?)
• Expandable demand (is there ‘untapped demand’ that can be unleashed by a marketplace?)
• Potential to improve consumer experience (e.g. reviews of suppliers)

Supply side:

• Fragmented (do small suppliers control a large part of the market?)
• Low conversion/high conversion (do customers typically shop around a lot before making a transaction? If so, a marketplace can have an advantage in customer acquisition costs vs any individual vendor.)
• Supply-side servicing (can marketplace provide value-add services to suppliers because of their position?)
• Expandable supply (would a marketplace reduce the barriers for new suppliers to enter the market?)

Transaction:

• On-platform transactions (can the entire transaction be captured on-platform?)
• Market open to a marketplace (are the participants willing to move to an online marketplace?)
• Willingness to pay (are participants willing to pay for a marketplace?)

Framework 3: Bill Gurley of Benchmark Capital

In Bill Gurley’s 2012 post “All Markets Are Not Created Equal: 10 Factors To Consider When Evaluating Digital Marketplaces,” he described 10 factors to consider:

1. New Experience vs. the Status Quo. (Can marketplace offer a better experience for the customer?)
2. Economic Advantages vs. the Status Quo.
3. Opportunity for Technology to Add Value. (e.g. providing data about market or facilitating workflow)
4. High Fragmentation (ideally buyers and suppliers)
5. Friction of Supplier Sign-Up. (high friction is costly but can be a barrier to entry)
6. Size of the Market Opportunity
7. Potential to Expand the Market
8. Frequency (higher frequency better)
9. Payment Flow (being part of the payment flow is best)
10. Network Effects (is experience for customer N+1000 better than for customer N directly because of 1000 extra participants?)

Framework 4: Josh Breinlinger of Sigma West

In his post “The Ingredients for a Successful Marketplace” from 2014, Josh listed 5 top factors to consider as a framework for evaluating whether a marketplace should exist in a given vertical:

1. Recurring Usage
2. Irregular Usage
3. Standardized Work
4. Little Trust Required
5. Non-Monogamous Relationships

Framework 5: Fabrice Grinda

Fabrice has written some great articles about marketplaces as well as being an active investor and operator.

In “Thoughts on Building Successful Vertical Marketplaces” from March 2013 he considered marketplaces that specialise in a particular category in contrast to broader multi-category marketplaces such as Craigslist and eBay.

Fabrice identified three factors he believes are important:

1. Frequency: Users purchase the product or service reasonably regularly.
2. Value in Specialisation: The vertical marketplace must offer something that is not easy for the horizontal marketplace to offer and truly improves transactions in the category.
3. Market size

Framework 6: Andrei Hagiu of Harvard Business School and Julian Wright of the National University of Singapore

It’s interesting to think about the similarities and differences between being a reseller (where you purchase inventory) and being a marketplace (where you don’t purchase inventory). In both cases you are an intermediary enabling goods or services to pass from sellers to buyers.

In this HBR article from March 2013, Andrei Hagiu of Harvard Business School and Julian Wright of the National University of Singapore looked at which of the two business models is most appropriate to a given situation.

They argued that the following 4 factors are important in this decision:

1. Scale effects – high-demand products favour reselling since a large buyer can capitalise on economies of scale.
2. Aggregation effects – if products and services have much higher value to buyers when bought together than when purchased separately, then this can favour reselling.
3. The buyer and seller experiences – if customer experience is often poor, reselling tends to work better as it allows more control over the experience.
4. Market failures – in some cases, marketplaces can collapse, e.g. due to uncertainty about suppliers or large mismatches in bargaining power. Reselling can add stability.

Andrei and Julian also concluded that different models might be preferable at different times. You might, for example, want to start as a reseller and then move towards being a marketplace. By their nature, marketplaces tend to need less capital to operate at a given scale so may be better suited to rapid growth.

Framework 7: Boris Wertz of Version One

In this May 2015 article, Boris considers what characteristics make an industry attractive for an Uber-style marketplace:

1. Underlying commoditized services
2. High purchase frequency
3. True on-demand use case (In most cases you don’t need a cleaning service or house painter to show up within minutes, or even the same day. But taxis are a different story.)

Further Reading

• Getting to Critical Mass: How to Start a Marketplace Business
• How Thumbtack Built a Huge Local Services Marketplace
• Skillshare: How to Build a Marketplace for Online Education

Conclusions

All these frameworks were designed with slightly different viewpoints in mind and to serve slightly different purposes, so their authors naturally arrived at different results. For venture investors looking for huge exits, for example, the potential size of the market is extremely important. For others, it’s less important.

There are, however, two common factors that appeared in several frameworks as important factors for the success of an online marketplace:

• Frequency of purchase
• Potential to improve the buying/selling experience

Imran and Josh both listed a factor that can be a result of Boris’ ‘underlying commoditised services’:

• Low vendor loyalty

Lastly, one factor that a couple of the frameworks included and that I personally suspect is an important one:

• Fragmentation of existing players

It’s an interesting time to watch what’s happening with online marketplaces, especially given the excitement around the likes of Uber and Deliveroo and the rise of ‘market networks‘ such as AngelList and Houzz that layer social network and workflow components on top of marketplaces.

Which industries do you think are best suited for disruption by an online marketplace next?