Two-sided marketplace

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 opportunities show no signs of diminishing. According to a Coresight Research report, the income of these platforms will double by 2022 globally – from under $20 billion in 2014 to just over $40 billion.

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 explanations for such confident projections, all of which relate to the unique nature of two-sided marketplace businesses.

Scalability

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 software

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. Now, there are many different approaches to marketplace development available.

Today, using a marketplace platform like 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 marketplace.

Two-sided dynamics

The third reason is that two-sided markets can create powerful dynamics like the network effect that speed up the growth of the business. When they work, these dynamics create value to all parties of the platform: the buyers and the sellers (sometimes also called customers and providers, or the demand and the supply), and the marketplace entrepreneur.

Next, we’ll look at the benefits as well as challenges to overcome related to the business model.

The purpose of a two sided marketplace platform is to facilitate interaction between buyers and sellers. The sides of the market 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 buyer, the seller, and the marketplace entrepreneur.

Perks for buyers: easier, faster, cheaper

Multi-sided marketplaces make it significantly easier, faster, and cheaper for buyers 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 buyer 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.

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 buyers 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 number of people to switch from taxis, their own cars, or public transport to Uber.

Perks for sellers: more customers, better tools

The nature of a two-sided market means that using the platform has to create value also for the other side, the sellers. More often than not, they are the side entrepreneurs should focus on the most.

Successful marketplaces generate sellers 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.

Homeowners 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 sellers 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 supply that 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 network effects and cross-side demonstration virality.

The network effect is 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 a product with a strong network effect, and most platform businesses and social networks belong to this category as well. The more people use Facebook, the better it can create value for all users.

When network effects unfold, user acquisition costs drop. A growing number of buyers 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, the network effect creates a virtuous cycle traditional businesses could never achieve.

As the platform grows and becomes more and more valuable to its user groups, the more value the marketplace entrepreneur can justifiably capture from each transaction. So, the larger the 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 buyer to a platform such as Airbnb, Eventbrite, or eBay is also a potential seller. 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.

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.

Chicken-and-egg problem

The chicken-or-egg problem is the flipside of network effects. Byers – the demand – will favor a platform that has a great selection of high-quality supply. Sellers – the supply – will be interested in marketplaces that have lots of demand. What can an early-stage entrepreneur do when they need one side to bring in the other and vice versa?

There are many tactics to combat the chicken-and-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.

Liquidity

Building a business for a two-sided market is almost like building two individual businesses. Buyers and sellers are usually very different types of users who respond to different kinds of value propositions, features, and incentives. And yet, there has to be a balance where the size of one side is big enough to serve the other. Buyers need enough selection, sellers need enough customers.

The best way to reach liquidity is to focus on a small enough niche and market and expand gradually. A 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 user groups to ensure a random user finds precisely the service or buyer they’re looking for.

On a platform 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.

Trust

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 you can do to build marketplace trust. Having a review feature is essential, and other mechanisms to create social proof are useful as well.

Marketplaces also often control the entirety of the marketplace transaction flow, from messaging to the complicated payment flow. This ensures the user experiences a smooth, frictionless transaction process, and that an admin 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 payment flow isn’t smooth or trustworthy enough, the seller and the buyer might be tempted to arrange the payment amongst themselves without paying a commission to the marketplace. This is called marketplace platform leakage, or disintermediation. In addition to eating away at the profits, this kind of behavior also exposes users to fraud and makes building trust all the more difficult.

A platform needs much more work than a traditional business to establish itself as trustworthy. User groups need to trust each other and the platform before they’re willing to put their money, possessions, and sometimes even their safety at stake.

The two-sided marketplace model offers tremendous opportunities and 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 marketplaces 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 marketplace 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-and-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.

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 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.