Are you looking for a business model that stands the test of time?
Then what you're looking for is a so-called "platform" business. A platform business is a company that makes it easy for two or more groups of customers--say, drivers and riders--to connect and transact. The fancy term for a platform business is an "intermediation" service--a service, often a technology, that brings together two parties for their mutual benefit. Prior to the introduction of the service, the two parties had likely been operating separately, for one reason or another (cost, distance, incompatible technology, inconvenience).
In their recently released book, economists David Evans and Richard Schmalensee call these platform businesses Matchmakers, since they generally match one needy group (riders) with another who's willing to serve it (drivers). Today, they argue, we're living in a matchmaker economy. In addition to companies like Uber and Lyft, three of the world's five most valuable companies--Apple, Google, and Microsoft--make much of their profits from matchmaking different groups, like developers and users in the case of Apple. So do some prominent unicorns (startups worth more than $1 billion), like Airbnb and Flipkart. And that's not all. Visa connects cardholders and merchants; Facebook connects friends, advertisers, and developers; Westfield Malls connects retailers and shoppers.
If you're interested in starting a matchmaker business of your own, the authors suggest you use these six questions to evaluate the potential of your idea:
1. What's the friction, how big is it, and who benefits from solving it?
A friction is the authors' term for the marketplace problem that your matchmaking technology or service would solve. For example, OpenTable solved the friction that existed between restaurants and diners. Prior to OpenTable, few would have said making a reservation was a low-hanging problem. Likewise, prior to Uber, few would have said getting a cab was a low-hanging problem. But in both cases, a technology came along whose efficiencies enticed two different groups to connect with each other in a newly streamlined and mutually beneficial way.
2. Does the platform design reduce this friction, balance the interests of participants on all sides, and do it better than other entrants?
The authors note that answer to this question is usually no. For example, they write, when YouTube came out, there were many entrants in the marketplace, hoping to cash in on the same general notion about marrying the Internet and video streaming. The point is, many founders saw the friction; but it was YouTube that had the best technology for reducing it and luring its initial batch of participants--consumers who wished to watch and share their own videos.
3. How hard is the ignition problem, and do I have a solid plan for achieving critical mass?
By "ignition," the authors mean growing the population of one set of your customers. For example, OpenTable knew that a key first step was igniting reputable restaurants to participate, believing that there'd be a massive marketing benefit if the first adopters were the places in big cities where movers and shakers liked to dine. What was more, they had the common sense to recognize that if the destination restaurants adopted the platform, then their eager customers would have little choice but to do so--and the match would be made.
For aspiring platform businesses, it's important to research--and realistically project--if your cost of customer acquisition will be low enough for you to reach critical mass without running out of cash.
The cost can be very high. When OpenTable launched, it had trouble getting restaurants because--at the outset--it had few prospective diners or restaurants signed on. What was more, its initial approach didn't consider the realities of owning a restaurant in 1998. At that time, many restaurants didn't have computers or Internet connections. They also didn't have the available cash to outright purchase a table-management software system. So OpenTable adjusted in midstream and began charging a small installation fee and a monthly rental for the system. "They had to go in and subsidize the deployment of broadband to get Internet connections in the restaurants," says Evans. "They burned through tens of millions acquiring those restaurants. That cost was very high. But it was essential to getting the participants on board."
4. Do prices necessary for ignition and growth enable the platform to make money?
Your investors might be willing to pay exorbitantly for key participants if you can convince them that--ultimately--there'll be profits at the end of the rainbow. OpenTable burned through $1.1 million a month in 2000 and 2001. But it went public in 2009 with a market cap of $626 million on its first day. And it was sold to Priceline for $2.6 billion in 2014. The moral is this: You have to watch your cost of customer acquisition, but you also have to place it in the context of what your platform will ultimately be worth, if it ignites.
5. How is my platform going to work with others in the broader ecosystem, does it face related risks, and has it dealt with them?
For example, Apple and Google were both aware that the success of their smartphone operating systems would depend on partnerships with mobile carriers; so each company partnered accordingly. Likewise, before starting Apple Pay, Apple built relationships with the major credit card networks and merchant services providers. Apple realized that Apple Pay would only take off if Apple made it easy for consumers and banks to participate with the debit cards that were already in circulation.
6. Am I ready to modify my design and ignition strategy quickly in response to market reactions?
OpenTable, for example, pivoted quickly when it realized it would be easier for restaurants to pay a small installation fee, followed by a monthly rental fee. Likewise, OpenTable shifted its marketing strategy when it realized the key to ignition was gaining critical mass at prestigious restaurants in a few large U.S. cities--San Francisco and Chicago--as opposed to growing piecemeal by focusing on all big city restaurants regardless of prestige. "They realized that lining up every McDonald's was not going to help them much," says Schmalensee.
Yes, pivoting quickly is important for any business. But for a platform company, it's especially crucial. You need to ignite and gain critical mass with at least one of the groups you're hoping to match with another--before you burn through all your cash.