Andrei Hagiu

Simon Rothman

<article-ideainbrief class="article-ideainbrief">
 <h4 class="ideainbrief-title">Idea in Brief</h4>
 <div class="ideainbrief-contents">
  <h5>The Misconception</h5>
  <p>Most entrepreneurs believe that the key challenge in building online marketplaces is to attract a critical mass of buyers and sellers. But before or even after that hurdle has been overcome, there are others looming that can hurt, if not kill, these businesses.</p>
  <h5>Overlooked Challenges</h5>
  <p>Growing too quickly can exacerbate the flaws that are inevitable in any business model. Common approaches for establishing trust and safety rarely work on their own. Using sticks rather than carrots to deter disintermediation can backfire. And regulatory issues can derail a promising business.</p>
  <h5>The Solution</h5>
  <p>Before scaling, marketplaces must lay out a compelling value proposition for buyers and sellers. They need to build trust and create incentives to keep them on the platform. And they need to engage regulators as soon as their buyer-seller proposition is clear.</p>
 </div>
</article-ideainbrief><p>In many ways, online marketplaces are the perfect business model. Since they just facilitate transactions between suppliers and customers rather than take possession of or full responsibility for products or services, they have very low cost structures and very high gross margins—70% for eBay, 60% for Etsy. And network effects make them highly defensible. Alibaba, Craigslist, eBay, and Rakuten are more than 15 years old, but they still dominate their sectors.</p>

NpB01J2AWe4l1Xm8FnZHh0Lz5rSdXsL3l63AWp1Lh73g9CopIBLbaA54MnpNMwN503/2KCFNbt+qeppqVN92uRLSAF8yZHyjVW+Uz6T+OKAxfjCPlbEkt3rgCVHto8Sr

<p>In many ways, online marketplaces are the perfect business model. Since they facilitate transactions between independent suppliers and customers rather than take possession of and responsibility for the products or services in question, they have inherently low cost structures and fat gross margins. They are highly defensible once established, owing to network effects.</p>
<p>Yet online marketplaces remain extremely difficult to build, say Andrei Hagiu of Harvard Business School and venture capitalist Simon Rothman of Greylock Partners. Most entrepreneurs and investors attribute this to the challenge of quickly attracting a critical mass of buyers and suppliers. But it is wrong to assume that once a marketplace has overcome this hurdle, the sailing will be smooth.</p>
<p>Several other important pitfalls can threaten marketplaces: growing too fast too early; failing to foster sufficient trust and safety; resorting to sticks, rather than carrots, to deter user disintermediation; and ignoring the risks of regulation.</p>
<p>This article draws on company examples such as eBay, Lending Club, and Airbnb to offer practical advice for avoiding those hazards.</p>

Network Effects Aren&rsquo;t Enough

In many ways, online marketplaces are the perfect business model. Since they facilitate transactions between independent suppliers and customers rather than take possession of and responsibility for the products or services in question, they have inherently low cost structures and fat gross margins. They are highly defensible once established, owing to network effects. Yet online marketplaces remain extremely difficult to build, say Andrei Hagiu of Harvard Business School and venture capitalist Simon Rothman of Greylock Partners. Most entrepreneurs and investors attribute this to the challenge of quickly attracting a critical mass of buyers and suppliers. But it is wrong to assume that once a marketplace has overcome this hurdle, the sailing will be smooth. Several other important pitfalls can threaten marketplaces: growing too fast too early; failing to foster sufficient trust and safety; resorting to sticks, rather than carrots, to deter user disintermediation; and ignoring the risks of regulation. This article draws on company examples such as eBay, Lending Club, and Airbnb to offer practical advice for avoiding those hazards.

Network Effects Aren’t Enough

Summary.

Partner Center