13 Jul 2020

Layering Network Effects: How to Multiply Unfair Advantages

Layering Network Effects

So far, I have discussed four different types of business models built on network effects — marketplaces, interaction networks, data networks, and platforms. Including the sub-categories I previously explained, this covers all discrete forms of software-based network effects. However, it is still not exhaustive because many startups fall under more than one of these categories. In fact, combining multiple forms of network effects, like Slack, Carta, and Poshmark have done, is one of the most effective ways to strengthen both defensibility and scalability.


29 Jun 2020

Internet Maturity & the Growing Importance of Network Effects


Technology Surge Cycle

John Luttig, from Founders Fund, recently wrote a great post outlining the macro-level challenges facing the startup ecosystem. It is worth reading in its entirety, but here’s a summary for the purpose of this post: Over the past decade, the surge of consumer and enterprise software startups has been fuelled by rapid growth in internet adoption. Now as adoption nears saturation (or maturity, as described by Carlota Perez on her Technology Surge Cycle), the tailwinds pushing the market forward are getting weaker. At the top of this S-curve, there is less opportunity to create new markets by targeting “non-consumption”. Instead, startups will need to challenge incumbents who were themselves VC funded startups until recently. In other words, the pie has stopped growing (or its growth has slowed), so now everyone needs to fight for a slice. While there is certainly a lot of truth to this, it is in the nature of macro-level analyses to obscure micro-level details. And these details often present the most valuable opportunities.


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15 Jun 2020

The Platform Matrix: All Platforms Are Not Created Equal


Developer Platforms

I have previously explained how network effects shape three broad types of tech businesses — marketplaces, interaction networks and data networks. In addition to these, there is one other type of business where network effects play a central role — platforms. Unfortunately, the tech and startup world has spent much of the past decade using the term “platform” to describe everything from operating systems to analytics tools, algorithms, APIs, etc. Quite plainly, if everything is a platform, then nothing is and the term loses all meaning. So let’s take a more granular look at what platforms really are, and then unpack how their network effects work.


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1 Jun 2020

Marketplace Liquidity: How Side Switching Can Help


Marketplace Liquidity

So far, I have explained some of the key characteristics of marketplace network effects. This includes the impact of fragmentation, geographic range, supply differentiation, SaaS integration and engagement. But none of this is remotely useful unless startups can actually get transactions flowing on their marketplace. In order to bootstrap these interactions, marketplaces need to hit a critical mass of demand and supply. In other words, they need to have “liquidity”.


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18 May 2020

The Data Matrix and the Data Decay Dilemma

Data Network Effects


The growth in internet adoption, among both businesses and consumers, has led to an explosion in the volume of data in the world. This has naturally led to more entrepreneurial interest, resulting in numerous data-based ("big data" or "artificial intelligence") startups and new business models claimed to be built on "data network effects". It is usually believed that more data leads to stronger data network effects, but this is often not the case. Data network effects are more misunderstood, much rarer, more difficult to establish and even harder to recognize than "traditional" network effects.


4 May 2020

Why Marketplaces Fail: The Role of Engagement

Why Marketplaces Fail


So far, I have discussed a handful of characteristics that create structural advantages or risks for marketplaces. This includes the geographic range of network effects, supply differentiation, SaaS integration and market fragmentation. Fragmentation is most useful as a first level filter to assess the viability of any marketplace, while the rest are second and third-level screening frameworks to evaluate defensibility and scalability. Another factor that influences the potential of marketplaces is the nature of engagement, i.e. the size and frequency of transactions. While this is less influential than other structural characteristics, it can become a major risk factor for some types of marketplaces.


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20 Apr 2020

The Difference Between Virality And Network Effects

Zoom vs. Slack

Over the last couple of months, Covid-19 and subsequent lockdowns have led to a dramatic shift towards remote work tools. Zoom has been one of the biggest beneficiaries of this shift, with daily active users growing from 10M in Q4 2019 to a staggering 200M in Q1 2020. This has also led to a surge of investor and startup activity in the remote work space. As a result, I have received numerous questions about Zoom, from both investors and entrepreneurs. These questions largely boil down to “How strong are Zoom’s network effects?”. While this is an interesting topic to explore, it is the wrong question. The right questions are: “Does Zoom have network effects? And if not, what makes it defensible?”.


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8 Apr 2020

Fragmentation & Network Viability

Fragmentation & Network Viability

In my last few posts, I have put across a screening framework for network effect-based startups based on defensibility and scalability, and also explained how SaaS integration can change those assessments. Before evaluating any of that, we have to first determine the viability of developing network effects in the first place. In order to do that, we not only have to evaluate the strength of the value proposition, but also the fragmentation of markets that the network or marketplace aims to connect.

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23 Mar 2020

When Networks Meet SaaS

When Networks Meet SaaS

Software-as-a-Service (SaaS) startups are extremely popular with investors for a host of reasons. SaaS startups are extremely scalable because software has zero (or near-zero) marginal costs once developed, i.e. it costs virtually nothing to create another copy. Combining this scalability with subscription-based pricing results in a revenue model with high gross margins and predictable revenue (ignoring AI and data processing heavy models for now). In addition, many B2B SaaS startups are also fairly defensible because they benefit from high switching costs, i.e. those that are a “system of record” become “embedded” in the day-to-day operations of their customers’ businesses which makes it difficult for competitors to displace them.

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9 Mar 2020

The Network Matrix: Bridges & Identity

Network Bridges

As I explained in my last post, the “marketplace matrix” is a great framework to get a quick understanding of the strengths and weaknesses of marketplace startups. Combining both defensibility and scalability of unit economics gives us a more holistic, but not yet comprehensive, view of these businesses. Interestingly, the core tenets of this framework are not restricted to marketplaces and can be extended to other types of network-based businesses as well (1-sided, 2-sided or multi-sided networks). But moving from the subset of marketplaces to the superset of networks requires the introduction of new concepts. I’ll explain these by looking at some well-known names in the social media space, and then extend these ideas to other network-based business in far-flung spaces, from payments to online gaming.

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