How Online Platforms Co-Create Value - The Platform Cycle Model

If someone asked you to build a company just like Uber, where would you start? Buy a car? Rent a car? Create an app? Find a driver? There’s an overwhelming number of different things you could choose to do, but where the dickens do you start designing a marketplace business?

That doesn't stop people from trying to build an "Uber for X" or an "Airbnb for Y". That's great when you see a successful company, and can conceive of something similar in another industry. But the problem with working from analogies like this is you don't really understand the underlying mechanics of what's going on.

What I really wanted to achieve with my platforms research was a model that could work with any paid exchange of any type on a platform. The idea here isn't to say "like Uber" or whatever, but explain in English what's going on.

The Platform Cycle Model is what I came up with - it links together all the component parts of an online marketplace platform, and the relationships between them. The cycle part illustrates the first problem - where do you start?

 

First, how do you get participation?

The circular model starts with the consumer value proposition - there has to be some benefit to exchanging for a transaction to occur. To participate, consumers have to believe they’ll be better off with the platform’s consumer value proposition.

Since online platforms don’t deliver the service themselves, they must engage another set of users - *producers* - to deliver on the platforms behalf. But, producers need their own value proposition that will leave them better off than their next best alternative in order to willingly participate and contribute their resources as inventory on the platform. Often, this next best alternative is being idle. 

The technology and networks within platforms often allow producers in existing or similar markets to make better use of their latent resources, or bring new forms of inventory into the market. This new inventory (like staying in someone’s home instead of a hotel) often needs some form of behavioural tweak, involves industry-wide (re)education and is in a peer-to-peer format. Peer-to-peer seldom works at scale outside of a platform, which also means platforms are the exclusive vendors of lots of new, quirky inventory.

 

You've got participation. Now how do you make matches?

Consumers and producers may be willing to participate on the platform, but it means nothing without the value proposition being fulfilled. The transactions still need to be made, which requires consumers and producers to match in the marketplace.

The platform’s challenge is not only to facilitate one match, but  many successive matches so that consumers and producers get lasting value from participating. This needs a large pool of participants that are compatible work together - critical mass.

 Product-marketplace fit diagram

Product-marketplace fit diagram

Consumers and producers have heterogenous preferences - they need different products, at different times, in different places, and so on. Critical mass takes the consumers and producers with similar enough preferences - mutual homogenous expectations - for one product. This leads to many successive matches instead of just a one-off.

A marketplace can’t function without critical mass, and neither can the consumer or producer value proposition. Therefore, in a marketplace, critical mass together with the consumer value proposition and producer value proposition make up the product-market fit, or rather product-marketplace fit.

 The consumer and producer value proposition, and critical mass.

The consumer and producer value proposition, and critical mass.

Besides sustain a market, critical mass also brings standards. Within a platform, standards have many benefits:

1. Standards bring continuity to both sides value propositions

Critical mass supports the expectation that the platform can deliver again, and so it encourages lasting participation. Without this, belief in the value proposition is lost and consumers and producers no longer willingly participate.

2. Standards bring balance in the compromises between two sides value propositions

Platforms can served many different consumers and producers by aggregating users with similar enough preferences. To build critical mass, this usually involves small compromises in the “perfect” experience for both, whilst still being good enough to satisfy each sides needs.

3. Standards with critical mass allow detecting of deviation from a standard which allows feedback and reputation systems to a chance to function.

Standards bring conformity to every exchange. With a set expectation on both sides from a large sample, behaviour can be measured which allows for ratings, reviews, rewards and punishment. Feedback systems are crucial to a marketplace platform functioning effectively, as we’ll discuss later.

To make the matches occur, consumers and producers from the pool with similar preferences need to send and accept a match.

From the critical mass of users, there are active users who are “in the moment” ready to match - someone ordering a driver to pick them up. An effective platform must have a high matching efficiency where most requests go fulfilled, and the value propositions are realised on both sides.

Maximising matching efficiency is dependent on critical mass, but also compliant behaviour from the consumer and producer involved. Surpluses or shortages of consumers or producers degrades matching efficiency and the belief in the value propositions. This decreases trust and participation. If producers are turning down consumers, or vice versa, the platform must intervene to encourage matches or delist the offender. The quality of matches precedes the quantity of matches in a marketplace.

If a platform has both a critical mass of users and a high matching efficiency, it can achieve liquidity. Liquidity ensures the platform’s marketplace has an ongoing fulfilment of demand with supply, and meets the consumer’s and producer’s value propositions to meet their next request. Also, a liquid market with free-floating pricing and quantity (from producers participation) allows efficient pricing to occur where price and  quantity move to meet supply and demand - like in any market.

 

From matches, we have transactions…

MDS Platform Mechanics- How Online Platforms Co-Create Value (step 3).png

The output from a liquid market will be many matches and many transactions.

There are three main outputs from these transactions - delivery, mutual feedback and customer payment.

1. Delivery

The producer delivers the personalised consumer experience. This reinforces the belief in the consumer value proposition, drives word of mouth communication and further participation by the consumer.

2. Mutual feedback

The consumer and producer rate each other’s performance which gets aggregated by the platform. Each user’s reputation data gets used to regulate the experience. Good and bad behaviour is promoted and punished. The idea here is to create mutual trust between consumers and producers - any consumer could trust any producer so long as the transaction was hosted on the platform. Mutual trust drives co-operation.

3. Customer payment

The consumer’s payment for the service drives revenue for the platform. This is split between the producer’s and the platform’s cut. The producer’s cut leads to their operating profit which validates the initial producer value proposition of perceived profits. This reinforces their belief in the producer value proposition and platform, driving more participation.

 

So in summary

The Platform cycle links how and why producers and consumers interact and transact to each other’s benefit, and the platform’s role in the process.

 The Platform Cycle

The Platform Cycle