Platforms have become one of the most important business models of the 21st century. In our new book, we divide all platforms into two types: “Innovation platforms” enable third-party firms to add complementary products and services to a core product or technology. Prominent examples include Google Android and Apple iPhone operating systems as well as Amazon Web Services. The other type, “transaction platforms,” enable the exchange of information, goods or services. Examples include Amazon Marketplace, Airbnb and Uber.
Five of the six most valuable firms in the world are built around these types of platforms. In our analysis of data going back 20 years, we also identified 43 publicly listed platform companies in the Forbes Global 2000. These platforms generated the same level of annual revenues (about $4.5 billion) as their non-platform counterparts, but used half the employees. They also had twice the operating profits and much higher market values and growth rates.
However, creating a successful platform business is not so easy. What we call “platformania” has resembled a land grab, where companies feel they have to be the first mover to secure a new territory, exploit network effects and then raise barriers to entry. Uber’s frenetic efforts to conquer every city in the world and Airbnb’s desire to enable room sharing on a global scale are the two most obvious recent examples.
The problem is that platforms fail at an alarming rate. To understand why and how, we tried to identify as many failed American platforms as possible over the last 20 years that have competed with the 43 successful platforms. These 209 failures allowed us to extract some general lessons about why platforms struggle.
We grouped the most common mistakes into four categories: mispricing on one side of the market, failing to develop trust with users and partners, prematurely dismissing the competition and entering the market too late.
Researchers have extensively studied pricing decisions, yet managers still get them wrong. A platform often requires underwriting one side of the market to encourage the other side to participate. But knowing which side should get charged and which side subsidized may be the single most important strategic decision for any platform.
Firms may have to throw common-sense pricing out the window when two or more platforms are racing to create a network effect. For example, Sidecar pioneered the peer-to-peer ride sharing model before Uber and Lyft, but it never became a household name. It deliberately pursued innovation and a conservative, slow-growth strategy to remain financially responsible. The fatal flaw was in not recognizing the importance of attracting both sides of the platform. Sidecar also raised much less venture capital than Uber and Lyft, and was unable to attract enough drivers and riders to survive much beyond the startup phase. Of course, Uber and Lyft have lost billions of dollars, and even though both have now gone public, they may never generate a profit or survive as viable businesses.
Getting the price right is necessary in any platform, though it is not sufficient for success. Platforms also require that two or more parties, who may or may not know each other, connect. Therefore, building trust is essential; this is typically done through rating systems, payment mechanisms or insurance. In the absence of trust, players on the platform must make a leap of faith.
One of the biggest failures in this category was eBay in China. It was the first mover, with a dominant share in China in the early 2000s. But Alibaba took over the market. The source of the failure, revealed by the CEO of eBay China in an interview, was that eBay relied on PayPal, which was designed as a payment system, much like a bank. For Chinese consumers unfamiliar with online commerce, that was simply not enough. Alibaba’s Alipay used an escrow model, which did not release payment until the consumer was satisfied. This neutralized eBay’s early advantage, and Alibaba quickly captured the bulk of the market.
A common misconception about platforms is that once the market has tipped in your favor, you will be the winner in the long run. This is often true. But there is a better way to think about tipped markets: It is the winner’s opportunity to lose. Hubris can produce spectacular failures. For example, browsers are a classic innovation platform; webmasters had to optimize their websites to exploit key features in a browser. When Microsoft’s Internet Explorer had captured close to 95% of the market by 2004, pundits proclaimed that the browser wars were over, the market had tipped, and Microsoft had won. It would have required a monumental error for Microsoft to lose its leading position, but extremely poor product execution between 2004 and 2008 enabled the emergence of Firefox; and then inferior product innovation between 2008 and 2015 opened the door to Google’s Chrome.
Perhaps the most typical mistake is mistiming the market. The smartphone market illustrates how great products plus all the resources in the world can still lead to failure when entry is too late. Here again, Microsoft is the poster child. Despite billions and billions of dollars invested over a decade, Microsoft’s Windows phone died. Entering the business five years after Apple, and three years after Google, meant that Microsoft had missed the platform window. It never recovered.
Here are our key conclusions:
— Since many things can go wrong, managers and entrepreneurs need to make a concerted effort to learn from failure. Despite the huge upside opportunities, pursuing a platform strategy does not necessarily improve the odds of success as a business.
— Since platforms are ultimately driven by network effects, getting the prices right and identifying which sides to subsidize remain the biggest challenges. Uber’s great insight (and Sidecar’s great failure) was in recognizing the power of network effects to drive volume by dramatically lowering prices and costs on both sides of the market. While Uber is still struggling to make the economics work, and it may yet fail, Google, Facebook, eBay, Amazon, Alibaba, Tencent and many other platforms started by aggressively subsidizing at least one side of the market and made the transition to high profits.
— Put trust front and center. Asking customers or suppliers to make a leap of faith, without a history and without prior connections to the other side of a market, is usually asking too much.
— Although it may sound obvious, timing is crucial. Being early is preferable, but is no guarantee of success. Being late can be deadly. Microsoft’s catastrophic delay in building a competitor to iOS and Android is a case in point.
— Hubris can lead to disaster. Dismissing the competition, even when you have a formidable lead, is inexcusable. If you cannot stay competitive, no market position is safe.
