Strategies for Two- Sided Markets

1 A R T I C L E. Strategies for Two- Sided Markets by Thomas Eisenmann, Geoffrey Parker, and Marshall W. Van Alstyne Included with this full-text harvard business review article: 1 Article Summary The Idea in Brief the core idea The Idea in Practice putting the idea to work 2 Strategies for Two- Sided Markets 11 Further Reading A list of related materials, with annotations to guide further exploration of the article's ideas and applications Product 1463. This article is made available to you by Boston University School of Management. Further posting, copying or distributing is copyright infringement. To order more copies go to Strategies for Two- Sided Markets The Idea in Brief The Idea in Practice If you listed the blockbuster offerings that To ensure your platform's success: would negate any DVD player's unique pic- have redefined the global business land- ture and sound capabilities. scape, you'd find that many tie together two GET PRICING RIGHT.

2 Decide whether to share the single plat- distinct groups of users. HMOs, for instance, Consider these pricing Strategies : form or fight for proprietary control. Shar- link patients to health-care providers. Search Subsidize quality- and price-sensitive us- ing has benefits: Total market size expands engines join Web surfers and advertisers. ers. For example, if PDF document readers and rivalry lessens, reducing market outlays. When successful, these platforms catalyze a were charged even a tiny amount, Adobe That's why DVD industry contenders opted virtuous cycle: More demand from one user Acrobat Reader's immense user base would to pool their technologies. They jointly cre- group spurs more from the other. For exam- be much smaller, reducing document pro- ated the DVD format in 1995, avoiding a re- ple, the more video games developers (one ducers' interest and their willingness to pay play of the costly video players' VHS-Beta user group) create for the Microsoft X-Box a premium for access to readers.

3 Readers, standards clash. platform, the more players (the other user much more price sensitive than document Want to fight for proprietary control? You'll group) snap up the latest X-Box. Meanwhile, producers, wouldn't pay for access to a big- need deep pockets, a reputation for past the more players who use X-Box, the more ger base of writers. prowess, and preexisting relationships with developers willing to pay Microsoft a licens- Secure marquee users' exclusive partici- prospective users. When launching Acrobat, ing fee to produce new games. And as user pation in your platform. Providing incen- for instance, Adobe marketed to its existing bases grow, margins fatten. tives for marquee users (for instance, an- user base for PostScript printing products. But as Eisenmann, Parker, and Van Alstyne chor stores in a mall) to participate contend, managing platforms is tricky: exclusively in your platform (the mall) can AVOID ENVELOPMENT.

4 Strategies that make traditional offerings attract more users from the other user Many platforms have overlapping user successful won't work in these two- Sided group (retailers who lease space in malls groups, tempting some related platform pro- Markets . To capture the advantages that with prestigious anchor stores). Result? Your viders to swallow others' users. Mobile platforms promise, you must address three platform's growth accelerates. phones, for instance, now incorporate music strategic challenges. and video players, PCs, and credit cards. To COPYRIGHT 2006 harvard business SCHOOL PUBLISHING CORPORATION. ALL RIGHTS RESERVED. The key challenge? Get pricing right: Subsi- COPE WITH WINNER-TAKE-ALL avoid being swallowed, consider changing dize one user group while charging the COMPETITION your business model. other a premium for access to the subsi- The prospect of fat margins in two- Sided mar- Example: dized group.

5 Adobe's Acrobat PDF market kets can fuel an intense desire among rivals to Under attack from Microsoft, RealNetworks comprises document readers and writers. become the only platform provider. To deal (which pioneered streaming media soft- Readers pay nothing for Acrobat software. with the competition: ware) ceded the streaming media business . Document producers, who prize this 500- It leveraged existing relationships with con- Decide whether the two- Sided market million-strong audience, pay $299. sumers and music companies to launch you're eyeing will eventually be served by If you seize a platform opportunity but a single platform. The answer's Yes if Rhapsody a $10-per-month subscription don't get it right the first time, someone using more than one comparable platform music service that offers unlimited stream- else will. By mastering platforms' unique would be costly to users and if special fea- ing to any PC from a library of a half-million strategic challenges, you'll gain a head start tures don't increase value to users.

6 Songs. It now profits from consumers ver- over your competition. sus subsidizing them. Example: The DVD industry meets these criteria: Owning multiple DVD players would be ex- pensive for consumers; providing multiple formats, costly for movie studios. And DVD. players don't lend themselves to distinctive features, since they connect to TV sets that page 1. This article is made available to you by Boston University School of Management. Further posting, copying or distributing is copyright infringement. To order more copies go to Companies in industries such as banking, software, and media make money by linking Markets from different sides of their customer networks audiences and advertisers, for example. The distinct character of these businesses demands a new approach to strategy. Strategies for Two- Sided Markets by Thomas Eisenmann, Geoffrey Parker, and Marshall W. Van Alstyne If you listed the blockbuster products and ser- ing services, like shopping malls or Web sites vices that have rede ned the global business such as Monster and eBay.

7 Landscape, you'd nd that many of them tie to- Two- Sided networks can be found in many in- COPYRIGHT 2006 harvard business SCHOOL PUBLISHING CORPORATION. ALL RIGHTS RESERVED. gether two distinct groups of users in a net- dustries, sharing the space with traditional prod- work. Case in point: What has been the most uct and service offerings. However, two- Sided important innovation in nancial services since networks differ from other offerings in a funda- World War II? Answer: almost certainly the mental way. In the traditional value chain, value credit card, which links consumers and mer- moves from left to right: To the left of the com- chants. Newspapers, HMOs, and computer op- pany is cost; to the right is revenue. In two- Sided erating systems also serve what economists call networks, cost and revenue are both to the left two- Sided Markets or two- Sided networks. News- and the right, because the platform has a dis- papers, for instance, join subscribers and adver- tinct group of users on each side.

8 The platform tisers; HMOs link patients to a web of health incurs costs in serving both groups and can col- care providers, and vice versa; operating sys- lect revenue from each, although one side is tems connect computer users and application often subsidized, as we'll see. developers. The two groups are attracted to each other . Products and services that bring together a phenomenon that economists call the net- groups of users in two- Sided networks are plat- work effect. With two- Sided network effects, forms. They provide infrastructure and rules the platform's value to any given user largely that facilitate the two groups' transactions and depends on the number of users on the net- can take many guises. In some cases, platforms work's other side. Value grows as the platform rely on physical products, as with consumers' matches demand from both sides. For exam- credit cards and merchants' authorization ter- ple, video game developers will create games minals.

9 In other cases, they are places provid- only for platforms that have a critical mass of harvard business review october 2006 page 2. This article is made available to you by Boston University School of Management. Further posting, copying or distributing is copyright infringement. To order more copies go to Strategies for Two- Sided Markets players, because developers need a large begin by looking at the factors that senior enough customer base to recover their upfront managers must consider in designing their programming costs. In turn, players favor plat- platforms' business models. The key decision forms with a greater variety of games. here is pricing. As we've noted, providers of Because of network effects, successful plat- platforms for two- Sided networks are able to forms enjoy increasing returns to scale. Users draw revenue from both sides. In most cases, will pay more for access to a bigger network, though, it makes sense to subsidize certain us- so margins improve as user bases grow.

10 This ers. The crucial strategy question is, Which side sets network platforms apart from most tra- should you subsidize, and for how long? ditional manufacturing and service busi- The next step is to gure out how to man- nesses. In traditional businesses, growth be- age winner-take-all dynamics. Many two- yond some point usually leads to diminishing Sided network industries are served almost returns: Acquiring new customers becomes entirely by a single platform. In some cases, harder as fewer people, not more, nd the just one company controls that platform, as rm's value proposition appealing. with eBay's auctions or Microsoft's Windows. Fueled by the promise of increasing returns, In other cases, multiple companies share the competition in two- Sided network industries dominant platform, as with DVD and fax can be erce. Platform leaders can leverage standards or, in real estate, a regional multi- their higher margins to invest more in R&D or ple listing service.