Platforms are generally known as “two-sided” or “multi-sided” markets where users are brought together by a platform operator in order to facilitate an interaction (exchange of information, a commercial transaction, etc.). In the context of digital markets, depending on a platform’s business model, users can be buyers of products or services, sellers, advertisers, software developers, etc.
Multi-sided platforms are not exclusive to the online world and also exist in the off-line world. As opposed to the conventional “pipeline” business model where value is generated by the supplier of a product or a service, a large part of the value derived by users of an online platform’s is created by other users. The effects that one user of a good or service has on their value to other users are known as “network effects”.
A platform operator can facilitate transactions by reducing transaction costs. For instance, platform operators often provide a convenient way of matching the two sides of an interaction (e.g. search or recommendation function), a physical or virtual space to interact, a code of conduct, dispute resolution mechanisms, instruments that increase trust (e.g. reviews, identity checks), methods of payment or certain units of measurement to which both sides agree.
In its purest form, an online platform simply offers a (virtual) transaction space where suppliers and consumers can meet. The platform does not intervene in the transaction, except by asking for a fee from one or multiple sides of the transaction in order to make a profit. A platform does not take control over the object of the transaction, meaning that it cannot dictate a product’s price, but, on the other hand, it bears less risk compared to a reseller.
It is also important to note that many companies adopt a hybrid business model, choosing to act as a platform operator mediating between different market participants in one area of activity and as a reseller, or a vertically integrated firm, in another. There is also a spectrum of business models that fall somewhere between these two categories depending on the extent of control they exert over transaction parameters and direct contact between users.
Most online platforms make money by recruiting one set of users and offering them access to another set of users. In this context, users are the ‘raw material’ that the platform uses in its business model. For multi-sided platforms one group’s demand for the platform’s service depends on the other group’s demand. By facilitating interaction between different user groups – who could engage in a valuable exchange – multi-sided platforms reduce transaction costs and create value for all sides involved.
Traditional business models are regarded as linear. In order to provide a product or a service to a customer, businesses go through R&D, manufacturing (in the case of goods), distribution and sales. A business model can be vertically integrated to complete all of these functions, or any of these functions could be sourced from other producers. Unlike traditional businesses, multi-sided businesses are not linear. Platforms provide a medium in which one set of platform users delivers value to another set of platform customers, as well as to the platform itself.
When positive network effects are present, the value of a product or service increases with the increasing number of other users. Direct positive network effects apply to the same group of users (e.g. the more users join a telephone network, the more it makes it worthwhile for others to join). In the online world, this is the case with users of social networking platforms (e.g. Facebook). For users of those platforms, the value of using the platform grows as other participants with whom they can interact start joining. Indirect positive network effects exist where users of one group benefit from an increased presence of users from a different group (e.g. sellers on an online marketplace benefit from a higher number of buyers).
Indirect network effects can have asymmetric intensities on the various sides of a platform. The asymmetry of indirect network effects is lower in the case of classical marketplaces (both sellers and buyers benefit) and higher, for example, in the case of advertising based platforms where both positive (supply of content) and negative indirect network effects (advertising) are present.
Customers may use one or more platforms for the same purpose. Customers ‘single-home’ when they only use one platform and therefore restrict themselves to interacting with customers on the other side of that platform (e.g. most people use one operating system on a single device). Customers “multi-home” when they use two or more platforms and therefore can access customers on any of the platforms (draft) they use (e.g. most people have more than one payment card).