Five Factors to Consider for Creating an Online Marketplace

Five Factors to Consider for Creating an Online Marketplace

Here we focus on peer-to-peer marketplaces, as they may very well provide the single biggest opportunity for a successful online marketplace but also have the highest propensity for failure.

P2P marketplaces start with the notion that most of your participants have the potential to become providers and consumers – or indeed both at the same time. As its very name implies, there is a sense of equilibrium in P2P between the buy side and sell side that encourages the entry of new peers. This is in contrast with a sell-side marketplace, whose primary purpose is to offer an additional conduit to customers. Such conduits are built to increase geographic coverage or to widen the advantage of a retail brand.

The business model for P2P is arguably the transaction fee charged for the service. The most successful P2P marketplaces are those that match buyer to seller in an efficient manner and generate a higher probability of successful execution. This in turn encourages liquidity, or in economic terms, a ‘thick’ market. It is only then, when the market is properly seeded, that sellers would consider a listing fee as even feasible. Barriers to entry should be made as low as possible, and many modern online P2P marketplaces may not even make sellers feel like a registration process (much less the payment of a listing fee) has taken place.

Efficient Marketplace Attributes

Have a long-term view of the benefits of your marketplace. Ideas are not necessarily commercially viable. But the following five factors should help get you started.

Five Considerations for Creating an Online Marketplace

  1. MARKET FRAGMENTATION – Is the market fragmented enough to warrant a marketplace? In markets where supply is concentrated in the hands of a few key players, do the incumbents wish to adopt a marketplace that will actually generate more competition for them? Take the grains industry as an example. On the face of it, a marketplace would seem an obvious way of bringing together the fragmented farming community with those buyers up the supply chain. The market is in itself worth in excess of 600 bn annually. Yet the supply chain is dominated by just four players who between them have in excess of 40% of the market share. Together with entrants from Southeast Asia and China, just a handful of companies originate and trade 70% of the word’s production. [Source: University of Waterloo]
  1. ECONOMIC ADVANTAGES – Does the marketplace bring some economic advantage to the participant? For example the G20 mandate on cleared trades will significantly increase the use of futures instruments and the collateral needed to hold them. Collateral, a key component of the financial and commodity trading mechanism, either can be a broker-led activity or can be completed within a regulated P2P marketplace. Offering a secondary P2P collateral market offers participants the opportunity to pledge ineligible collateral for eligible collateral acceptable to the clearinghouse. An effective marketplace will significantly reduce the financial burden to the trading community by indicating the lowest price collateral on offer.
  1. PAYMENT – When and how to present a payment service to the marketplace is of huge importance. If the settlement workflow is part of the transaction, then buyers are much more likely to become repeat customers. This is an obvious market convention that promotes the success behind Uber and Ebay. As a corollary, think about payment services as a potential barrier to entry for online marketplaces with much higher transaction values. Payment services have a natural ceiling for the most part and thereafter require a more manual or traditional intervention to settle the financial obligation.

Take for example the hugely successful Booking,com. The customer journey is one of matching seller to buyer and honouring a rate fixed for a future transaction – even potentially over a year in advance. The settlement process is still most often driven by a local transaction at the point of stay. The marketplace is therefore acting as a form of securitization to the hotel proprietor. It is taking a potential impediment to sales growth and marketing it to the customer to the proprietor’s own advantage.

  1. FEEDBACK LOOP – Feedback is everything, and remaining agile throughout the design phase is extremely important. Common practise is to emulate a successful marketplace in another vertical. For instance, AirBnB learned early on that professional photography of client apartments provided a significant boost to their site’s popularity. The trend established in New York grew to other cities and AirBnB quickly spread throughout the US market. Other providers have taken note of this, including our own client SelectProperty. They market and auction unique high-value properties and invest heavily in high-definition video production to ensure that the prospective buyer is given the ‘wow factor.’ Such value added-service offered by marketplace providers will likely become the norm in the future for high value listings.
  1. THE MARKET NETWORK EFFECT – Consider how users may be able to interact with the marketplace and extract value without the need to use the marketplace to conclude transactions. An unambiguous example is Tripadvisor whose site encourages traffic to the marketplace seeking information. Tripadvisor is increasing usage of their site to promote the indirect network effect of booking services, for which they extract a fee.

Now consider how the self-same approach can be applied to a complex marketplace. The move away from floor trading to online only for derivatives exchanges is by itself a profound network effect. Not only did it remove barriers to entry for many participants, it allowed the exchanges to share market price information with all manner of interested parties. Take for example the explosive growth of WebICE and how their transaction platform is used. Participants use WebICE for price discovery just as much as they do to execute trades. A move to more over-the-counter (OTC) cleared products can only see developments in marketplace benchmarking tools, thus promoting more trade to be executed online.

CONCLUSION

It becomes manifestly clear that marketplace design is of paramount importance. The value, frequency, and complexity of a market raises their own particular considerations as to whether a marketplace would be better served online or not. The list presented here is by no means exhaustive and should only serve as a thought-provoking exercise.

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