@andrewchen

Get the newsletter · Featured · Recent

How to build a billion dollar digital marketplace – examples from Uber, eBay, Craigslist, and more

Marketplaces are easily underestimated
When marketplaces get big, they can get really big. Some of the biggest tech successes ever – eBay, Airbnb, Alibaba, Uber – are marketplaces worth tens of billions of dollars each.

And yet marketplaces often start small, in niches and weird corners of the Internet. As we all know, when eBay got started in 1995, it was focused on collectibles. The venerable venture capital firm, Bessemer Venture Partners, famously passed on an early investment:

“Stamps? Coins? Comic books? You’ve GOT to be kidding,” thought David Cowan, a partner at Bessemer. “No-brainer pass.”

An early investment in eBay would soon yield a 50,000% return from Series A to after the IPO, as the company started to help transact on everything from electronics, cars, homewares, and more.

Two decades after eBay was founded, a similar story unfolded itself, this time over Uber (my current employer!) and the taxi market. NYU Professor Aswath Damodaran asserted that Uber was overvalued after a 2014 investment round. Based on data points from the global taxi and car-service market, he concluded the real number should be $5.9B. Since the 2014 article, Uber has blown past his estimate by 10X, with top line revenues to support it. Not bad. The reason the estimate was so off, as investor Bill Gurley pointed out, is that Uber goes beyond taxi use cases and grows the market substantially by unlocking many new categories of transportation. Another example of going from niche into more use cases over time.

(As an aside, a slightly different flavor of the expansion of audiences and use cases leading to wild underestimates – this time my mistake: Why I doubted Facebook could build a billion dollar business, and what I learned from being horribly wrong)

Starting small, and what to do next
In both the eBay and Uber examples, we see that you can start with a niche – whether that’s a geography or product line – and then quickly scale into a huge network of buyers and sellers. It turns out that there are a couple key moves to make this happen, and today I’ll highlight some of the main strategies with examples across the past few decades:

  1. Expand into new geographic markets
  2. Add new products and price points
  3. Decrease friction from signup to successful transaction
  4. Grow supply + demand stickiness

Let’s dive into each one.

1. Expand into new geographic markets
Marketplaces like Uber, OpenTable, Craigslist, and others are hyperlocal in nature, and a critical mass of supply/demand must be quickly built within a constrained geography. If a customer is trying to book a restaurant in the Hayes Valley neighborhood of San Francisco, you don’t care much how many restaurants are also on the platform in Manhattan.

As you might imagine, breaking into each new local market can be incredibly painful. Marketplace companies often end up employing teams of “launchers,” a specialized ops role focused on cracking new cities.

Here’s a great Quora writeup on Uber’s Launcher team from Chris Ballard (these days, GM SoCal):

The “Launcher” role at Uber is one of the most physically, emotionally, and mentally challenging roles that an individual will come across.  It is also one of the most rewarding. […]

Once in a city, the Launcher must simultaneously:

  • recruit, hire, and train a local team
  • develop partnerships and manage relationships with local hire car operators (NB: Uber does not own any vehicles.  We work with existing accredited, licensed, and insured hire car owners)
  • create a marketing strategy to scale the client base and increase visibility
  • explore biz dev opportunities (sponsorships / partnerships / co-promotions)
  • form relationships with local press
  • throw a legendary launch event to officially kick off the city!

The travel is intensive.  Launchers are on the road over 300 days per year.  We live out of suitcases, and our most important possessions are our MacAirs and our Passports.  If you tend to get homesick after a few days or don’t sleep well unless you’re in your own bed, this is definitely not the position for you.

Launching is hard work, but the good news about these hyperlocal marketplaces is that if it works in one market, then it will probably work in hundreds more. Sometimes there will be stronger cross-network growth across geographies than you initially imagine, enabled by factors like Airbnb’s global travel use case, which can supercharge your addressable market.

Furthermore, if you are a new startup, you can go after hyperlocal markets where your competitors are weak, and build a local network effect that will be hard to dislodge.

2. Add new products and price points
The next variable that marketplaces can play with is expansion of product lines and price points. Both of these directly unlock new use cases and addressable market, and there are strong examples of how this happens. Craigslist, the mother of all free marketplaces, started with events and then expanded to jobs and apartments.

In an Inc interview in 2016, Craig Newmark reminisces on the early form of Craigslist – literally just an email list – and how he intuitively added product categories over time:

Craigslist began with a single email in 1995–you simply shared interesting things going on in San Francisco. What was in that first email? The first ones had to do with two events: Joe’s Digital Diner, where people would show the use of multimedia technology. It was just emerging then. Around a dozen of us would come and have dinner–always spaghetti and meatballs–around a big table. And a party called the Anon Salon, which was very theatrical but also technology focused.

How many people did that first email go to? Ten to 12.

And then? People just kept emailing me asking for their addresses to be added to the cc list, or eventually to the listserv. As tasks started getting onerous, I would usually write some code to automate them. And I just kept listening. At first, the email was just arts and technology events. Then people asked if I could pass on a post about a job or something for sale. I could sense an apartment shortage growing, so I asked people to send apartment notices, too.

Today, Craigslist in over 57,000 cities, generating $700M in revenue per year (on job listings fees!) with just 50 employees. Amazing.

A related move is to offer new price points to the market, which can unlock new use cases and grow the addressable market as well. A good example of this is Airbnb, which provides a much wider set of offerings to guests – from super cheap to super expensive – as compared to their hotel competitors. The low-end of this enables new, higher-frequency use cases to emerge, like weekend getaways. The high-end allows for large family gatherings, like weddings or reunions, to all share a huge house together.

Pricing is a key strategic move because it’s often the main factor for customers, as seen in this Morgan Stanley survey of Airbnb customers:

And of course, we’re also seeing direct product expansion from Airbnb, via their new Experiences product that can be an upsell in addition to accommodations.

3. Decrease friction from signup to successful transaction
The dual levers of geographic and product expansion are powerful, and decreasing the friction of conducting transactions on the marketplace amplifies both. This grows the TAM in two ways: 1) First, directly growing the market because lower friction transactions mean more sales. 2) But also, more subtly, it unlocks more transactions when your marketplace can be incorporated into new use cases that require reliability and ease of use.

For example, few people use taxis to commute, because the service can be expensive/flaky, whereas many folks use Uber POOL to commute because it’s reliable and affordable. You’re bound to use OpenTable more to snag last minute reservations when restaurant inventory is up to date, making it convenient for even casual get-togethers.

There are many ways to decrease friction, but in particular we should look at this from the perspective of the customer (both buyer/seller) through their journey from signup to transaction:

  • Reducing friction from signup to first transaction
    • Signup and onboarding
    • Setting up payment
    • Finding the desired transaction
    • Trust infrastructure (depending on product: Reviews/photos – or ETA – or availability calendar)
  • Reducing friction from the transaction to receiving the product/service:
    • Reliability and consistency – driven by both market liquidity and UX
    • Determining the right price
    • Timing and logistics on completing the transaction
    • Resolving post-transaction issues

Focusing on reducing the friction on the above doesn’t just generate more revenue for the marketplace, but it’s also just a much better customer experience.

4. Grow supply + demand stickiness
Transactions require strong retention of both demand and supply, and if a marketplace can improve that stickiness, more activity can be generated on the platform. In many ways, this is just a classic retention problem, except with multiple players within the ecosystem. Just as you would on a social network product, you can tackle using traditional growth methods:

  • Notifications: Creating a strong notifications platform to engage buyers/sellers at the right time
  • Use cases: Understanding use cases and how to up-sell and cross-sell the stickiest ones
  • Offers/promotions: Using offers and content throughout the calendar cycle to engage
  • Optimization: A/B testing growth levers – from email/SMS/push copy – to when/how to reach out

However, beyond the traditional techniques, we’ve also seen a recent trends towards deeper productization of workflows for buyers and sellers within a platform. This solution, coined in recent years by James Currier and the NFX crew, is to build a “market network” that’s part SaaS tooling and part marketplace.

As a reminder, Market Networks provide useful tools to each side of the market – for instance, OpenTable’s seating system, you get stickiness purely through utility. Combine that with a marketplace, and you get even stronger effect.

Here’s a diagram illustrating the ecosystem:

And below are some examples based on AngelList and Honeybook – showing how multiple players on a market network ecosystem might interact with each other.

As one can see, sometimes these relationships between ecosystem players happen via money, and sometimes it’s through content/community. These rich interactions, facilitated by a great product UX, can retain multiple players and generate a rich stream of transactions. It’s still early years for market networks, and I’m excited to see this sector develop.

Marketplaces can start small, and end up big. Very big. 
To build a billion dollar marketplace, you have to build expansion into your model from day 1.

For some, this will look like focusing on geographic growth and building your team of launchers. For others, it’ll be about adding new product lines and price points quickly, to create new use cases for your market. Or you can improve the core platform, by increasing efficiency – whether that means onboarding or the friction of each transaction. Others can double down on retention, by building utility and workflow automation, to set a foundation for more transactions.

Each of these moves can be valid, and different marketplaces will do each. Or perhaps all of them!

PS. Get new updates/analysis on tech and startups

I write a high-quality, weekly newsletter covering what's happening in Silicon Valley, focused on startups, marketing, and mobile.

VIDEO: Three things you need to know to raise money in Silicon Valley

 

Raising money is hard. And it’s even harder if you’re an entrepreneur from outside the Bay Area.

Entrepreneurs from outside of Silicon Valley often struggle to raise money here. There’s issues with culture and style, differences in expectations, as well as our emphasis on growth over monetization. I’m reminded of this every time I travel and meet startups. Earlier this year in Paris, my girlfriend Brianne (at Zendesk!) and I gave a talk that touched on many of these issues. We recorded the session and wanted to share it with you.

The video has a variety of topics, including:

  • How the startup ecosystems are different in SF and in Sydney (and Paris!) (2:30)
  • An alternative to influencer marketing, for startups (5:09)
  • A different way to think about your competition (7:02)
  • Customer service as a competitive advantage (9:25)
  • Why ecosystem matters, and why the Bay Area is cushier than most people think (12:50)
  • Why you should look for failed experiences if you’re hiring or interviewing (14:56)
  • Insights on Uber’s “give / get” program (18:17)
  • Breaking into VC as a teenager (19:02)
  • Advice for starting your own blog or thought platform (26:27)
  • Biggest fiascos working in growth and the downsides to being “too good” at acquisition (29:20)
  • The 4 -5 stages to building a great growth team, and what profiles to look for (33:13)
  • Does the rise of “growth” mean that “marketing” is dying, and should we expect to see the end of the CMO? (36:18)
  • Why you need “growth” when you work in a company with a million-dollar acquisition budget? (39:39)

Here’s a direct link to the video.

For those who are too busy/lazy to watch the video, I want to deep dive on a particular topic: The challenges of entrepreneurs from outside the Bay Area who are pitching investors here.

1. Your company right now doesn’t matter as much as your company’s trajectory.
I’m going to generalize a bit from startups I’ve met from Australia/Europe. One common anti-pattern is for startups to pitch what they have right now, to their detriment. Bay Area investors seek to understand the trajectory of a company. They want to know what it could be in the coming years, and so it’s not good when a pitch is literal and descriptive to the present state of the company. “This is exactly what I’m doing today, and these are the current numbers.” And so on. While this is concrete and feels real, it’s also not the right approach to create a strong vision and narrative that’s exciting.

If you’re a SaaS company, you don’t talk about this last month’s MRR with X% monthly growth rate. You should also talk about how this is the beginning of a platform/suite of products. And why it’s strategic, and sticky, and will be hard for companies to rip/replace in the future. If you’re a consumer startup, then it’s not about how many installs your app has today. Instead, you want to talk about the network you’re building when hundreds of millions of users are actively engaged in your product. And what this will enable you to do that’s unique in the market.

Where the startup is now is just a supporting bullet point to that story about where things are headed.

2. Investor motivations are different. Large outcomes matter more than high probability of success.
The second observation is that Bay Area VCs often have different motivations than investors elsewhereFor traditional Series A venture capital firms, their biggest limitation is not high quality dealflow. There’s a ton of great startups here. Instead, it’s that a partner can only be on the boards of about ten active startups at a given time. Thus, what they care most about is maximizing those ten startups. They want to make sure that those ten are the ten biggest possible companies they could be investing in, with the best possible outcomes.

They care less about whether or not your startup is profitable because that’s sometimes irrelevant to the size of the future outcome. In fact, profitability can be interpreted as reducing the potential scale of the business when the company isn’t growing fast enough. When you can only invest in ten startups and have a billion dollar fund behind you, then it’s all about opportunity cost. I’ve heard a VC say that they’d rather inject more risk into a business to avert a small/medium size outcome ($100M) to have a smaller percentage chance they can get a multi-billion dollar outcome. This can be a disorienting point of view until you understand the economics of a large professional investment fund.

3. At the startup stage, scale and velocity matter more than depth of monetization.
Finally, the third observation is also related to the emphasis on monetization from investors I’ve met in Sydney, Sweden, and France. There’s exceptions of course, but speaking in generalities, investors will naturally have a different investment strategy when they can’t assume that there’s a ton of follow-on funding behind every check. As a result, there’s a focus on getting to profitability so that the company can be self-sufficient.

This also means that there tends to be more B2B and even enterprise startups than we typically see in the US. This is because there certainly are major advantages to that model — you’re able to book revenue faster and show initial traction. But, the key problem that this approach introduces is that it limits the scale and velocity of growth because it’s just much harder to scale an enterprise business than it is to scale a consumerized SaaS or a purely consumer business.

Wrapping up
There’s a ton more content in the video, but ultimately, a lot of the differences in startup cultures for the Bay Area versus other regions comes from these varying investor and entrepreneur motivations. I’ve seen it directly from my meetings with startups from various communities.

It’s often tempting to think that there’s so much investor money here that they’re giving out checks at SFO – and as soon as you land, you’ll get funded. But it’s not quite that easy. For a new entrepreneur to come to SF and succeed, one has to often rethink the style, content, and even growth strategy of their pitch to adjust to a very different ecosystem and set of perspectives.

PS. Get new updates/analysis on tech and startups

I write a high-quality, weekly newsletter covering what's happening in Silicon Valley, focused on startups, marketing, and mobile.

Startups are cheaper to build, but more expensive to grow – here’s why

Startups should be getting cheaper to build. After all, the industry’s created several waves of innovation that’s supporting this across multiple layers in the stack:

  • Open source software instead of paid developer tools
  • AWS instead of your own datacenter
  • Per-click ads instead of Superbowl commercials
  • Off-the-shelf SaaS tools versus building your own
  • App stores for efficient global distribution

Not only do a number of these trends make building new products cheap, in many cases it’s about driving the costs down to zero. If we zoom just into AWS / cloud computing, you see how a massive amount of competition is leading to significantly lower costs – even some vendors giving away their services pro bono:

As cloud providers rush to build new data centres, and battle for market share, businesses are finding that the cost of putting their computing and data storage into the online cloud is getting ever cheaper. In the past three years prices are down by around a quarter, according to Citigroup, a bank; and further significant falls look all but inevitable. Some providers, such as Microsoft, have started providing their services free to startups, in the hope of turning them into paying customers as they grow. (Economist)

However, this is opposite of what’s happening. Instead, startups are raising more capital and burning more capital to get to their Series As. It might be cheap to build the v1 of your app, but getting traction is a whole other story. Compared to a decade ago, it’s getting more expensive to get traction, while at the same time, growth is getting harder from intensive competition, consolidation, and saturation.

Why costs are rising
There are two underlying reasons for the increasing costs: Salary/comp for your team, and growth has shifted more towards paid acquisition. While the former is obvious (especially to those paying rent in San Francisco), the second is more nuanced, since it’s driven by a number of industry trends.

As we’ve said, growth is getting harder, and as a result, companies building new products are evolving their strategies away from counting on traditional channels like virality, SEO, and organic, and more towards paid acquisition to scale. Even though traction is difficult to achieve in today’s climate, venture capital is plentiful for those who hit a solid growth curve. This means that companies have an advantage when they execute well also have a natural product/channel match for paid acquisition channel. (Think high LTVs, lack of ad competition, being good at fundraising.)

What’s happening as a result
As a result of this pivot towards paid acquisition to scale, we see four trends that go along with rising costs:

  1. Startups are raising more money to get to traction
  2. Companies are trying paid marketing earlier
  3. There’s an increase in emphasis on paid referral programs rather than virality
  4. Companies are going for deeper monetization in order to open up paid channels

Let’s look at each of these trends.

1. Startups are raising more money to get to traction
More focus on paid acquisition means startups need to raise more money to raise money only once they can prove out their traction. We’re seeing more companies raising more money to get more traction before they raise, and when they do take the new round, it’s often to fund bigger and more expensive paid acquisition efforts.

The median seed round tripled from $272K to $750K between 2010 and 2016 according to analysis from Tom Tunguz over at Redpoint, and that growth extends to later rounds too. Companies across the board are raising bigger rounds, often from non-traditional investors, to drive growth for the next fundraise or for an exit (source: Quartz):

In the initial stages, this extra money enables buying early growth through testing and sub-scale campaigns to compliment organic growth. As a company scales, these bigger rounds buy you time and acquisition resources to build a defensible but expensive flywheel.

2. Companies are trying paid marketing earlier
The good news about more companies trying paid acquisition is that it’s easier than ever to experiment with paid marketing early. Self-serve ad systems are now the norm, which we can see from recent self-serve ad launches from newer platforms like Snap and Quora. Companies can test and master paid spend much earlier and run meaningful experiments with budget as low as $50. This allows an earlier and better understanding of unit economics and how to optimize the other steps in the funnel.

“Today, advertisers of all sizes expect platforms to offer them a number features as basic built-ins: self-serve, hyper-targeting, analytics, dynamic pricing. The way ad platforms are now structured with these features allows you to run small tests with sub-scale campaigns. It takes minimal time to make the creative, and it’s super easy to do testing for startups and new products.”

Sriram Krishnan, ex-Revenue Products at Snap, Mobile Ad Platform at Facebook.

The internet advertising industry continues to grow across all channels. The number of advertisers on Facebook alone recently hit 5 million, up from 4 million just 7 months ago.

There are a couple of implications to this. First, more competition (in total spend and in number of spenders) increases the global focus on paid acquisition. As a result, everyone’s spending more.

3. More emphasis on paid referral programs rather than virality
Viral channels aren’t working as well as they used to because of the natural lifecycle that affects all acquisition channels. Today, 10 years after the introduction of biggest social networks, most viral channels have peaked:

Perhaps we’ll see the return of these social channels, as messaging platforms mature, but in the meantime, many companies are utilizing referral campaigns to juice their acquisition. Paid referral programs also help build user engagement and get companies to faster network effects because on top of bringing in more users, they bring in more users who are already connected to each other.

Dropbox’s give/get disk space was one famous early example of referral, but these days, the largest companies from Uber to Airbnb all utilize referral programs.

4. Monetize more deeply to open up channels
To support the increase in paid spend, companies need to either raise more money, or make more money. As a result, we’re seeing companies optimize for better LTVs to justify higher CAC and increased competition across the board.

Companies like Wealthfront, Breather, Credit Karma and Gusto have all hit high LTVs early in their lifecycles, and that profitability has bought them a competitive edge in acquisition as those stronger LTVs afford them higher CAC. Anecdotally, it’s been said that many Fintech companies have CACs over $1000+ to acquire a single customer.

All acquisition channels are an efficient market at some point, and this means that companies that monetize better than their competitors (either with higher LTVs or because they enjoy shorter payback periods) will be able to afford a higher CAC and subsequently out-invest those competitors. In short, better monetization is a competitive advantage for growth.

Conclusion
As you build your company, don’t underestimate the rising cost of distribution. Yes, everything’s getting cheaper from the growth of cloud computing, off-the-shelf SaaS, open-source code, and more granular and accessible performance marketing. But, growth is also getting tougher from channel saturation, better competitors, and consolidated winner-take-all platforms.

To keep growing in this type of landscape, you’ll need to think carefully about paid acquisition, deeper monetization, and how to compete in this new environment:

  • New products are often sub-scale on unit economics, so they have negative LTV:CAC. Show and carve out a clear path to monetization so you can afford growth.
  • No one can afford to put off paid acquisition anymore, and it’s easy to test ads on small budgets, so start as early as possible.
  • Think of referral programs are another form of paid spend. You have the same CAC, but instead of giving the money to Facebook or Google, you give value to your users and their friends.
  • Finally, consider ways to deepen differentiation by solving hard(er) problems and building your moat with tech.

Good luck out there!

PS. Get new updates/analysis on tech and startups

I write a high-quality, weekly newsletter covering what's happening in Silicon Valley, focused on startups, marketing, and mobile.

This year’s top essays on growth metrics, consumer psychology, Uber, push notifs, NPS, and more

Growth is getting hard from intensive competition, consolidation, and saturation

Psych’d: A new user psychology framework for increasing funnel conversion (Guest Post)

Startups and big cos should approach growth differently (Video)

The Bad Product Fallacy: Don’t confuse “I don’t like it” with “That’s a bad product and it’ll fail”

What’s next in growth?

10 years in the Bay Area – what I’ve learned

How To (Actually) Calculate CAC

Growth Interview Questions from Atlassian, SurveyMonkey, Gusto and Hubspot (Guest Post)

What 671 million push notifications say about how people spend their day

The state of growth hacking (Guest post)

Growth is a system, not a bag of tricks – Manifesto Conference Q&A video/transcript

A Practitioner’s Guide to Net Promoter Score

Quick announcement: The Backstory, a private discussion forum for tech, marketing, growth

Uber’s virtuous cycle. Geographic density, hyperlocal marketplaces, and why drivers are key

My top 2015 essays on Uber, online dating, push notifications, Apple Watch, and more

Personal update- I’m joining Uber! Here’s why

This is the Product Death Cycle. Why it happens, and how to break out of it

Quick update: Quoted in WSJ on dating apps, recent podcast interview, plus recent essays

New data shows losing 80% of mobile users is normal, and why the best apps do better

Photos of the women who programmed the ENIAC, wrote the code for Apollo 11, and designed the Mac

The Next Feature Fallacy: The fallacy that the next new feature will suddenly make people use your product

Why investors don’t fund dating

Why we should aim to build a forever company, not just a unicorn

Ten classic books that define tech

How I first met Eric Ries and also why I’ve ordered his new Kickstarter-exclusive book The Leader’s Guide

This is what free, ad-supported Uber rides might look like. Mockups, economics, and analysis.

Meet me and Eric Ries at a private event on March 21st – here’s how to attend

Personal update: I’ve moved to Oakland! Here’s why.

The most common mistake when forecasting growth for new products (and how to fix it)

The race for Apple Watch’s killer app

My top essays in 2014 about mobile, growth, and tech

Why messaging apps are so addictive (Guest Post)

IAC’s HowAboutWe co-founder: How to Avoid Delusional Thinking in Start-up Growth Strategy (Guest Post)

Mobile retention benchmarks for 2014 vs 2013 show a 50% drop in D1 retention (Guest post)

New data on push notifications show up to 40% CTRs, the best perform 4X better than the worst (Guest post)

Why Android desperately needs a billion dollar success story: The best new apps are all going iPhone-first