How To Successfully Build A Marketplace Startup

Key takeaways

• Understand the characteristics of your marketplace
• Use a concierge service to understand what product you need to build
• Find a pocket of liquidity to get started
• Be creative in how you can build up and satisfy the supply side

Characteristics of a good marketplace

Not all all marketplace businesses are born equal. Certain types of marketplaces have a better chance of success because of their underlying characteristics. Below are some of the considerations you should consider before getting started.

1. Liquidity – Does your marketplace have enough buyers and suppliers to make the whole marketplace work? Lopsided marketplaces are like Uber not having enough drivers causing passengers to lose faith in the service and look elsewhere.
2. Price – Good marketplaces should be cheaper than the current incumbents you are looking to disrupt while providing sufficient commission to let the company be profitable at scale. Ebay, Uber, AirBnB, Expedia offer products and services that are cheaper than what was on offer before. They achieve this through cutting out the margin of middle-men, having suppliers compete to get your business and being efficient at scale.
3. Speed – Can you get the service or product in a timely fashion? If your marketplace increases the friction compared to current offerings then the marketplace will find it harder to take off.
4. Fragmented – The best marketplaces have lots of buyers and sellers that are aggregated through the marketplace. For example, if you had only a few very large sellers then the marketplace would have less value for them as they could go direct or be very aggressive on the margins they are willing to pay you. Marketplaces that are not so fragmented may have to offer value-add services to make the large players stay on the marketplace. Whereas in a highly fragmented marketplace no single supplier can get the marketing reach that you can offer.
5. Enhanced experience – Your business should be using technology to offer a much better experience than the one currently on offer. Uber lets you order a cab with a click of a button and avoid having to pay with cash. Treatwell lets you book a hairdressing appointment online where normally you would have had to phone up and see if there was availability.
6. Trust – As you are bringing together disparate groups to transact together the marketplace should provide a way that they can trust each other. This is why lots of marketplace business will use reviews as a core mechanism for providing trust.
7. Network effects – Crucially, a great marketplace will have big network effects. The bigger the marketplace gets, the more value there is for everyone in the marketplace and the harder it is for a new company to enter that market. If a marketplace offers lots of choice for a consumer then why would they use a new company that doesn’t have as much supply.

Develop empathy

With all startup founders I work with I encourage them to spend the time developing empathy for their potential customers. Ideally through a mix of user interviews, observation and immersing themselves in the problem space. With marketplaces you have to do this for each side. It is not unusual to find that one side of the marketplace is less willing and you will therefore need to spend more time understanding the resistance they have to being on the marketplace. On the path forward we recommend at least 20-30 open interviews with each side of the marketplace and as much observation and immersion in the problem domain as you can. Outputs from this can include personas and user journeys.

A concierge service

A lot of non-technical founders I work with think that technology is the biggest risk to their business as they don’t understand that side of things well enough. So they want to immediately start building product to mitigate that risk. However, if you are comfortable with technology then you know the biggest risk is in building the wrong product and you should therefore be spending time figuring out what the right product is.

The concierge service is a tactic to build the least amount of technology while having real transactions go through the the marketplace. Paul Graham, calls this “Do things that don’t scale”.

As an example, Lexoo, a marketplace for business lawyers and businesses (a portfolio company), launched with just a homepage and a form. Each enquiry was dealt with manually by the CEO. Lawyers were contacted through phone calls and email, proposals were submitted via a pdf document and payment was taken with an invoice.

While totally unscaleable it allowed the team to rapidly and deeply understand the mechanics of what each side of the marketplace needed. Also the main risks in the business were tested within a few weeks as they had paying customers and understood what service they needed to provide for both sides. The business is now scaling by having a clear idea of what needs to automated and what service their customers enjoy.

Start with a pocket of liquidity

Because liquidity is crucial, your first challenge is to find a “pocket of liquidity”. Amazon found it’s pocket with books and Ebay’s initial pocket was Pez dispensers.

Snaptrip, a marketplace for last minute holiday homes (a portfolio company), started with a pocket of holiday-makers that were searching online for last minute holidays in the Lake District and a couple of local travel agencies that had holiday homes for rent but had no solution for promoting last-minute inventory.

This allowed Snaptrip to provide a near perfect experience for those customers and suppliers. All the characteristics were present: speed, choice and lower prices.

As the company grew it kept adding supply, area by area, and controlled the demand by using locating specific advertising to make sure there was liquidity to keep everyone happy.

Creating the initial supply and demand

For all of our businesses so far we have found that it has been easier to find and prove there is demand before addressing the supply side (I do acknowledge that there will be businesses where the opposite is true, at which point the advice below is inverted). For consumer businesses, we can usually find some demand through paid advertising. This might be from advertising networks like google and facebook, but also hyperlocal strategies like flyering. These customers are then directed to a minimal, nicely designed product that backs out onto a concierge service with a lot of manual steps.

Finding supply can often be a lot tricker as there is often an investment to be on the marketplace, like setting up a profile. In the beginning you should take on as much of this work yourselves but it is rare to be able to reduce the investment to zero. Suppliers won’t make this investment if they don’t see a return fairly quickly and will lose faith.

We have used a number of different techniques to get supply so that the marketplace can start moving.

1. The honey jar – Both Lexoo and Appearhere used “The honey jar” effectively to attract supply onto the platform. By capturing enquiries on the site and filtering for quality they are then able to manually speak to suppliers and offer the job on the condition they be part of the marketplace and pay a commission. Suppliers are far more likely to say yes if it leads to an immediate sale.
2. Paying for supply – one way to get supply onto the platform is to fake one side of the marketplace by paying for it directly. Uber started out this way by paying drivers full-time because they couldn’t guarantee enough demand at the beginning.
3. Aggregator/affiliate – another way to get supply rapidly is to forgo commission and rapidly add supply through affiliate deals or networks. Suppliers invest less so they are not as upset if the demand is patchy. You can then ramp up demand and then as you scale you negotiate a better commission structure or even better, bring on suppliers directly onto the platform with sufficient demand for them to justify the investment.
4. Free tools – Another technique is to offer some kind of technology for free to the suppliers that help them in their business, the condition being they also need to be part of the the marketplace. For example, Treatwell gives free salon management software to all suppliers. Suppliers use this with their own client base but Treatwell can then also make direct bookings through their service.

Moving towards scaleability

As a startup your aim should be to create a business that can scale quickly. The concierge service is great in the early phases of your startup’s life but you should be constantly thinking about how you can use technology to introduce efficiencies, remove friction and lower operational costs.

How fast you do this is dependant on the frequency of transactions, the average transaction value and your commission. Companies like ebay and Uber which have a high frequency of low value transactions can’t run a concierge service for very long and need to rapidly move to building out their product.

Once you are clear on the experience that customers are happy with, and the steps they need to take to complete a transaction you should move fast to automate those steps.

Companies like Appear Here or Edge Retreats (both portfolio companies), where customers may make a few high value transactions a year, have kept a concierge team while encouraging customers to transact directly. Appear Here started off with every customer having direct communication with their concierge team, after a few years they still have a concierge department for those that need it, but the product is more complete and the majority of transactions happen without any support.

The above strategies have worked for the companies we have backed. I am sure there are many other tricks and tactics to get marketplaces going depending on the type marketplace you are building.

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About the Author

This article was written by Dharmesh Raithatha of The Path Forward. Dharmesh is the Product Partner at The Path Forward. The Path Forward was developed by Forward Partners, a VC platform that invests in the best ideas and brilliant people. Forward Partners devised The Path Forward to help their founders validate their ideas, build a product, achieve traction, hire a team and raise follow on funding all in the space of 12 months.