18Sep2016
The Power of Platforms
by: Tuomas Liisanantti
The four big platform companies, Facebook, Google, Amazon, and Apple, hovering at combined $1,800,000,000,000 in terms of their market capitalization, the equivalent of the GDP of Canada, it is as if Jeff Bezos, Larry Page, Tim Cook and Mark Zuckerberg had taken over the world and the rest of us just shop, search, text, and post in it. Chinese eCommerce giant Alibaba, transportation network Uber, and lodging marketplace AirBnB, together with their CEOs, are quickly following suit. Something noteworthy has happened in the world of business models and strategy. It is rare to see a single new business model rise to dominance in practically all industries as quickly as the platform model has.
As stated by Tom Goodwin, in the now-famous TechCrunch article, ”Uber, the world’s largest taxi company, owns no vehicles. Facebook, the world’s most popular media owner, creates no content. Alibaba, the most valuable retailer, has no inventory. And Airbnb, the world’s largest accommodation provider, owns no real estate.”
What has changed is that information technology has profoundly reduced the need to own physical infrastructure and assets. The majority of the most prosperous technology companies of today run platform-based businesses.
According to Sangeet Paul Choudary, Marshall W. Van Alstyne, and Geoffrey G. Parker, the authors of Platform Revolution, a platform is ”a business based on enabling value-creating interactions between external producers and consumers.” It provides an open, participative infrastructure for interactions and sets governance conditions to ”consummate matches among users and facilitate the exchange of goods, services, or social currency, thereby enabling value creation for all participants.”
The Internet was supposed to kill middlemen, but instead, being the middleman has proven to be very lucrative.
The Uber of Everything
Since 2000, the winds of change have already wiped out 52% of the Fortune 500 companies, making room for platform technology companies whose revenues and shares have soared to new heights. Facebook, Amazon, and Google have worked their way up to top the highest valued companies list extremely fast.
So, what makes the platform-based business model so powerful?
Scott Galloway, a clinical professor of marketing at NYU Stern and the founder of the intelligence firm L2 Inc, explains.
“Effectively, other people are creating their product free of charge. Not only do you have network effects, but you have this cash crop where other people are paying for the crops. It’s sort of the ultimate business model where your content providers don’t charge you anything, which makes it massively profitable. You’ve never seen companies built on the backs of their consumers the way these are.”
If most markets previously created value and transferred it ‘linearly’ through a production chain that was put in place to deliver the product or service, now the platform structure facilitates a large number of connections that enable value to be created, co-created, exchanged, and consumed in various ways. A typical trait of many successful platform businesses is that the platform creates value in ways that even the creator of the platform couldn’t foresee.
The network effect refers to the impact that the number of users of a platform has on the value created for each user. A classic example of network effects is the telephone. The greater the number of phone users, the more valuable the telephone is for each owner. The same type of positive network effect is considered the main source of value creation and competitive advantage for platform businesses.
However, this is not to suggest that the platform-based business model doesn’t have any weaknesses. Even the established platform businesses that have scaled up rapidly are constantly under stress due to network effects.
“The reasons they were able to scale so fast makes them very vulnerable to other companies that can scale up fast. Technology companies typically age in dog-years,” Galloway points out.
Even if more traditional companies such as the consumer goods behemoths Unilever and Procter & Gamble are not able to grow as quickly, be as profitable in the near or medium term, or create shareholder returns as lucrative as Facebook or Google, the established physical nature of these businesses has some advantages that can help them outlive many technology companies. The countermove from the current digital behemoths is, ironically, to get back to the world of physical things.
“The smart ones, like Amazon, are building analog barriers of entry. They used the Internet, cloud-based computing, and network effects to build businesses that scale fast, but they then used the cheap capital to go and invest in things like warehouses,” Galloway says.
Apple, the only one of the big four to have succeeded in the hardware business, has also gone the same way by investing in hundreds of Apple stores in 18 countries.
Another kind of network effect-related risk that has resulted in the downfall of many of the platform company hits of the 21st century is the so-called negative network effect. The sub-type, described by Choudary, Van Alstyne and Parker as the ’negative cross-side effect’ is especially the reason why many of the mighty have fallen. “Cross-side effects arise when either consumers or producers gain or lose based on the number of users on the opposite side of the platform,” the authors write. Losing a productive user on one side can quickly result in losing many more on the other side of the two-sided market. Or gain too many users on one side and the imbalance might lead to excessive complexity and bad user experience on the other.
The G & The F
With 1.6 billion monthly active users going to Facebook for news, photos, video, and messaging, Facebook, described by Galloway as the most successful thing in the history of time, has fairly quickly started to control a mind-boggling portion of all internet traffic.
“Facebook is now 25% of the time spent on the Internet, so it’s like technically Facebook is the Internet, and the Internet is just the IP-department – the underlying technology.”
The competition for consumers’ time spent online is fierce, and Facebook is not the only player that wants to be the interface via which we interact most on our mobile phones. All the platform giants are slowly reaching to each other’s territory and, to some extent, being the operating system on our mobile phone seems to become the celebrity deathmatch. Apple can, to a certain extent, control the hardware and decide what goes on the device. And Google is there with Android.
“They are trying to figure out who has custody of the consumer via their mobile phone,” says Galloway.
When asked about betting on either Facebook or Google, Galloway picked Facebook. For two primary reasons.
“They are allowed to link data to specific identities.” What Galloway means is that because of the open nature of the Facebook, we don’t seem to mind if Facebook collects data on our specific actions and links it to our specific identity. An asset easily monetized by selling the data to advertisers.
On the other hand, people are not as comfortable linking their search queries with their names and identities. For obvious reasons, we put a lot of strange things into the search query box. “As a result, Google can cluster groups and link data to specific groups, but they can’t target as richly as Facebook,” Galloway sums up.
The other advantage Facebook has is mobile. “I would call mobile neutral for Google. Mobile is creating more time on screens, more searches, which is good for Google, but 80% of the time on a mobile phone is spent in an app and not on a browser, which is bad for Google. A lot of apps are controlled by the host company who doesn’t necessarily have an interest in driving more Google search revenue. There’s also less screen real estate to serve AdWords ads. So, while on one hand mobile is good for Google, it’s also a potential threat,” Galloway explains.
“For Facebook, mobile has been a net positive. 83% of Facebook’s revenue now comes from mobile. It’s largely a visual platform with some text wrapped around it, so mobile does not impair the process. Google grew 18% last year, and Facebook grew 43%, so Facebook has the upper hand right now,” he adds.
The ace in the hole for Google is its employees’ immense intellectual potential. “If you took just the sheer number of people with advanced degrees or IQ over 120, there’s more of them at Google than at NASA, the CIA, the KGB, or Airbus. Name any organization that is known for having very smart people and you can add them all up, but it does not add up to the candlepower and intellect that Google has assembled,” Galloway says.
Wrong side of the coin
When companies are growing 20 to 40 percent a year in a 2% growth economy, there’s usually someone on the wrong side of that coin. Experts across the board have noted that every time these companies increase their market share and revenues, job destruction results on the other end. Even if, companies doing more with less is not necessarily a bad thing given that unemployed workers have found other ways to make a living in more productive areas, this time is notably different.
“What you have is a great uncoupling when technology became the growth engine, because technology is quite frankly destroying middle-class jobs faster than we can recreate them. The pace of job destruction, unfortunately, has outpaced the rate of job creation in other industries,” Galloway analyzes.
Though the employee count of all the biggest platform technology mammoths is unprecedented compared to their revenues and market capitalizations, Uber is facing by far the most dissent among people concerned about negative employment effects. Galloway has a simple explanation for why Uber has become the poster child for job destruction.
“It’s a very identifiable group that Uber is putting out of work, whereas Amazon is putting a bunch of different people from different industries out of business: merchants, security guards, cashiers, and real-estate people who build retail. They are not as coordinated and don’t speak as loudly with one voice.”
The impact of the world of platforms is much easier to recognize when getting off a plane at an airport and seeing a line of 100 taxis and no customers – it’s right in your face. The growing dominance of more with less is expected to create genuine challenges for society.
“People finally have to come to grips with the reality that the rising tide does not lift all boats, it is creating some super yachts, and a lot of people are drowning,” Galloway sums up.
This article was first published in the 2016 print issue of Nordic Business Report. Get your digital copy of the magazine from the link below.
