03. What is a Marketplace?

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Marketplaces

If you know anything about Jason, you know one of his greatest investments ever came in a marketplace business - Uber!

This section will break down what makes marketplaces so attractive to investors.

But first, let's start with some high-level marketplace basics.

What is a Marketplace?

  • A marketplace is a single platform where multiple vendors can come together and sell their products or services to a curated customer base
  • You can think of a marketplace like a digital farmers market, at its most basic level
    • A marketplace allows individual sellers access to a larger customer base yet retain the ability to control their inventory and prices
  • The marketplace owner charges the seller a fee for exposure to the customers
    • Typically this is either as a subscription or a percentage of the transaction
    • Similarly, a vendor at a farmers market will pay a fee to have a location at the event
      • Then the vendor is in control of what they sell and how much they sell it for at the farmers market
  • What are a few examples of marketplaces you are familiar with?
    • Amazon is the largest example of an online marketplace today
      • Amazon allows 3rd parties to sell their products on their platform for a fee
      • The Amazon Marketplace alone had $300B in gross merchandise volume in 2020
        • If you're wondering what gross merchandise volume (GMV) is, we'll explain it shortly when we get to marketplace terms
      • eBay and Craigslists are a few of the first digital marketplaces, started back in the 1990s during Web 1.0
        • A centralized place where people are able to post their goods or services for other people to buy at an agreed-upon price
      • Airbnb & Uber are also examples of marketplaces
        • These platforms allow one party of "hosts" or "drivers" to exchange services with another party the "renter" or "passenger"
        • On Airbnb, the host sets the rate
          • For example, $400/night for a 3 BR townhouse in Lake Tahoe
        • On Uber, the rate is flexible and is based on the length of the trip, app usage, and driver availability
          • Active drivers will have rides pop up, and can either accept the ride for the fare or decline it and wait for something more enticing
  • There are a few alternative ways to make money in a marketplace which we'll explore below

Basic terms of a marketplace

  • There are tons of terms to know when starting a marketplace - let's touch on a few of the key ones
  • Gross Merchandise Volume (GMV)
    • Total value of merchandise sold over a certain time (typically includes fees)
    • GMV is a great metric for many marketplace businesses
      • It discloses how much money was transacted on a certain marketplace over a set period of time
  • E-commerce
    • Buying or selling of products or services online
  • Demand Side
    • The user who is acquiring the good or service
    • This needs to exist for there to be a reason for a supply-side
    • Ex: For Uber the passengers/users looking for a ride are on the demand side
  • Supply Side
    • Provides the product or service to the end-user
    • This needs to exist to fulfill the demand side
    • Ex: For Uber the drivers looking to pick people up are on the supply side
  • Business to Business (B2B)
    • A marketplace that enables businesses to sell products or services to other businesses
    • Ex: Fiverr (connects freelance professionals with businesses)
    • Ex: Alibaba (connects e-commerce vendors with manufacturers)
  • Business to Consumer (B2C)
    • Selling directly to the end-users
    • Ex: Amazon, Walmart's online store
  • Peer to Peer (P2P)
    • Individuals are selling to other individuals
    • Ex: Etsy, Uber, Airbnb
  • Commoditization
    • The process of treating something (service, product, action) as a commodity
    • Ex: Airbnb commoditized an extra bedroom or spare house
    • Ex: Uber commoditized driving people around in your car (or ride-sharing)
  • Horizontal Marketplace
    • The focus is on a wide market
    • It acts as a one-stop-shop
    • Ex: Amazon's marketplace business
  • Vertical Marketplace
    • Focus is on a niche market
    • Ex: Etsy (Arts & crafts, niche consumer products)
    • Uber is going from strictly vertical to more horizontal
      • They are now also in the food delivery space with Uber Eats
      • And are experimenting with alcohol and grocery delivery (via Drizly acquisition)
  • Fully Managed
    • The marketplace owner is responsible for the entire sales process
    • Ex: Opendoor purchasing and then selling homes is a fully managed transaction
  • Lightly Managed
    • The marketplace owner does some light diligence or background checks
    • Ex: Uber, Airbnb
      • Drivers, hosts, tenants, and riders all get "rated" to self-police the quality
  • Unmanaged
    • The marketplace owner doesn't really monitor who is selling or buying
    • Ex: Craigslist traditionally allows anyone to post and sell anything
      • Although they do limit some items that can be sold for the safety of the sellers and buyers
  • Two-Sided Marketplace
    • A platform with two distinct users that provide benefits to each other
    • Ex: eBay, Uber, Airbnb
  • Total Addressable Market (TAM)
    • Copying this from SaaS for anyone who might have missed it
    • Often founders get overly focused on TAM
      • The main problem Jason sees is that they actually focus on the "wrong TAM"
      • Jason instructs all founders to focus on a bottoms-up TAM rather than a Lazy TAM
      • Lazy TAM is grabbing a giant number from a McKinsey study and referencing that as the TAM for your startup
        • For example, the global real estate market is $10 trillion, so that's our TAM
        • This is not insightful and is a bad signal when pitching investors because it lowers your credibility
      • Bottom-up TAM is reverse engineering your TAM based on who your ideal customers are, and how many of them exist
        • For example, you're going after single-family homes in the US, of which there were 82M in 2018
          • You think we can close 10% of this market, which would be 8.2M homes
          • If we take 10% on an average sale price of $300K, that's $30K x 8.2M, which equals a market size of $246B
          • Jason goes in-depth on TWiST episode 1244 Bottom-up TAM
        • This is VERY insightful when done right, and shows investors that you both
          • 1. understand your customer and
          • 2. understand your initial market very well
  • Take Rate
    • The fee charged on a performed transaction
    • Ex: Uber takes ~25% of each ride, Amazon's avg. take rate is ~15%
  • Bounce Rate
    • Percent of users who visit the site or app but don't purchase
  • Liquidity
    • The likelihood that a buyer finds the product or service they are searching for
    • Or the likelihood that a seller can find someone to buy their product or service
  • Monthly Active Users (MAU)
    • Number of unique customers who use a product in a given month

Key concepts of marketplaces & how they work

So how do marketplaces work?

  • Many online marketplace owners transfer most of the responsibility to the individual sellers
    • Sellers are responsible for:
      • Their own inventory
      • What appears on the marketplace
        • Like images and descriptions of their products or services
      • And sometimes even the shipping logistics
  • Online marketplace owners in return provide a centralized place online for merchants to sell
    • This offers higher visibility for sellers
    • The owner is responsible for maintaining the platform
    • This allows the merchants to simply upload images and begin selling
      • No need for the seller to build their own platform from scratch

What are some different types of marketplaces? How are they categorized?

  • As you saw from the definitions above there are different ways to think about marketplaces:
  • Sometimes marketplaces are categorized by the audience of buyers and sellers
    • B2B
      • Your business is selling to another business
      • Ex: Fiverr
    • B2C
      • Your business is selling directly to a customer
      • Ex: Amazon Marketplace
    • P2P
      • Individuals are selling to individuals
      • Sometimes you are the seller; sometimes the buyer
      • Ex: Etsy, Uber, Airbnb
  • Sometimes they are categorized by their focus
    • Horizontal
      • Focus on a wide market - the one-stop-shop
      • Pro: broader reach and bigger customer base
      • Con: higher CAC and competition
      • Example: Amazon, and soon probably Uber
    • Vertical
      • Focused on a niche market
      • Pro: specific target audience and less marketing required
      • Con: little flexibility
      • Example: Etsy and Airbnb
  • Sometimes they are categorized by how they are managed
    • Fully managed
      • The marketplace owner is responsible for the entire sales process
      • This is a little more common with high-quality products or services
    • Lightly managed
      • The marketplace owner does some light diligence or background checks
      • Usually have some kind of money-back guarantee
    • Unmanaged
      • The marketplace owner doesn't really monitor who is selling or buying
      • Customers make decisions to purchase based on online reviews

So how does the company that runs a marketplace make money?

  • There are a few popular ways of monetizing:
    • Subscriptions
      • Sellers pay a recurring price to have access to the marketplace
        • The platform is responsible for the tech maintenance and updates
        • Think of it almost like how the cloud takes care of scaling for SaaS
        • The seller only has to worry about selling
      • For example, Shopify charges a monthly fee of $30/month (or up to $300/month if you need advanced features) for sellers to add their products to the platform
    • Commission (or transaction fees)
      • A percent of each sale goes to the marketplace owner
      • This can be done with a flat fee or a percentage
        • For example, Poshmark charges $3 for items sold under $15 and 20% for items sold at $15 and up
      • Transaction fees is the most popular model
        • Etsy, Uber, Airbnb, etc. all use this method
    • One-time sign up fee
      • Sellers pay a substantial fee upfront to have access to the marketplace
      • This is becoming less and less popular, as transactional fees and subscriptions have become much more sought after and lucrative
    • Listing fee
      • Sellers pay a price to list each of their products on the marketplace
      • This is very common in real estate, ex: Zillow or Redfin
      • However, marketplaces Etsy and eBay also charge a ~$0.20 and ~$0.35 fee to list items on their platforms
    • Combination of models
      • Many marketplaces implement a hybrid of these models
      • For example, Amazon charges sellers $40/month for access to their platform and on average ~15% for every transaction

Examples of successful marketplace companies

  • Here are a few public Marketplace companies you might have heard of and their market caps (~Q3 2021) to show you just how big these businesses can get:
    • Subscription Examples:
      • Amazon's seller subscription ($1.6T market cap)
      • Fiverr's business subscription ($6B market cap)
    • Commission (or Transaction Fee) Examples:
      • Airbnb ($90B market cap)
      • Uber ($80B market cap)
      • DoorDash ($60B market cap)
      • Etsy ($25B market cap)
    • Listing Examples:
      • Zillow ($25B market cap)
      • Redfin ($6B market cap)

Why are marketplaces so coveted by investors?

  • The opportunity for huge returns is at the top of the list
  • Similar to SaaS, the opportunity for both recurring revenue and transactional revenue draws the attention of investors
  • The ability to scale a marketplace relatively inexpensively is another piece that investors look to capitalize on
  • Almost all large-scale digital marketplaces are "asset-light"
    • Meaning they just provide the service for buyers and sellers and they don't actually hold any inventory
  • This is incredibly attractive to investors, because the downside is relatively low, while the upside is becoming an Airbnb, Uber, Etsy, etc.

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