In this blog, we share key insights on the potential revenue sources a platform may monetize and when it should choose to do so.
To fuel an immense growth, payment platform PayPal has practically ‘bought’ their own user base; paying its users $10 for joining and another $10 for every referral. Effectively, PayPal ended up paying up to $20 for every new member. Naturally, this is far from sustainable, but the strategy worked: PayPal’s user base skyrocketed, as well as the number of transactions completed by use of the platform. Presently, users do not join anymore because they are ‘bribed’ to do so, they join because the platform has successfully established an immense network of merchants and consumers. In 2016, PayPal generated over $10 billion in annual revenue without ‘buying’ a single member.
What this example illustrates is the golden rule of platforms: “users first, monetization second”. It seems simple enough at first glance, but transitioning from growth to profitability is a difficult challenge that almost every platform operator will have to face. At the time of writing this blog, neither the 300 million users of Snapchat , nor the 140 million users of Spotify have generated these firms any profit. Despite their best efforts, monetizing a platform is simply not done overnight. In this blog, we share key insights on the potential revenue sources a platform may monetize and when you should choose to do so.
Monetization will always cause some friction with network effects. Therefore, any approach to monetization must start with an analysis of where value is created and how network effects generate subsequent value through a feedback loop between producers and consumers. Too much friction to a vital part of the value generating feedback loop will have a devastating effect, such as a completed reversal of network effects. This is illustrated by a failed attempt at monetization by Meetup, a platform for organizers and visitors of events. Their membership fee targeted event organizers, exactly the type of users that created the most network effects through their offering of events. This resulted in a reversed feedback loop: less organized meetings resulted in less meetings and a decrease in the number of users and value to capture. Consequently, every user that left the platform diminished the reason to stay for all other users.
To balance network effects and monetization, we identify three different types of potential revenue sources that may be monetized: the users (supply and/or demand), the interaction between users and the premium access of the platform operator to the entire user base.
Firstly, the user access is often monetized through membership or subscription fees. This type of monetization causes a lot of friction with network effects as it is effectively a barrier for users to join. However, the degree of friction highly depends on which side of the platform is charged. Namely, which side generates the most value to all users and which side enjoys the most value. Consequently, the user access should be split to producer access and consumer access. Amazon can effectively charge producers a membership fee because producers greatly enjoy network effects by being able to reach much more customers and expand their clientele. On the other hand, the consumers on Amazon derive less value from network effects. In other words, a consumer’s need for a diverse offering does not scale to the same extent a vendor’s revenue may scale from increased demand; the consumer is much faster ‘satisfied’ in the number of offerings. The aforementioned platform Meetup on the other hand, was highly dependent on a consistently high number of offerings, especially due to offerings being restricted to a certain location and time. Hence, they were not able to monetize in a similar fashion. When a certain side of the platform generates sufficient value, it may even be optimal to subsidize their membership in other to capture more value from the other side.
Secondly, the interaction between users is usually monetized through e.g. transaction or commission fees. The friction with network effects is significantly smaller as users are not charged for accessing the platform, but only once they have already performed a successful transaction. Considerations should include the ability to capture the transaction on-platform. Airbnb charges a premium when booking an accommodation, however when users perceive this premium as too high, they will resume the interaction off-platform e.g. through the website of an accommodation provider. Thereby decreasing the number of interactions completed on the platform. Many platforms, including Airbnb, therefore own and optimize the payment process of the interaction so their premium causes as little friction as possible.
Last, the premium access of the platform operator to the complete user base may be monetized. Even though the profitability may be less than other sources of revenue, this type of monetization causes only minimal friction to network effects. For instance, YouTube does not charge their users nor the interaction between users. The video sharing platform charges other parties for the access to the complete user base on their platform. This mostly considers selling advertisement rights and/or data. Still, the fact that there is less friction with network effects does not entail that such monetization is risk-free. Annoyance by advertising is something we are all familiar with and far from all users are comfortable with their data being sold to third parties. A 2016 survey by TotalMoney found half of people surveyed claiming they would leave Facebook if it sold their data. Additionally, the new GDPR will greatly impact how platforms may treat their user’s data .
The identification of where to monetize may have more than one correct answer. However, our study of over 200 platforms with valuations of at least USD 1B, close to 90% were found to only monetize 1 or 2 out of the 4 potential revenue sources (producer access, consumer access, interactions or premium access). Nonetheless, identifying where to monetize is only part of the story. Snapchat and Spotify have yet to enjoy any profit, but does this mean they never will? Determining when to monetize is as much a challenge as deciding where. In the following blog, we address this issue and stress the relevance of the golden rule: “users first, monetization second”.
KPMG can advise you on various platform related aspects and help you implement the right monetization strategy the right way. We perform, among others; Value Proposition Assessment and Digital Platform Maturity Model Assessment, based on in-depth platform knowledge, proven business cases and extensive research on global platform monetization strategies.
We can also advise you on matters such as; ecosystem analysis, platform operating model strategy and platform sponsoring vs. management matters. Click here for more information.
Authors of this blog are Tobias Posthumus and Stein Samsom, Digital Advisory at KPMG. If you require any further information on this topic, please do not hesitate to contact Tobias on +31 6 1816 5314.