Despite Their Huge Upside Potential, Why Do Most Platforms Fail?

By Irving Wladawsky-Berger

“For anyone who follows the world of business, it is now common knowledge that the most valuable firms on the planet and the first companies to surpass the trillion-dollar mark in value (albeit temporarily) are platforms,” Michael Cusumano, Annabelle Gawer and David Yoffie write in their recently published book “The Business of Platforms: Strategy in the Age of Digital Competition, Innovation, and Power.” In a list of more than 200 startups with valuations of $1 billion or more, they estimated that platforms made up between 60% and 70%.

What do we mean by platform? The book offers a simple definition. “Platforms, in general, connect individuals and organizations for a common purpose or to share a common resource.”  Examples include Airbnb Inc., Google search and Facebook Inc.’s social network.

Platforms are all about network effects. The more products or services a platform offers, the more users it will attract, helping it then attract more offerings, which in turn brings in more users, which then makes the platform even more valuable. Moreover, the larger the network, the more data is available to customize offerings to user preferences and better match supply and demand, further increasing the platform’s value.

platform strategy differs from a product strategy in that it relies on an external ecosystem to generate complementary innovations and/or business transactions. The potential for innovation and growth is therefore higher than what can be achieved by one company focused on products.

And yet platform companies fail at an alarming rate. The reasons are numerous. After all, startups fail all the time. But the authors found four common mistakes that lead to failures: mispricing; lack of trust with users and partners; prematurely dismissing the competition; and entering too late.

Mispricing. “The biggest business challenges for platforms are to nurture network effects and then translate the momentum and value created into a steady and growing stream of revenue and profits,” the authors write.

Kickstarting these network effects generally requires underwriting one side of the market to encourage the other side to participate. Think of Inc. subsidizing two-day shipping to attract buyers and sellers to its marketplace, while consistently losing money or earning meager profits for its first several years as a public company, much to Wall Street’s displeasure.   It’s not surprising that so many platform companies, especially transaction ones, run out of money before their network effects achieve liftoff.

Mistrust. While getting the price right is necessary for success, it’s not sufficient. Platforms require two or more parties who generally don’t know each other to connect. “In such a world, building trust is essential,” the authors write.

The book cites the example of eBay China, which had a dominant share in e-commerce in the early 2000s. As was the case in the U.S., eBay China relied on PayPal as its payment system.  But Chinese consumers didn’t have the kind of banking and credit-card relationships that underpin PayPal in the U.S. and other advanced economies. Enter Alibaba. Unlike PayPal, its Alipay payment system was based on an escrow model that didn’t release payment until the consumer was satisfied. This enabled Alibaba to quickly capture the bulk of the e-commerce market in China, forcing eBay Inc. to withdraw despite its first-mover advantage.

Hubris. Prematurely dismissing the competition is another common mistake. There’s no question that first movers often have an advantage, and once the market tips in their favor they are likely to be the long-run winner. “But there is a better way to think about tipper markets: it is the winner’s opportunity to lose. Hubris, along with overconfidence and arrogance, to name a few misdirected traits, can produce spectacular failures.”  

Mistiming. “Perhaps the most classic platform mistake is mistiming the market.”  The book illustrates this last mistake with the smartphone sector. For years in the early 2000s, Microsoft Corp. tried to recreate its Windows PC leadership with Windows Mobile and Windows Phone.  But despite billions of investments, including the acquisition of Nokia’s mobile division in 2013, Microsoft eventually withdrew from the smartphone market. “Entering the business five years after Apple, and three years after Google, meant that Microsoft missed the platform window and never recovered.”

Many things can go wrong in a platform market because there are so many moving parts.

“Firms not only have to coordinate internal operations, a supply chain, and novel methods of distribution,” the authors say. “They also have to manage complements, overcome chicken-or-egg problems, and simultaneously stimulate multiple sides of a market….Despite the huge upside opportunities that platforms offer, pursuing a platform strategy does not necessarily improves the odds of success as a business.”

Irving Wladawsky-Berger worked at IBM from 1970 to 2007, and has been a strategic adviser to Citigroup, HBO and Mastercard and a visiting professor at Imperial College.  He’s been affiliated with MIT since 2005, and is a regular contributor to CIO Journal.

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