simplthings

Want to be the next AirBnB? Learn from the most efficient marketplaces in the world: The financial markets

Even though eBay and Craigslist have allowed individuals to buy and sell used stuff for years, only the recent years have seen platforms like AirBnB or GetAround enter the markets for temporary use of someone elses flat or car. We have entered the age of real collaborative consumption where resources are shared between many users making sure they are in active use for most of their lifecycle.

The key to enabling the sharing of resources and improve their allocation is having efficient marketplaces available. AirBnB, eBay and GetAround all offer a marketplace where consumers can engage in transactions with other consumers. A Consumer-2-Consumer or Peer-2-Peer marketplace.

There have been a couple of articles about how to build a great Peer-2-Peer marketplace. Most of them were very specific and offer certain techniques to do so. I would like to propose a more general framework for understanding C2C markets by looking closely at financial markets and what makes them efficient.

Why financial markets?

Financial markets can be considered the by far most efficient markets in the world currently. On top of that, C2C markets are close relatives to them. Both markets allow every participant to switch roles between buyer and seller of a particular item at every point in time. Something, that is usually not the case in common B2B or B2C markets.

What financial markets teach about market efficiency

Financial markets have a couple of key features that make them “efficient”. Some of them can be applied to C2C marketplaces as well to understand why a certain marketplace is not “efficient” (read: not successful), or why certain markets are a good or a bad fit to start a C2C marketplace.

1. “Liquidity”: Solve the ‘hen and egg problem’

Every efficient market depends on the ability for each and every buyer to find a seller and every seller to find a buyer at a price that both sides agree on. There is no market where the matching of buyers and sellers happens as rapidly as in financial markets where transactions are completed within seconds of posting a bid or ask on the respective marketplaces. The ability of markets to match sellers and buyers in a timely manner is called market liquidity.

For many C2C markets the size or liquidity will be the biggest initial hurdle (In fact, when launching, most marketplaces will start in a “squeezed” state).

You will want to have a good strategy in place to solve this problem. There have already been articles naming this as the biggest challenge for Collaborative Consumption or C2C startups and have also proposed strategies to solve it. Among them Alison Monahan’s “Want to be the next AirBnB? Solve these 2 problems.”

2. “Transaction cost”: Know what they are and minimize them to make transactions worthwile

What are transaction cost

Transaction cost are usually referred to as all types of costs that are incurred in the process of completing a transaction. For example, a simple purchase such as a snack incurs many different types of transaction costs including:

• The time and energy I spend going to the store
• The ‘research’ I need to undertake to be able to decide for a Snickers over a Mars bar (Or the other way around, I won’t taking sides here)
• The time and cost of disposing of the packaging after use

As you can see from the examples, many of the transaction costs are not obvious, and some of them are indirect. They are not the kind of cost that show up on your credit card bill. They are opportunity cost. The theoretical cost of the time spent doing one, instead of another, potentially income generating activity.

Why C2C markets must care about transaction cost

Economics teaches that market participants will only take part in a transaction if the benefit they expect from it exceeds the transaction costs they incur. This is a crucial notion and the major reason why any marketplace will want to minimize transaction cost. The lower they are, the more transactions become worthwile to participants.

Most decisions you will have to make will ultimately be about transaction cost. Thinking about social features to build trust? The ultimate outcome is lower transaction cost because people need to take on less risk.

A common misconception about transaction cost: It’s never 0!

I visited the headquarter of a long-time C2C juggernaut a while ago to speak to their team. I was puzzled by the note of one of the team members, that the transaction cost on their platform was basically 0 to users.

What they failed to see is that only because users do not have to pay a fee for every transaction (In contrast to eBay, where they have to) does not mean that there are no transaction cost.

When looking at transaction cost, you need to discover and account for all the cost (direct, indicret, opportunity cost), that are involved in the process of completing a transaction that originates in your marketplace.

Let’s look at some examples how transaction costs can be decreased. These are also good examples for understanding where transaction costs can hide:

GetAround: Decreasing transaction costs for one side of a transaction through insurance

GetAround lets you rent cars from private people, or, if you own a car, earn income from renting it out.

When renting out your car to a stranger, you always face the risk of not getting it back in the same condition you provided it in. Obviously, nothing will happen in most cases, however, there will be a certain “Expected Loss” consisting of the probability of an accident times the value lost in case of an accident. Because of this, the risk involved in the transaction for the seller, is much higher than his expected benefit, the amount of cash he receives for the rental period.

GetAround solved this problem by providing a standardized insurance covering these so called tail risks that happen rarely but mean huge losses to one party. This insurance lowers the expected loss for the “seller” by insuring him against it and therefore makes the transaction worthwhile for him. This insurance is probably an enabler for the whole platform. It would not function without it. On the other hand, be aware, that this also increases direct transaction cost, as someone has to pay the insurance premium.

AirBnB: Minimizing transaction cost through standardization

The participants in the most common types of financial markets, the stock market, all trade highly standardized contracts. Every stock that is traded at an exchange for example has the same underlying contract and only differs from the others in a few key features such as the issuing company, voting rights and dividend eligibility.

The most obvious advantage of standardization is to makes it easier for market participants to find and compare offerings that match their criteria. This is mainly because standardization limits the amount of features that can differ between offerings and therefore makes it easy to compare them.

For example, when looking to rent a private flat on AirBnB the main feature of the transaction for the buyer might be the type of flat, number of beds and the availability on a certain date. Many other features of the transaction, such as the payment terms are secondary and should therefore standardized. Otherwise, market participants would face too complex decisions about combinations of flat, availability, payment terms etc. Being overwhelmed by the complexity of a choice might even lead to not making a decision at all.

What next?

This is supposed to act as a starting point for building a framework that can be used to look at and improve existing C2C marketplaces as well as to identify and evaluate new markets and their potential to be the subject of the next big C2C marketplace startup. The next steps would be to create a toolkit for understanding different types of transaction costs as they offer most potential for improvement of existing marketplaces.

I want you to take this and make something. I am convinced that there are so many areas where C2C could greatly improve resource allocation. Conquer these markets, minimze transaction costs and have massive impact on the future of humanity!

Did this help you to understand C2C marketplaces better? Did it help you to better understand your own business or that of your competitors? Let me know your thoughts in the comments.

How to afford almost anything

Shift your ownership paradigm towards temporary ownership and start making smarter purchasing decisions by comparing the real cost of an item against its benefits.

Why I think I can afford a EUR 400 LEGO Set … at least for a week.

I just bought a huge Lego set for EUR 400,–. Apart from the fact that I am 27 years old and many people would consider that too old to play lego bricks, that is not the first thing most people say. The majority of people actually ask why I would spend four hundred bucks on a box of bricks. Actually, I didn’t spend that much. I put down 400 €,– to get the bricks. Built it. Then took it apart, put it back in the box and and put it up on eBay. Seven days later I sold it for EUR 395. In the end it cost me 45,– € for round about twelve hours of brick-building fun for two people. It’s like renting.

Forget the price tag and calculate the REAL cost of an item

I bet you have faced a purchasing decision were you felt that something was actually too expensive for you to afford right now. I bet that the most important thing you took into account was the number on the price tag. It has always struck me as strange that people consider purchases as an one-off transaction that takes cash out of their pockets and in return puts stuff in their homes. I did the same for a long time myself. Pretty much until the age of 20. At that time I started backpacking for 6 months after finishing high-school. Obviously I was only able to take very few selected things with me. Interestingly enough, I did not miss much on the way. So when I returned, I sold almost everything I owned and had not missed during my travel time on eBay and other platforms. In total, I sold almost 500 items. That’s how I learned how stuff can be turned back into cash. I also learned a lot about what’s easy to sell and what isn’t. From that day on, I started making purchasing decisions differently. I look at a purchase very much like renting something. I take into account the amount of money I have to put down now to get the item. I deduct how much I will get for selling the item on eBay in 1, 2 or 3 years. Then I think about whether I will use the item often enough to make it worthwhile to spend the amount the item will loose in value every day, week, month, year. It may sound weird, but to anyone who studied business, this is the obvious and the only true way of calculating the cost of an item. In business, this type of cost is called depreciation. It represents the actual cost of an item over time. Of course, this kind of calculation and decision making does not work for every type of purchase …

What to keep in mind when applying this method

Before making a decision you should look at the following:

• Buy standardized items: The method works best for items that are highly “standardized”: This means that everyone in the market can easily understand the features and compare it to other offerings: Apple notebooks are a good example because they have a very limited variety of configurations when compared to Notebooks from Dell for example where a huge variety is available.
• Buy branded/high quality goods: because they loose less value over time: Again Apple products are a great example. They are considered very expensive, but they are in fact very reasonable priced given the fact that after 2 years they will usually still have 50-60% of their original value on eBay.
• Make sure there is a liquid, large enough market for the item: Check how many of them are available on eBay at a given time. Make sure you also check how many are sold per day or week to understand whether there are enough potential buyers.
• Used is always better: Actually you should be buying used stuff on eBay or other platforms anyway before looking at a completely new item from a store. The strongest decline in value of things usually happens in the moment you walk out of the store (Worst with cars). If you manage to buy a used item, value will only decline slowly from there (e.g. I bought got an XBox360 for 110 EUR on eBay. I don’t expect value to go much below 80 EUR even in 18 months from now so this is a bargain to me, price for a new one is currently around 179 EUR). You can live without it:The method works for items that you do not need to survive: You can’t sell your washing machine if you need it every day. If you do though, I suggest you buy a good one still.
• Make sure you have the cash: Even though you are able to “afford” the item, the cash you put down to buy it will still be tied up for the time you own the itemThis only works if you have the cash and are confident that you won’t need it soon. Selling an item under pressure will always result in a poor price.

What do I get out of this?

Taking this approach will allow you to

• Understand the REAL price of a product you are considering to buy.
• Make much better decisions about what to buy. Especially what level of quality.
• Understand how much you really need something by checking against how much you are willing to spend for “owning” it per day, week, month, year.
• Free yourself from the idea of ownership forever and enter a mindset of temporary ownership where the focus is on the benefits of the item you own instead of the item itself.

I am not saying you should buy things that you cannot afford. I want you to make more appropriate decisions when making purchases. Buy more used stuff and make sure you give someone else the chance to buy used stuff as well as soon as you notice you no longer need something. I want you to purchase high quality, long-lifecycle products that can be handed down (sold) multiple times before going to the junkyard or being recycled (which usually costs a lot of energy). Try it out with your next big purchase and share your experiences and thoughts in the comments.