In the first post of this pricing series, we set out the unique aspects of platform based pricing and identified six broader objectives that, in addition to monetisation, pricing strategies can contribute towards. Those objectives are:
- How to support rapid user growth by avoiding ‘pricing friction’?
- How to balance supply and demand on the platform through pricing?
- How to grow the quality of customer interactions and experiences?
- How to avoid disintermediation (i.e. transactions moving ‘off-platform’)?
- How to ensure that ‘sellers’ pricing creates a good customer experience for ‘buyers’?
- How to transition from one pricing model to another (in particular transitioning from free to a paying model)?
This post looks in more detail at the first three objectives and considers how specific platform pricing models and structures can be used to support them.
How do you support rapid user growth by avoiding ‘pricing friction’?
To capitalize on network effects, platform businesses seek to encourage membership and valuable interactions on their platform. Monetizing customers’ participation can be difficult because charging for access or use may introduce friction and hamper positive growth dynamics. However, pricing can be designed in a way that strengthens the effects of positive network effects.
A common platform pricing model designed to optimize network effects is the freemium model supported by advertising. This model may be used to scale with minimum friction in order to reach a critical mass of customers. Advertising can however still act as a ‘cost’ on users by detracting from the user experience. Freemium models can also have an impact on adoption if the platform business withholds too many features in order to incentivize premium membership. The design of free and premium value propositions requires careful thinking since there is a trade-off between the free features conductive to scaling and the take-up of the premium version. While this is a difficult balance to strike, this model has been used successfully by a number of fast growing platforms such as LinkedIn and SoundCloud.
Transaction fee models only apply fees when customers receive some significant value from the platform (e.g. eBay charging transaction fees). This model encourages customers to join the platform and helps attract a wide selection of “inventory” with minimal friction. It may however create search costs for users if the platform is then inundated with low quality listings. This search cost can be reduced through enhanced matching, searching and curation activities by the platform… or the introduction of listing fees to control inventory quality as the platform scales.
Another good example is Blablacar. After many attempts at pricing, including advertising, fremium and premium telephone pricing models, it decided to introduce in 2011 online pre-payment with a small transaction fee. This new pricing model helped enhance the value proposition by drastically reducing the numbers of cancelled rides –since pre-paying committed the parties– from over 30% to less than 3%, while reducing off-platform transactions and monetising the platform services offered.
Where platforms are seeking reliable participants who will conduct a high volume of interactions, they may charge joining or membership fees. This ensures good ‘liquidity’ on the platform as there is an incentive to use it frequently once membership has been paid. In addition, some platforms have used joining fees on the merchant side to fund a strong referral program (e.g. Alibaba used this model in its early days before transitioning to a predominantly advertising-driven revenue model). This method can drive growth when the joining fees are relatively small compared to the benefits of other participants endorsing the platform’s value.
How do you balance supply and demand on the platform through pricing?
Often it’s easier to sign up members on one side of the platform than the other(s). This may be because the inherent benefit of transactions is higher for one side. It could also be because time investment and learning costs associated with joining a platform make one set of customers more likely to align with a single platform while members on the other side join several platforms (they ‘multi-home’). For example, few people invest in two game consoles, while many game developers develop the same game for several game platforms. In such a set up, the side that doesn’t multi-home tends to pay more than the side that does (in fact, game developers are often financially incentivised to develop a game for a particular platform).
Platform pricing should seek to balance the value received by members in a way that optimises the cross-platform network effects. This is generally done by setting higher prices for the side that receives the most value from the transaction. One side of the platform may be provided free or even with “negative prices” if incentives are used like the case of OpenTable restaurant points. This occurs if the value of their involvement and the elasticity of their demand are high enough to make cross-subsidising their participation worthwhile.
Early-stage platforms may be eager to offer a free service to all customers in order to scale quickly. They may, however, grow faster and in a more balanced way by charging one side and investing in extra services and incentives for the most valuable customers or where there is a significant gap in the network. This is an important trade-off for platforms to consider since the counterfactual of a free and frictionless platform is not just a paid-for platform, but a paid-for platform with additional resources that can be deployed to develop new features, target additional users, and add insurances, to name just a few options.
Conversely, some platforms’ business models rely so much on scale that pricing either side of the platform risks triggering an exodus leading to the platform unravelling. In addition, just because a customer gains significant value from the platform doesn’t mean it is always possible to capture that value. A platform competing on the basis of exhaustive listings of sellers –such as a local event directories Zvents– can’t quite justify a pricing move that would lead to sellers leaving. In these cases, revenue may need to be generated from complementary added-value services (see below).
How do you enhance the quality of customer interactions and experiences?
Sophisticated pricing strategies can enhance the overall value proposition of the platform by improving the quality of customer interactions, without adding too much friction. A platform can create value by helping to solve a commitment or signalling problem between platform participants (e.g., if payment is made on the platform, it shows parties are committed and the price is final thereby avoiding last minute renegotiation). Platforms can also intervene or arbitrate in cases of dispute. In this way, platforms can use pricing strategies to differentiate their customer community from other platforms based on the ‘average value’ of users (e.g. Apple promotes its users as higher value customers to app developers).
The monetisation of value-added products can also enhance the quality of platform interactions where they help participants improve their offering on the platform. For example, offering (and charging for) data insights and service enhancement tools can help unsuccessful platform sellers/bidders improve the marketing and quality of their product on the platform.
Ensuring the additional services monetised on the platform have a positive impact on the overall customer experience is critical for a successful value-add pricing strategy. Some platforms have damaged trust in their communities by allowing sellers to buy their way to the top of search results pages, diminishing the matching value of the platform compared to user-promoted and relevancy related search systems. In another example, some early search engines, which mixed paid for links with genuine results, also diminished users’ trust with search results.
Well-constructed pricing strategies help platform businesses to grow their membership, ensure the right balance of customers on the platform and encourage high quality interactions. Understanding the specific customer behaviours that drive platform value and using pricing to steer and incentivise customers towards those behaviours can create a virtuous circle of customer and revenue growth.
In the final post of our pricing series, we will look at the remaining three business objectives to consider alongside your pricing strategy. Namely avoiding disintermediation, ensuring a good customer experience and designing a smooth transition from one pricing model to another.
 Frédéric Mazzella, 14 January 2016, French Connect London
 As quoted in “Platform Revolution”, Chapter 6: Parker, Van Alstyne and Choudary (2016)
Justin Coutts is a Platform Value Architect at Launchworks. He specialises in pricing and value proposition design for multi-sided platform models.