I was at an angel investment conference last week and saw several interesting companies: Cornerstone and Sidekick stood out. There are a lot of “Me Too” companies around right now and I have been thinking through who will win in these markets: does there have to be an “Uber effect” of only one winner due to network effect? (Rocket internet have long believed that this is not the case and have made a whole business model on copying business models quickly and entering other markets). Is it possible that the market can have many players neck and neck; like the physical world market (with Sainsburys versus Tesco etc?) This is unlikely as the physical attributes and location of the store and being there first are important in that market dynamic...but let’s look at that attribute later…being there first….AKA First Mover Advantage.
Uber, Airbnb and the Network Effect (also why Facebook won):
These companies needed to acquire resources on both sides of the marketplace quickly: the supply and the demand, and they were able to connect them in the middle. They are the classic middleman. They created the chicken-and-egg situation for anyone trying to compete and achieved this by having a first mover advantage for long enough; which means expanding quickly using large amounts of capital. Airbnb has mastered this expansion technique, building up inventory quickly and then acquiring clients as quickly, almost at the same time. This now means they own the market: “I have a room to rent: where do I go?” The marketplace where most people put up rooms - to “I want to rent a room – where do I go?” The marketplace with the most rooms available. Classic network effect. It is the same for Uber with drivers and clients. Facebook is slightly different however, the critical mass/ ,network element is also clearly there.
Other types of companies – that don’t have this however, are valued like they do (well not quite as high..) so what do they have? First Mover Advantage
Dollar shaving company, food delivery companies, beer delivery companies, fast food delivery companies: they are now many popping up – all very similar. The leaders in these models also have first mover advantage, however, their business models are not as defensible – or are they? The chicken-and-egg effect is not as strong. For example, they do not have a classic Uber Network Effect: If I’m a driver signed up for Uber – what would make me change to another company? If Uber suddenly did not have clients? If I’m a client what would make me not open Uber first? If I knew the drivers were likely to be elsewhere. The cost of setting up to compete and attain critical mass with Uber would be huge.
However these niche delivery companies as mentioned at the start also have some large advantages due to being a first-mover. Economies of scale on product sourcing as they grow – pricing power on procurement which means pricing power on sales. Owning niches and becoming synonymous with the niche; being so well known in their niche that it is hard for others compete – (e.g. Graze in the UK). Consumer passive behaviour and not switching providers even if there is a better deal out there is also key.
Now let’s take take Dollar Shave Club (DSC) – they will source in bulk and thus can gain advantage via economies of scale here as they grow. They will outsource all delivery – are there any economies of scale here? Possibly from long-term contracts where monthly deliveries can be scheduled. The product itself – they will claim otherwise however it is almost a commodity. However, once they are the known incumbent will this matter?
So we have our own Cornerstone here in the UK offering a slightly more premium product however, at the end of the day will compete with DSC when they arrive (which they are bound to after their last large round). I had a chat with the CEO Oilver Bridge (a former VC) and he is only too aware of the market dynamics and how it will play out. Having the capital to quickly take the market is vital and while you do not have the classic network effect – client stickiness, raising the CAC for rivals is very strong.
So exit possibilities are good for these smaller “rocket internet like” rivals to the larger incumbents who will come to this market. They are definite acquisition targets – depending on their size and the client acquisition cost predicted by their larger competitors versus a purchase price. Also companies like Amazon can extract synergies to make marginal business models more attractive (via the delivery charge dropping). So “Build To Be Acquired Early” looks like the game-plan for a lot of the copycats.
By John Rowland, Managing Partner