Not all startup ideas are created equal. In the realm of technology, we have a few key business models and their defining features that you should be aware of when deciding what to pursue. Your business model defines A LOT about how your business will need to create and capture value.
While there are a variety of other business models- like a service company or e-commerce company, most startups who are aiming big will decide on a SaaS or Marketplace model. Their next biggest decisions within this model are their demographic and revenue model. To start- let’s look at the business model itself.
When we think SaaS software businesses we typically think “predictable revenue (MRR), a software solving a problem, business-focused”. Those are indeed the main benefits of a working SaaS model- your revenue is consistent and predictable, your software solves a problem for you and so your profit margins are 80%+ once built, and your clients are typically businesses, be they freelancers, SMBs, or Enterprise. With a proper niching down, you can quickly onboard or even pre-sell clients and grow a stable business, possibly into the billions, but more likely than not in the millions or healthy 100M+. They are easier to start (fast app development, leaner overall, direct sales options), but often smaller markets.
The SaaS model, while easier to start, is often up against a lot more competition as a result. It means that seemingly large markets are fragmented and therefore the actual revenue potential is smaller. On average, the means more likely to succeed and be a successful business, not as likely to be a Fortune 500 or unicorn.
The marketplace/platform model, on the other hand, is far more difficult to start but with far more potential. At the core of this model is the concept network effects- a defensible attribute so powerful that there is an entire venture firm and site dedicated to it (with a great podcast!)- NFX.com. While SaaS models can have network effects built-in (think Zoom and Slack), a marketplace model is more defined by it’s having at least two different kinds of users with a value exchange between them, often with a platform commission or advertising/data revenue model.
Marketplaces can target consumers or businesses or both. Facebook may seem like a consumer market, but its paying users are actually businesses paying for advertising. That is how most social media platforms work. Other instances are Airbnb, where users are typically all consumers, but they are leveraging higher exchanges of value with homes and stays.
The biggest danger in a marketplace model is the extraordinarily difficult challenge of establishing a successful “atomic network”. An atomic network, if the term is new for you (coined by Andrew Chen in The Cold Start Problem), refers to the smallest number of users on each side required to have a stable exchange of value that retains its users. This is where Zoom and Slack are different from Facebook and Airbnb. Zoom and Slack can function with just 2 or 3 people respectively- they are a SaaS product with a network effect. Facebook realized that users, early on, needed at least 10 friends within 7 days to stay on the platform- it was a race. They also started in just college campuses so that friends would intersect as the platform grew, adding more value connections. Airbnb likewise grew city to city but started by focusing on events and advertising for specific time periods. They also recognize that they need several times as many people booking trips as they do hosts- a supply and demand balance.
The chicken and the egg problem, or the cold start problem, of marketplaces is what makes them such a graveyard. They are incredibly difficult, often crazy expensive, and sometimes it turns out the problem/solution fit that entrepreneurs thought they were solving doesn’t matter all that much. That was our story with Rentbridge- Airbnb for household items.
So while marketplaces companies tend to be defensible and grow to crazy valuations, it is because they are so difficult and so few survive. Though, with a small enough atomic network in a focused niche that is instinctively shareable, smaller marketplaces have been known to thrive.
Our biggest advice on marketplaces: test problem/solution fit prior to developing, make sure you are not depending on micro-transactions (i.e. how quickly can customer value replenish the cost to acquire them), and identify whether you can afford to acquire an atomic network.
There can be great ideas for both SaaS and marketplace business models. Keeping in mind your average revenue per customer in correlation to the cost to acquire customers and their churn is key for both models, but are also very different for the models. If you’re going to pursue a marketplace model, it better be sticky and spreadable or you may need significant funds to establish your first atomic network. If you are building a SaaS product, then knowing that your product can stand out in the market and that you can acquire a few customers prior to building will go a long way for a clean start. But later on growth will likely be more difficult than a marketplace.
There is obviously far more to consider than what is discussed here, like how to test the idea itself before pursuing it. I highly recommend reading Running Lean by Ash Maurya for a more detailed explanation. We’ll also be releasing more tools to help with your ideation process soon, but the best one we know right now is by Ash Maurya as well- leanstack.
Happy building!
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