Most Common Software Development Mistake: A Lack of Business Model Design

This article details why you need platform business model design before writing code to avoid the most common software development mistake and avoid losses of 3 months and hundreds of thousands of dollars.

A platform is business model that enables the exchange of value between a network of third party producers and consumers. Uber and Airbnb are favorite platform examples. These companies serve as an intermediary between a network of producers creating value that then the platform helps to distribute and make available to consumers. The cost of the inventory that drivers and property listers make available isn’t incurred by the platform itself i.e. Uber doesn’t own any cars and Airbnb doesn’t own any properties.

The platform business model affords these companies benefits that aren’t available to linear companies. For instance, externalized innovation and scaling without increasing costs are very specific to platforms. Linear businesses must invest in expanding their supply chain through physical products and processes while platforms grow their network of user and expand their software technology to accommodate more users and scale. The future of 21st century is the platform business model as evidenced by the top five most valuable companies all being platform businesses.

So what do platforms have to do with software development and business model design? To begin, a critical component of platforms is the technology. Without technology, there is no platform because software helps producers create value, connect producers with consumers through matchmaking algorithms, assist consumers complete the core transaction and provide the necessary tools to enable compensation. Let’s look at Uber again to explain what we mean.

The Four C’s of the Core Transaction (using Uber as an example)

Create: Uber drivers create value on the platform by signing into the driver mobile app and signaling to the platform they’re available to provide rides. The mobile app’s technology is essential to enabling the creation of value on the platform.

Connect: Once a driver becomes available on the platform, the software knows to look for riders in the area that need to get from point A to point B. The geolocation algorithim connects the right driver with the right consumer and the Uber experience begins.

Consume: This step speaks to the experience of consuming the service provided the platform’s producer. In the case of Uber, this is the ride. Uber’s software enables the driver to have step-by-step directions and know a rider’s rating during the ride experience. The software also lets a rider broadcast their real-time location to friends and loved ones and other cool features like splitting the bill with friends. These are all components of the software that better enable both producers and consumers to provide and consume a service.

Compensate: The last step of the core transaction relates to how consumers compensate producers for the value created. In the Uber example, it’s pretty simple. A rider pays the driver and provides a rating. The driver also provides a rating for the consumer.

It’s pretty evident that without technology, a business like Uber couldn’t exist. It’s for this reason that the entrepreneurial appetite to be the next Uber has drastically increased over the years. Aspiring entrepreneurs believe software is the most important part of becoming the next unicorn company. While they’re not completely wrong, they’re not completely right. Software is essential, but without platform business model design, it won’t matter that you have the best software capabilities. Let us explain why.

A platform has core four functions.

Matchmaking
Building liquidity
Setting rules and standards
Providing functionality

Once again, before writing any code, platform entrepreneurs must understand how their platform will address each of these essential functions.

1. Matchmaking

Defining the matchmaking process begins with understanding who your initial producers and consumers will be. Once that base is established, you can then start to design a matchmaking process. Let’s take Instagram as an example, which primarily handles matchmaking through a follow model. Producers of content are connected with consumers of content through a social feed governed through a follow model. Handy, a service marketplace platform connecting apartment cleaners and handymen with consumers, uses location and desired timeframes for services to connect users. How will your platform enable matchmaking?

2. Liquidity

When it comes to building liquidity, solving the chicken and egg problem is a top priority. The following are the seven strategies Applico has outlined for find a solution.

Monetary Subsidies

i. Enter with Significant Pre-Investment

Example: Significant upfront investment in your platform can signal to your producers that it’s safe for them to join your ecosystem.

ii. Build a Cooperative Strategy

Example: Google creating the Open Handset Alliance (OHA), a group dedicated to advancing Google’s Android operating system.

Product Features

iii. Act as a Producer

The platform acts as the producer to attract an initial group of consumers. It then uses its existing consumer base to attract its producers.

The iPhone is a classic example. When it first came out, Apple didn’t allow third-party apps. Once Apple had attracted a large group of consumers, it opened the App Store to enormous success.

iv. Use an Evolution Strategy

Rather than trying to create a network from scratch, why not use one that’s already there? An Evolution Strategy taps into an existing large network in order to attract a subset of its users. Airbnb siphoning users from the Craigslist network is an example.

Monetary Subsidies & Product Features

v. Create a Single- or Double-Sided Marquee Strategy

When Uber launched in Seattle, it subsidized town car participation by paying drivers even when they weren’t transporting customers. This subsidy brought high-value producers into the ecosystem, which in turn attracted paying customers.

vi. Target a User Group to Fill Both Sides

The idea behind this strategy is similar to #3: try to make a two-sided market one sided. The goal here is to find a user group that can fill both your consumer and your producer roles. That way, you no longer need to worry about attracting and balancing two separate user groups early on.

vii. Provide Single-User Utility (1 & 2)

Last but certainty not least is providing single-user utility. This is a “come for the tool, stay for the network” approach, where you attract one side of your multi-sided platform by offering that user group value even if the other side never shows up. Restaurant booking platform OpenTable used a similar strategy in order to get restaurants on board.

These strategies are essential for platforms to seed their initial user in a way that enables liquidity.

3. Setting rules and standards

Since platforms directly control less of the customer experience compared to linear businesses, it’s imperative that the platform place rules and standards to promote good behavior and identify bad actors. For instance, Uber requires that drivers maintain a 4.5 average rating or else they’re banned from the platform. Rules and standards help minimize the risk associated with the platform controlling less of the user experience by putting standards in place that promote producer and consumer quality. Social networking platforms put content guidelines in place that disallow distasteful content. Ensure your platform has done the proper diligence to understand what rules and standards should be in place and how they’re programmed into your actual product.

4. Providing tools and functionality

Lastly, a platform must provide functionality for both producers and consumers to be able to complete the core transaction. An example would be Airbnb providing tax filing services on its platform to help property listers properly qualify their earnings on the platform. The Uber platform’s ability to handle cashless payments is another example that reduces the friction of the core interaction. If you compare Uber to regular cabs, the tools and functionality provided by Uber are what differentiates the platform. Hailing a cab used to require riders to be outside, but with Uber’s hailing functionality there is less friction in both producer and consumer experience. Payment used to be another friction point, but Uber removed it from the core experience. Tools and functionality have the ability to create a new standard.

This process above is what Applico defines as business model design. In part two of this post, we’ll explain why foregoing the process above can result in wasted software development time and costs that can exceed 3 months and hundreds of thousands of dollars.

Filed under: Product Engineering | Topics: platforms, software development