Liquidity hacking: How to build a two-sided marketplace

By Josh Breinlinger , written on November 20, 2012

From The News Desk

Marketplace businesses... They always seem great on paper, but it's so insanely hard to solve the chicken or the egg problem. Every founder I meet who's building a marketplace business basically says the same thing: "It's so much harder than I thought to build a two-sided marketplace."

But of course it can be done. There are plenty of examples of success. EBay did it. We did it at oDesk. OpenTable is famous for doing it, and AirBnB is killing it. What I've noticed in the success stories is the basic theme that I call "liquidity hacking."

What is liquidity hacking? 

In short, liquidity hacking is the strategy that successful marketplace businesses employ to reduce the challenges associated with low transaction volumes. It often requires narrowing the scope drastically of the offering until sufficient scale allows you to expand to achieve a broader marketplace.

This type of hacking is completely necessary in my opinion. The thing with marketplace businesses is that they work great at scale. Once you have hundreds of thousands of users on the supply side and the demand side, then everything works great. The challenge is almost always -- how do you get there?

Provide value to one side

  1. Offer portfolios -- Many different people like to showcase their work online. In the olden days this would be done with a custom and personalized website. Now there are free portfolio tools for almost every type of individual. Once a site is successful in gaining users for their free portfolio tool, you end up having solved your initial supply challenge. See: BehanceDribbbleCarbonmade
  2. Build community -- If you can establish a healthy and vibrant community on either side of the equation, you'll end up with the potential for a great marketplace. See: StackOverflow
  3. Offer Tools -- If you can get a lot of people to use your free tools, then you'll have a highly engaged user-base on one side of the equation. See: GithubOpenTable.
Find aggregators
  1. Find physical aggregators -- There are various aggregators in the real world that provide really novel ways to hack liquidity. These are physical locations that contain a concentration of supply or demand. College campuses work great for this. Word spreads lightning fast and student labor is crazy cheap. I've seen some marketplace businesses that start focused on campuses and figure out the formula for getting significant penetration. Then just go to the next campus and repeat. Basically same deal with large office buildings and even high-rise apartment buildings. The great thing about large office buildings is you can sometimes convince the HR manager that your service is so cool that they should email the entire company about the offering. Now you have a trusted recommendation to try a service and you get free distribution to all employees. See: MyEatClubZimride
  2. Find an enterprise client -- Enterprise clients often have lots of money to spend on the demand side. Sweet. A single contract can get you off the ground and running and focusing all your efforts on building the supply side and more product. The risk of this is that the enterprise feels like they own you and demand increasingly complex product features that could ruin your platform for other buyers. If the relationships are managed well, it's a good way to get started. See: Gigwalk.
  3. Find supply aggregators -- Let's say you need a whole bunch of freelance developers. You have a vision of cutting out all middlemen and creating real value in the world. But you know it's going to take a long time. So, you look for some supply aggregators like a Web design firm in India to offer the supply you need to get off the ground. Or maybe you have a vision that anyone should be able to rent anything from anyone else. That's great, but you need a lot of rental supply to get things started.  What better source than places like Home Depot for power tools and REI for camping gear to get you off the ground with a solid supply. Then you can spend your time worrying about demand and about getting supply from individuals or owning your own supply later. See: Getable
  4. Scrape listings -- For example, scrape a whole bunch of real estate listings from Craigslist. Then put up a modified version of that listing on your website with a better UX. The problem is you can't actually connect the supply and demand since you don't own the supply yet.  But you'll get damn good conversion rates if you say, "Hey supplier, good news. I have a customer for you, you just need to sign up for free here."
Narrow the Problem 

In almost all cases, it helps to really focus the efforts of the business. You have very limited resources to get to a sustainable marketplace so you should concentrate your resources on small areas.

  1. Focus on a geography -- This is kind of obvious. See: every local marketplace ever.
  2. Focus on a niche community -- Beanie baby collectors. See: Ebay.
  3. Focus on a vertical -- You started with anything? Now making a standardized offering around housecleaning. See: Exec.
Curate one side

One way to make things function reasonably well at low volumes is to curate one side.  There is a question of whether a "curated marketplace" is really a marketplace at all, but so what? Curation is really important. The reason it's so important is that it greases the wheels of the marketplace. It allows the marketplace to move from a listings model to an open-call transactional model. This brings a lot of efficiency to the process and lowers the effort required by the buyers. YourMechanic is a great example of this -- rather than just have a directory of mechanics that you have to review, they presented me with just two options and their calendar of availability. I didn't have to think about who to hire, I just clicked on the first available slot since they both looked like great mechanics. See: YourMechanic

Use "hamsters"

When all else fails, use hamsters. This is basically what I was for my first year at oDesk. It's the brute force method. You just throw bodies at the problem until you have enough scale that you can reduce the manual requirements in the process. At oDesk we always had the vision to be kind of what you see today, but in the beginning we acted more like a staffing firm, and I was the recruiter that would talk to the customers to take the job requirements and then go on a manual search to find candidates to fill the position. We just had to hustle like crazy, because you only have ~24 hours before the demand side loses interest and realizes that you have nothing. See: oDeskAirBnb.


Note: If you just want to know which one came first, chicken or the egg... It's the egg. From Wikipedia:

The theory of evolution states that species change over time via mutation and sexual reproduction. Since DNA (deoxyribonucleic acid) can be modified only before birth, a mutation must have taken place at conception or within an egg such that an animal similar to a chicken, but not a chicken, laid the first chicken eggs. These eggs then hatched into chickens that inbred to produce a living population.