Understanding the Four Key Effects of Network Effects

This week’s podcast is about network effects. And my 6 questions to look for.

You can listen to this podcast here, which has the slides and graphics mentioned. Also available at iTunes and Google Podcasts.

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Here are the 4 network effects questions:

1. What is the asymptotic scale?
2. What is the minimum viable scale?
3. What is the shape of the curve?
4. What is the scale differential with rivals?

Here the 4 network effect effects:

1. Network effects can cause rapid increases in the real or perceived value and/or utility to customers. A product or service that increases in value TO THE USER is great. And this is usually what we are talking about with network effects.
   1. This is usually thought of as consumers. Or business customers. But it can also be for other user groups, like content creators and developers.
   2. This doesn’t necessarily mean growth. You can have a great and improving service in a small or flat market.
2. Network effects can increase economic value. This is not the same thing as customer value (real or perceived). If a platform business model has attractive unit economics and growth potential, then you can see increasing economic value and shareholder returns with network effects. But not always. You can have a fantastic service with increasing customer but not economic value (by network effects)
3. Network effects can create a competitive advantage. This is demand side economies of scale as a moat. This is what collapses the market to a monopoly or oligopoly. However, this doesn’t necessarily mean the creation of economic value. You can dominate an unattractive business. And it doesn’t necessarily mean growth. You can dominate a stagnant business.
4. Network effects can create a barrier to entry. In digital, this is mostly by indirect network effects, which have a chicken and egg problem. That is hard for new entrants to overcome with an incumbent present. There is less of a barrier to entry with direct network effects. We also see barriers to entry in physical networks which require lots of tangible assets. Replicating a railroad is almost impossible in a developed country.

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I write, speak and consult about how to win (and not lose) in digital strategy and transformation.

I am the founder of TechMoat Consulting, a boutique consulting firm that helps retailers, brands, and technology companies exploit digital change to grow faster, innovate better and build digital moats. Get in touch here.

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