E-COMMERCE MARKETPLACE BUSINESS MODEL: BENEFITS AND CHALLENGES

Online marketplace business model: benefits and challenges

E-commerce marketplace concept is not a new phenomenon. Amazon, Walmart, eBay, Jet, Wayfair, Farfetch, Overstock, Groupon and many others are good examples of marketplace business models. These companies built multi-billion dollar businesses by connecting third-party sellers and customers. Several years ago I was involved in a startup that developed e-commerce marketplace software and we partnered with one of the best-known online marketplace platforms globally. The company was based in New York and, while working on this business, we got a good understanding of the marketplace business model benefits and challenges that need to be addressed, so that the business could function efficiently and profitably. 

So what are the benefits of an e-commerce marketplace business model? 

Benefits For All Types of Companies

1. No inventory and no product responsibility. In the marketplace business model, you, as a marketplace operator, don’t hold any product inventory and thus, you don’t have to lock your cash in it. You rely on sellers to sell their products to customers and act as an intermediary whose primary purpose is marketing, i.e. you simply connect a customer and a seller on your platform.
2. Larger product selection. Though e-commerce platforms like Shopify, WooCommerce, BigCommerce and others took the pain of coding an e-commerce website away, anyone who tried to build an online store knows how much time it takes to source products, deliver them, take and edit product pictures, write a unique product description and upload everything on the website. So having a larger product selection without a need to invest in all of the above-mentioned activities is a major value proposition for a potential online marketplace operator. Because you don’t hold the inventory, you can offer more products from more sellers (vendors, or merchants).
3. Deeper customer engagement, better targeting and customer segmentation. Managing an e-commerce marketplace with hundreds, thousands and, potentially, millions of products (in January 2018 Amazon had 562 million products represented on the website. Source) will give countless opportunities to engage customers in your platform, run all types of customer segmentation analysis, create better targeting techniques and ultimately, better understand your customer and provide a higher level of customer personalization. Read more about customer personalization here and here.
4. Diversification of your core business. For a retailer, having more products represented on the platform equals less business risk because your product selection will (presumably) appeal to more customers. For a media company which would like to launch online product sales, having an e-commerce marketplace means an additional source of revenue and diversification of business.
5. Stronger customer loyalty. This one is tricky because the customer loyalty can both increase and decrease depending on the quality of the products and sellers, product selection, pricing, customer service and some other factors. However, if executed right, you can get a significant boost in customer loyalty to your brand (especially, if you don’t show who the sellers are and the customer will only see that a particular product is being sold by you, even though on the back-end you will have another seller shipping the product to the customer).

Benefits For Media Companies

1. Additional monetization due to selling products online. Media companies are struggling with keeping the customer coming back to their websites and mobile apps because an average customer is overdosed with information flowing from everywhere. To keep the customer and increase the value of your media brand you need to provide exceptional and unique information and services while keeping the customer on your platform as long as possible. Launching an e-commerce marketplace may allow you to decrease the customer churn rate and make money while bearing a relatively low investment risk. Media companies should, nonetheless, be careful when looking at an opportunity to sell products online: this is not their primary area of expertise and they need to have a strong e-commerce team in place to build a high-quality online marketplace.
2. Higher revenue. More page views translate into more advertisement sold. There are some good business models combining selling products with brand advertisement, which allow for more money flowing in.

Benefits For Retailers

1. Higher order value and cart value. Because a marketplace operator can increase their product selection by holding no inventory, such product offering usually helps increase the order value and, as a result, the cart value, which is one of the major metrics of any e-commerce business. 
2. Upsell and cross-sell opportunities. A marketplace will always have more opportunities to upsell and cross-sell simply because it has a larger product selection.
3. Safe testing environment. A retailer will be able to test the demand for new products before taking a position in a specific product category. Measuring the product demand will, in turn, allow the retailer to make more informed and well-thought out decisions on product inventory.

Benefits and Challenges of E-commerce Marketplace Business Model

​Now, let’s talk about challenges of the e-commerce marketplace business model. Below are some of the major ones.

Challenges of the E-commerce Marketplace Business Model

1. Low margins. A marketplace model usually operates with a 10-20% margin (commission paid by a third-party seller to the marketplace). This commission is very often not enough to cover the costs of building the marketplace, at least in the first few years. Thus, building a marketplace is a long-term game and such companies are not profitable for years. Needless to say, that an e-commerce marketplace company’s operations must be lean and very efficient to achieve scale.
2. Integration with vendors. As we’ve seen in another article on supply chain optimization, integration with other participants of the supply chain is critical to long-term success of the business. More so for e-commerce marketplaces because the level of influence over the vendors is quite limited there. These are all independent companies running on their own order management, warehouse management, etc. systems which will not necessarily work well with the e-commerce marketplace software. As a result, marketplaces will need to pay closer attention to the criteria which they use to choose the vendors as well as make sure they understand the integration part prior to connecting the vendors to the marketplace and giving customer access to the vendors' products. There are multiple other issues arising from this one, such as real-time inventory updates on the marketplace side, price control and price management, product matching and product duplicates’ removal (when different vendors sell the same products) and some others. Overall, working with vendors can be a whole separate topic as it involves a large number of issues and business processes, so we will talk about it in a separate blog post.
3. Visual product presentation. When you operate any business, it’s important to keep a uniform product presentation, so that your customers would have a uniform user experience across all of your products and services. When you sell third-party products, the pictures and the product descriptions will all be in a different format and will have a different quality. Some marketplace operators choose to create their own photo studios where they take pictures of all the products going on the marketplace platforms, and some others restrict the process to specific guidelines which they give to the sellers. However, the issue of visual product presentation is one of the most important ones and the marketplace operator must define the internal process to address it.
4. Quality and brand control. Though efficient marketplaces like Amazon have an extremely high customer lifetime value, smaller marketplaces may fight to keep the customer – especially, when a customer can see the name of the seller on the marketplace website and instead of buying from the marketplace, buy from the seller directly (a whole new area discuss). So marketplaces need to come up with creative ways to differentiate themselves and increase customer loyalty. On the other hand, a marketplace operator must pay a lot of attention to the quality of sellers, products and service – only if the customers are satisfied with the service they receive, the marketplace brand will become stronger and the customer lifetime value will increase.
5. Fluctuating demand. The fourth quarter is usually the toughest one as it literally tests the e-commerce company’s supply chain’s efficiency. When a company controls the inventory, it is relatively easy to respond to the changes in market demand but when you operate a marketplace, the complexity increases significantly. Any business encounters issues with demand planning and inventory forecasting, and more so – an online marketplace with tens, hundreds and thousands of sellers and, often, millions of products.
6. Complicated logistics. Let’s say you sold a third-party seller’s product on your platform. Who has the product in stock, who will ship it, who and how will provide customer with the tracking information, who will resolve problems with delivering the product? What if you sell products from sellers located in different countries? What will happen if a customer buys 3 products from three sellers with all of them based in different countries? How will customs documents be filed? How do you calculate the customs fees and when do you charge the customer for customs clearance? Will the customer be responsible for customs clearance or will it be the marketplace or the seller? All of these issues must be answered and business processes should be in place before the product can be sold.
7. Product returns. There are various structural marketplace configurations (marketplaces which have their vendors deliver the products to the customers, marketplaces with their own warehouses shipping the products to the customers, marketplaces outsourcing product warehousing and shipping to 3PL operators). Each of these models may have different policies for product returns. Imagine a customer ordered a product from a third-party seller and now wants to return it (to complicate things further, let’s say a customer wants to return products to multiple sellers, all located in different countries). Where will the customer ship the products and what kind of documentation is involved in this process? Who will pay for shipping?
8. Customer service. A customer buys a product on the marketplace, hence, in the customer’s eyes, the marketplace is the primary source of product information. A customer should be able to call, chat with or email a customer service representative and receive an answer to his/her questions about a specific product. Now, let’s say you have tens of thousands of products on your marketplace. How would that even be possible for a customer service group to answer any questions about such a large variety of products? The marketplace operator should strive to provide as much information about the products as possible on its platform and minimize customer service agents’ involvement. That said, a special process for answering customer requests and sophisticated training should be provided to the customer support people to ensure customer satisfaction.

 
E-commerce marketplace may sound like a fun idea and is, very often, a great solution for many companies (especially those who are already in the e-commerce business and have the appropriate supply chain supporting it) but there are a large number of issues which need to be resolved prior to even starting the work. Fortunately, now there are external marketplace software platforms available which will resolve some (not all) of the challenges mentioned above. So the company willing to work on the marketplace idea, must spend enough time to analyze the advantages, the challenges and the economics of the marketplace business model and come up with sustainable solutions before moving forward.