Network Effects – The Keys to Ascending the Consumer-Internet Throne

“Category kings”, defined as market-share leaders in particular business sectors, often wind up creating the majority of the market value relative to their competition. This advantage is particularly pronounced in technology: According to some research, over 70% of the value created in technology markets is actually generated by the category’s king (think in retail, Facebook in social media, etc.) In fact, research we recently conducted around this topic showed that five-sixths of the market value generated by these leading tech players comes from businesses driven by “network effects”, the phenomenon of a product or service becoming more valuable as more people use it. (This insight is based on an analysis of companies first compiled by consultants Play Bigger Advisors, with valuations updated as of Dec. 31.) Our recent, more-detailed analysis around network effects found that they are, in many ways, more potent than many of us have thought: They lead to more efficient sales-and-marketing activity; create strong barriers to competition; and can lead to explosive growth as a category king’s base of users grows at a fast rate. Today there is a new class of prominent network-effect companies—such as Airbnb, Uber and Snapchat, all potential IPOs in the next 12 to 18 months (Snapchat’s parent has already filed for its offering)—that have created and dominated enormous winner-take-most markets, including lodging and transportation. These companies’ success and increasing visibility prompted us to try to quantify the specific value of network effects in consumer-technology markets, particularly among category kings. One of our outputs is the new Battery Ventures Network Effect Index, which we are launching today and will update regularly. We believe the index and its related data hold insights to better understand the network-effect economy.

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