Aggregation Theory

companies leverage the internet to reshape value-chains, gain power and extract
profits.

BEFORE THE INTERNET

three types of players in any given supply chain: suppliers/producers, distributors
and consumers. There are thousands or millions of consumers, while there are only a
certain amount of factories, printing presses, trucks and so forth. Therefore, it
was more profitable to integrate the supply and distribution within a company and
optimise those processes. You could not optimize for every single customer as that
would have been way too costly: the marginal cost of serving each consumer would be
prohibitively high. Instead, the consumer received what came out in their local
store’s shelves. Again, the hardest problem was actually reaching the end-user,
providing the distribution.

AFTER THE INTERNET

The new scarcity is now that consumers only have 24 hours a day, and the hardest
problem is now actually capturing the end-users’ limited attention. The big
question now becomes: where do consumers actually look? The answer is, you guessed
it: aggregators.
internet aggregators include Netflix, Uber, Airbnb, Twitter, Snapchat, Facebook and
Google

three key characteristics an aggregator

i) direct relationship with their users.
You visit the aggregator’s app or website directly and they, crucially, own the
online customer relationship
these companies aggregate the consumer’s demand in one destination. Google for
search, Airbnb for beds

ii) zero marginal costs for serving new users.

hile a newspaper needs to print more paper and then put it on a truck to serve a
new area Facebook has no such costs for serving a new area.

iii) demand-driven multi-sided networks with decreasing acquisition costs

There are network effects at play here meaning that the aggregator facilitates
interaction between two or more other parties; multi-sided. Demand-driven comes
back to characteristic number 1: the network effects are driven by the fact that
users go to the aggregator. This, in turn, makes it more appealing for suppliers to
be on the destination, which in turn means more users want to browse the bigger
supply.
All-in-all this means that it’s easier and easier for the aggregator to get new
suppliers and users on to their destination and that is decreasing acquisition
costs. This is what Ben calls the virtuous cycle.
Google created a great search product that brought users (i.e. demand) there in the
first place. Given that plenty of users went to Google, most websites wanted to be
easily found on Google (i.e. the supply side) and thus adjusted their websites so
that Google could better discover them. This in-turn makes Google’s search product
and user experience better, which attracts more users and so the virtuous cycle
goes.
____________________________________
## Different type of aggregators
Level 1: Supply acquisition costs
e.g: Netflix
they actually have to acquire their own supply.
they own the customer relationship, they can serve new customers without any
transaction costs and they have a network effect in the sense that the more users
they have, the more money they can spend on content and every new piece of content
decreased the acquisition costs for all future customers
t Netflix pays a fixed fee for its content. This gives them a classic software
company type of revenue and cost structure
users and revenue can go to the moon while costs stay as good as fixed. When the
unit economics looks like this, one can produce an extremely profitable business if
you manage to scale to a large enough customer base.
Now, let’s have a quick look at what happens when marginal costs are not zero.
Spotify might not be or become an aggregator because they have marginal costs that
they pay to the record labels. When revenues go north the costs also do.
The main reason for this is that the three major music labels own the rights to
most of the music that people listen to. The supply side of the music (rights)
market was very concentrated when Spotify started out. The concentrated supply-side
left Spotify relatively weaker than in industries with a large number of fragmented
suppliers.
The biggest aggregators often start out in markets where the supply side is
fragmented. It’s typically the long tail of suppliers that start using the
aggregator because they are more willing to accept any terms to reach new
consumers. First, a large number of smaller suppliers get on board and the virtuous
cycle works its magic for a while. Then the more established players come along and
bring their supply to the platform.

Level 2: Supply transactions costs

These companies do not bear the burden of having to buy their own supply as Level 1
Aggregators, but they do incur a marginal cost when new supply enters their
marketplace. In this category, we find Uber and Airbnb. Uber, for instance, have to
do background checks on drivers and adhere to local taxi regulation. This means
that supply can not come freely onto their marketplace. Level 2 aggregators usually
operate in a regulated environment where safety is a concern.
Lyft is currently a competitor with significant demand as well, and drivers can
easily switch between the two apps. So Uber seems to be lacking the lock-in and
winner takes all effects usually seen for other aggregators where supply has
nowhere else to go.

Level 3: Zero supply costs

can onboard an arbitrary amount of suppliers without incurring new costs. These
companies neither own the supply nor have to pay for getting it onboard. Social
media sites like Snapchat and Twitter and the app stores are examples. The former
relies on ads while the latter takes a cut of purchases of apps
the supply and demand side of the marketplace can grow in the virtuous cycle
without any friction. It does not cost Twitter anything to let a new user create an
account or a new Tweet that can be served to millions of users.

The super-aggregators
As with level 3 aggregators, their supply and demand sides scale perfectly, but
their ad sales also scale perfectly.
unique because they allow advertisers to advertise with self-serve solutions. In
other words, they can perfectly scale supply, demand, and revenue. This sets them
apart from Twitter and Snapchat that to a larger extent rely on their sales force
to sell ads and grow their revenues. Advertisers on Google and Facebook mostly
don’t speak directly with any human while spending money on their platforms.
_________________________________________
Content, before and after Facebook
Let’s have a look at the example we started with: the newspaper. Facebook has
disrupted newspapers in a major way. Coming from the pre-internet world the editors
were sure that the way their business worked was by creating a great product (the
content) that people within their geography paid for because it was simply so good,
and in addition the advertisers advertised in it because it was such an effective
way for them to reach potential customers.
Then the internet came along and allowed anyone to distribute content. The supply
of content, which was previously limited to how much the journalists in the
newsroom could produce was now practically infinite. For a decade or so this was
all quite messy and users would visit heaps of different blogs and sites to explore
content online.
Facebook started out by bringing your offline relationships online. However, with
the News Feed, Facebook made it easier to reach an audience within and outside your
circles while on the other side giving everyone a personalized feed for discovering
content. As opposed to newspapers, Facebook has the scale of content and number of
users that enable them to invest huge amounts in technology infrastructure that
enable these personalized experiences.
They can also deliver a superior ad product to advertisers which means their
revenues can scale without marginal costs. All happening in a virtuous cycle that
improves the experience for all parts (content creators, content viewers, and
advertisers) as Facebook grows.
So it turns out that what the newspapers actually had more than anything was a
monopoly on the distribution of content in their region. Readers and advertisers to
a large extent paid publishers because they did not have alternatives. Now that
Facebook owns the eye-balls (demand) and can serve an infinite amount of content
most publishers are commoditized, lacking access to their potential customers and
have an inferior ad offering for advertisers. A newspaper might not like this and
stop posting on Facebook, but that void will simply be filled by an infinite amount
of other content that would love access to Facebook user’s eyeballs. Simply put,
the newspapers have been disrupted.
______________________________________
what sets them apart from pre-internet companies
they are controlling the end-user demand and commoditizing their suppliers.
these are all consumer-facing businesses. Businesses have more requirements for
customization and thus won’t accept one-product-fits-all that the aggregators
offer. In addition, they have more interest and bargaining power when it comes to
protecting the usage of their data. These days venture capital is mostly deployed
in B2B startups because it’s almost impossible to win against the Aggregators when
it comes to reaching consumers

What is important to note is that in all of these examples there are strong winner-
take-all effects. All of the examples I listed are not only capable of serving all
consumers/users, but they also become better services the more consumers/users they
serve — and they are all capable of serving every consumer/user on earth. This,
above all else, is why consumer technology companies are so highly valued both in
the public and private markets.

Reference: https://medium.com/@hagaetc/an-introduction-to-aggregation-theory-
7cea63cc0e20