Network Effects - Guide to Understanding Network Effects
What are Network Effects?
Network Effect refer to the incremental benefits gained from new users joining the platform, which results in the product becoming more valuable for all users.
How Do Network Effect Work?
Examples of Network Effects
leading technology companies and startups nowadays benefit from Network Effect
- Social Media: Twitter, Facebook/Meta, Instagram, Reddit, Snapchat, TikTok, Pinterest
- E-Commerce: Amazon, Shopify, eBay, Etsy, Alibaba, JD.com
- Recruiting: LinkedIn, Glassdoor, ZipRecruiter, Indeed
- Ride-Sharing: Uber, Lyft
- Food-Delivery: Grubhub, UberEats, Postmates, Doordash
- Delivery Service: Shipt, Instacart, GoPuff
- Freelance: TaskRabbit, Upwork, Thumbtack
- Food Reservation: OpenTable, Resy
- User Reviews: Yelp, Tripadvisor
Metcalfe’s Law
In the best-case scenario, a company can capitalize on a network effect once connectivity is established, i.e. the network appears to market itself as organic user growth continues to climb upward.
Direct vs. Indirect Network Effects
Direct Network Effects: The growth in the network size and increased usage positively impact the value for the entire platform (“same-side effects”).
Indirect Network Effects: On the other hand, these refer to the indirect advantages that emerge for certain users and the platform later on (i.e. “cross-side effects”).
Types of Network Effects
- Marketplace: Aggregating customers and suppliers into one shared marketplace to exchange goods (e.g. Amazon, Shopify).
- Data Network: Gathering more user data and insights over time can establish a competitive edge (e.g. Google Search Engine, Waze).
- Platform: User growth and high retention rates within the product ecosystem (e.g. Apple, Meta/Facebook).
- Physical: Significant initial spending needs can be a barrier to entry that creates a network (e.g. Infrastructure, Utilities, Telecommunication, Transportation).