Marketplace Liquidity: How Side Switching Can Help & Issued and Outstanding Shares Versus Fully Diluted Shares

Marketplace Liquidity: How Side Switching Can Help & Issued and Outstanding Shares Versus Fully Diluted Shares

Marketplaces play a crucial role in connecting buyers and sellers, but in order to be successful, they need to achieve a critical mass of demand and supply. This critical mass is often referred to as "liquidity". Liquidity is easier to achieve for one-sided networks, such as social networks, where the same users represent both the demand and supply. However, for marketplaces, liquidity depends on the number of suppliers that can be matched with a customer's request.

There are two ways to measure supply density in a marketplace: the ratio of "match-able" supply to demand within a region or within a category. The relative importance of each type of supply density differs based on the primary characteristics of the marketplace. For example, Uber needs to maintain a specific supply to demand ratio within a few miles to achieve a targeted wait time. This means they need to make significant investments in field operations to achieve and maintain liquidity.

On the other hand, Airbnb is a marketplace with cross-border network effects. Guests judge Airbnb's product experience based on their ability to find a high-quality property at their desired destination. While Airbnb still needs to maintain a specific supply to demand ratio within a destination, it can spread across a larger geographic area. Geographic density is not a significant constraint to liquidity for Airbnb.

Another factor that affects liquidity is the nature of the supply. Uber has commoditized or interchangeable supply, meaning riders are simply looking for on-demand transportation and are not sensitive to the brand or identity of the driver. This makes it easier for Uber to acquire a critical mass of supply. On the other hand, marketplaces like Airbnb have differentiated supply, which creates complexity in enabling matches. It is more challenging for Airbnb to acquire a critical mass of supply across numerous categories.

These characteristics of marketplaces also impact their defensibility and scalability. Marketplaces with both commoditized supply and cross-border network effects face the lowest hurdles to liquidity. On the other hand, hyperlocal marketplaces with differentiated supply face the most challenges in achieving liquidity.

For hyperlocal marketplaces with differentiated supply, there are two approaches to achieve liquidity. The first approach is to use a "come for the tool, stay for the network" approach. This means providing a valuable tool or service that attracts users and then leveraging their existing base to bring in more valuable network participants. The second approach is through "side switching". Side switching occurs when marketplace participants do not have fixed roles and can switch between being a buyer and a seller. This is similar to what happens on social networks, where users simultaneously act as both demand and supply.

To maximize the liquidity advantage from side switching, marketplaces need users to switch frequently between the demand and supply side. This means embedding side switching as a core part of the marketplace's value proposition. Poshmark is a great example of a marketplace that has successfully built its model on side switching.

Moving on to the topic of shares, when a corporation issues shares in exchange for payment, those shares become "issued and outstanding". The person or entity that purchased the shares becomes a stockholder. On the other hand, when a corporation grants someone the right to buy shares later, such as through stock options, those shares are not yet considered issued and outstanding. They do not appear on the corporation's stock ledger, and the person does not become a stockholder by holding them.

The distinction between issued and outstanding shares and fully diluted shares is important when calculating ownership. The unallocated option pool is not considered issued and outstanding. Whether a company calculates ownership based on the issued and outstanding shares or on a fully diluted basis may depend on the context of the calculation. It is crucial for all parties involved to clearly express their expectations and use the same method of calculation.

In conclusion, achieving marketplace liquidity is crucial for the success of any marketplace. The characteristics of the marketplace, such as the nature of the supply and the geographic range, play a significant role in determining the challenges and strategies for achieving liquidity. Side switching can be a valuable approach for hyperlocal marketplaces with differentiated supply. Additionally, when it comes to shares, understanding the difference between issued and outstanding shares and fully diluted shares is important for calculating ownership accurately.