Link: Aggregation theory
The value chain for any given consumer market is divided into three parts: suppliers, distributors, and consumers/users. The best way to make outsize profits in any of these markets is to either gain a horizontal monopoly in one of the three parts or to integrate two of the parts such that you have a competitive advantage in delivering a vertical solution.
In the pre-Internet era the latter depended on controlling distribution. The Internet turned this dynamic on its head: suppliers can be commoditized, leaving consumers/users as a first order priority. By extension, this means that the most important factor determining success is the user experience: the best distributors/aggregators/market-makers win by providing the best experience, which earns them the most consumers/users, which attracts the most suppliers, which enhances the user experience in a virtuous cycle.
Because aggregators deal with digital goods, there is an abundance of supply; that means users reap value through discovery and curation, and most aggregators get started by delivering superior discovery. Then, once an aggregator has gained some number of end users, suppliers will come onto the aggregator’s platform on the aggregator’s terms, effectively commoditizing and modularizing themselves.
Those additional suppliers then make the aggregator more attractive to more users, which in turn draws more suppliers, in a virtuous cycle.
This means that for aggregators, customer acquisition costs decrease over time; marginal customers are attracted to the platform by virtue of the increasing number of suppliers. This further means that aggregators enjoy winner-take-all effects: since the value of an aggregator to end users is continually increasing it is exceedingly difficult for competitors to take away users or win new ones.
This is in contrast to non-aggregator and non-platform companies that face increasing customer acquisition costs as their user base grows. That is because initial customers are often a perfect product-market fit; however, as that fit decreases, the surplus value from the product decreases as well and quickly turns negative. Generally speaking, any business that creates its customer value in-house is not an aggregator because eventually its customer acquisition costs will limit its growth potential.
Looking forward, I believe that Aggregation Theory will be the proper framework to both understand opportunities for startups as well as threats for incumbents.
What is the critical differentiator for incumbents, and can some aspect of that differentiator be digitized? If that differentiator is digitized, competition shifts to the user experience, which gives a significant advantage to new entrants built around the proper incentives.
Companies that win the user experience can generate a virtuous cycle where their ownership of consumers/users attracts suppliers which improves the user experience.
The linchpin on which everything else rests: aggregators have a direct relationship with users.