How Airbnb's Digital Business Model Has Contributed to Its Success

©Airbnb

How is that major industries that took decades to build up are being disrupted and torn apart by start ups who are just a few years old? In just 10 years Airbnb has managed to become one of the most valuable private companies in the world), as it operates 650,000 rooms across 192 countries (Airbnb 2017). In comparison, in 88 years Marriott International managed to build 697,000 rooms across 80 countries (Marriott 2018). The difference? Airbnb doesn’t own a single room and as a result is valued at $31 billion (Thomas 2017) compared to Marriott’s $16 billion (Marriott 2018). 

                                                                                                                    

                                                                                                                                    ©Ina Jha

Unlike traditional linear business models that create value via the manufacturing of products and services (operations via a linear supply chain), platforms create value via the facilitation of transactions from the connections they have created. 

©Ina Jha

The key differentiator between platform and linear businesses is the Marriott achieved scale from investing in and growing its business’s internal resources, where Airbnb scaled from cultivating an external network built on top of its business.

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By understanding some basic economic principles we can highlight how Airbnb yields network effects to capture and create their value. For example, when the Marriott looks to open a new hotel they must first establish the trade off between the price of the rooms and the quantity sold. Once, the breakeven cost of the room has been established e.g. £40 per night, the tradeoff can then be illustrated via a supply and demand curve as shown below.

Thus, the Marriott can either charge a lot e.g. £500 per room, where they can sell less room but have a higher margin, or charge £50 per room, sell more and have a much smaller profit. Therefore, assuming ceteris paribus, too maximise its profits, the Marriott needs to find the optimal price for its room. 

This is because as linear business models like the Marriott grow by investing and growing their internal resources. Whereas, Airbnb utilises a platform business model that allows hosts (supply-side) to rent out their property to guests (demand-side) - ultimately removing the high fixed costs of production. For example, if the Marriott wants to grow its business e.g. move to a new city then it needs to build a new hotel to do so, whereas if Airbnb wants to expand to a new city it needs someone to create a new listing for that city on its platform. 

However, this is where the difficult in platform success lies, as unlike the Marriott who only needs to attract customers, Airbnb has to not only attract customers but hosts too. Thus, Airbnb has to manage its demand and supply-side simultaneously, with each side having a direct impact on the other - creating a high risk, high reward situation. For example, the Marriott has customers who are either willing or unwilling to pay a certain price to stay at their hotel. Airbnb, on the other hand, without customers cannot attract any hosts onto their platform (and vice versa), which ultimately creates a chicken and the egg problem for them.

As a result, Airbnb must be able to create value for all of their participants, whilst simultaneously capturing value for themselves. For example, on Airbnb the hosts (supply-side) are individuals looking to rent their space out. Hence, derive value from Airbnb by being able to get started in the digital  sharing economy, without having to create their own website. Secondly, the hosts are able to grow and experience frequent repeat business without needing to spend money on advertising as a ready made consumer base is ready to stay at their home whilst also benefiting from the buyer protection framework and customer service available on Airbnb. 

Wheres, the buyers (demand-side) can stay comfortably knowing the host has been vetted by Airbnb and validated based on feedback from other customers. The "long tail effect" (Anderson 2004) would result in more exotic and exciting room not found in a typical hotel chain. This should further result in cheaper prices as many of the hosts wouldn’t have the overhead costs as a hotel.

©Milosz Krasinki

Airbnb then extracts the value from the platform by charging a commission (transaction fee) on all sales through the platform. However, unlike linear business models like the Marriott, Airbnb has the ability to scale without increasing its costs, as once the Airbnb app has been created the cost of using it is almost zero, whether 100, 1,000 or 1,000,000 people use the app. This is because the cost to serve one additional user is virtually zero, as the marginal cost decreases indefinitely, as shown below (.

This is because its rapid user growth and low marginal costs of production, results in Airbnb's revenue growing at much faster rate than its costs. Whereas, in the case of the Marriott its costs will always increase in conjunction with the revenue it generates, meaning its growth potential is somewhat limited compared to that of Airbnb or any other platform business.









REFERENCES

Airbnb. (2017). “Airbnb Fast Facts” https://press.atairbnb.com/app/uploads/2017/08/4-Million-Listings-Announcement-1.pdf (Retrieved February 24, 2019)

Anderson, M. (2004). "The Long Tail" - https://www.wired.com/2004/10/tail/ (Retrieved February 24, 2019)

Marriott. (2018). “Investor Relations” https://marriott.gcs-web.com/ (Retrieved February 24, 2019)

Moazed, A., & Johnson, N. L. (2016) Modern Monopolies: What It Takes to Dominate the 21st Century Economy

Thomas, L. (2017). “Airbnb just closed a $1 billion round and became profitable in 2016" https://www.cnbc.com/2017/03/09/airbnb-closes-1-billion-round-31-billion-valuation-profitable.html (Retrieved February 24, 2019)