Importance of Network Effects When Starting a Business

A network effect is a phenomenon where a product or service becomes more valuable as more people use it. This can be seen in various types of networks, including social networks, marketplaces, and communication systems. 

For example, a social network like Facebook becomes more valuable to users as more of their friends and contacts join the platform, while a marketplace like eBay becomes more useful as more sellers and buyers participate. Network effects can also lead to a phenomenon known as a "winner-takes-all" market, where one company or platform becomes dominant due to its strong network effect.

Network effects can be very beneficial for a new business, as they can lead to rapid growth and a strong competitive advantage.

However, achieving network effects can be challenging for a new business. It can be difficult to attract the initial users or participants needed to start a network effect, and it can also be difficult to compete with established companies that already have a strong network effect.

Also it's important to note that not all businesses are suitable for network effects, some businesses such as retail stores don't have any kind of network effect, where as some like social media platforms do. It's important to understand the nature of the business and evaluate if network effects are important for it to succeed.

Strategies to Boost Network Effects for New Businesses
  • Offer incentives for early adopters: Offering rewards or incentives for the first users to sign up for your service can help attract a critical mass of participants and start a network effect.
  • Leverage existing networks: Try to tap into existing networks or communities of users to quickly attract a large number of participants. For example, if you're launching a new social network, try to attract users by offering them the ability to easily connect with their friends and contacts from other networks.
  • Focus on user engagement: Encourage users to actively participate and engage with your service, as this can help create a sense of community and encourage more users to join.
  • Make it easy to share: Make it simple for users to invite their friends and contacts to join your service. This can help spread the word and attract more users.
  • Partner with complementary businesses: Partnering with other businesses that serve a similar audience can help you attract more users and create a stronger network effect.
  • Create a sense of exclusivity: Creating a sense of exclusivity can also help boost network effects. For example, creating a waitlist for your service can create a sense of scarcity and make users more likely to sign up.
Keep in mind that these are just a few ideas, and the best approach will depend on the specific characteristics of your business and target market.

Businesses That Benefit the Most from Network Effects
  • Cryptocurrencies: This is probably the #1 thing that relies on network effects. If nobody uses a cryptocurrency, it has 0 value. Think about Bitcoin and the only reason it has value is that other people are willing to accept it. The more users, the higher the value.
  • Platforms and marketplaces: Platforms and marketplaces such as social networks, online marketplaces, and ride-sharing services benefit greatly from network effects. As more users join, the platform or marketplace becomes more valuable to both buyers and sellers. An ad network like Google Ads is probably the most popular business that benefits from these kinds of effects.
  • Communication networks: Communication networks such as telephone networks and email systems benefit from network effects as the value of the network increases as more people use it.
  • Content networks: Content networks such as news sites and video platforms benefit from network effects as more users mean more content and more engagement.
  • Software and technologies: Software and technologies such as operating systems, productivity tools, and programming languages benefit from network effects as more users mean more developers and more third-party applications.
  • Gaming and entertainment: Gaming and entertainment platforms like mobile games and streaming services benefit from network effects as more users mean more content, more engagement and more competition.
  • Some specific companies that rely on network effects include Slack, ZoomInfo, Substack, IFTTT, Uber, Amazon Marketplace, Zoom, and TikTok.
Network Effects Don't Matter to All Businesses

Some things simply rely on a great product or providing a great service. Don't get too caught up in this business growth technique if your business is involved in the following industries:
  • Local businesses: Local businesses such as retail stores, restaurants, and service providers typically don't rely on network effects to achieve success. They instead rely on factors like location, quality of service, and reputation to attract customers.
  • Manufacturing and logistics: Manufacturing and logistics businesses, such as manufacturers of goods, distributors and logistics providers, don't rely on network effects to achieve success. They instead rely on factors like cost, quality, and efficiency to attract customers.
  • Consulting and professional services: Consulting and professional services, such as accounting, legal, and IT consulting, don't rely on network effects to achieve success. They instead rely on factors like expertise, reputation, and personal relationships to attract customers.
  • Healthcare services: Healthcare services such as hospitals, clinics, and medical practices don't rely on network effects to achieve success. They instead rely on factors like quality of care, reputation, and insurance coverage to attract patients.
  • Basic goods and commodities: Businesses that sell basic goods and commodities, like groceries and household essentials, don't rely on network effects to achieve success. They instead rely on factors like location, price, and product quality to attract customers.
It's important to note that these are just a few examples, and some businesses within these industries may have network effects, but it's not a defining factor for their success. Also, there might be other businesses within these industries that have network effects but they may be smaller and less known.

Real Estate and Network Effects

Real estate is an industry that does not typically rely on network effects to achieve success. Real estate businesses such as property developers, property management, brokers and agents, don't rely on network effects to achieve success. Instead, they rely on factors such as location, property quality, and pricing to attract buyers and renters.

However, online real estate platforms and marketplaces, such as Zillow, Redfin, and, do benefit from network effects. The more listings they have and the more users they attract, the more valuable the platform becomes for buyers and sellers, which attracts more participants to the platform.

In addition, online real estate platforms and marketplaces that have a high number of listings are more likely to attract more visitors and potential buyers as they can find a broader range of properties to choose from. This can make it more likely that buyers will find their dream home or property, which can make the platform more valuable for buyers. In turn, this can attract more sellers to the platform, which can lead to more listings and more buyers.

It's worth noting that, even though online real estate platforms and marketplaces benefit from network effects, traditional real estate businesses such as property developers, brokers and agents, still play a crucial role in the industry. They provide more personal and tailored services, and also have access to exclusive listings, which is something that online platforms may not have.