The Personal Network Effect Makes Walled Gardens Stronger, But There’s Still Hope 

David Raab | Jul 5, 2017 83 views No Comments

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I’m still chewing over the role of “walled garden” vendors including Google, Amazon, and Facebook, and in particular how most observers – especially in the general media – fail to grasp how those firms differ from traditional monopolists. As it happens, I’m also preparing a speech for later this month that will touch on the topic, which means I’ve spent many hours working on slides to communicate the relevant concepts. Since just a handful of people will see the slides in person, I figured I’d share them here as well.

In pondering the relation of the walled garden vendors to the rest of us, I’ve come to realize there are two primary dynamics at work. The first is the “personal network effect” that I’ve described previously. The fundamental notion is that companies get exponentially increasing value as they capture more types of information about a consumer. For example, it’s useful to know what’s on someone’s calendar and it’s useful to have a mapping app that captures their locations. But if the same company controls both those apps, it can connect them to provide a new service such as automatically mapping out the day’s travel route.  Maybe you even add helpful suggestions for where to stop for fuel or lunch.

 In network terms, you can think of each application as a node with a value of its own and each connection between nodes having a separate additional value. Since the number of connections increases faster than the number of nodes, there’s a sharp rise in value each time a new node is added. The more nodes you own already, the greater the increase: so companies that own several nodes can afford to pay more for a new node than companies that own just one node. This makes it tough for new companies to break into a customer’s life. It also makes it tough for customers to break away from their dominant network provider.

My best visualization of this is to show the applications surrounding an individual and to draw lines showing how many more connections appear when you add nodes.  If it looks like the customer is trapped by those lines, well, yes.

The point that’s missing from the discussions I’ve seen about walled gardens is that personal networks create a monopoly on the individual level. Different companies can coexist as the dominant networks for different people.  So let’s assume that Google, Facebook, Amazon, and Apple each manage to capture one quarter of the population in their own network. If each member spends 100% of her money through her network owner, the over-all market share of each firm would be just 25%. From a classical viewpoint, that’s a highly competitive market. But each consumer is actually at the mercy of a monopolist.   

In theory the consumer could switch to a new network. But switching costs are very high, since you have to train the new network to know as much about you as the old network. And switching to a new network just means you’re changing monopolists.  Remember that the personal network effect makes it really inconvenient to have more than one primary network provider.

The second dynamic is the competition among network providers to attract new customers. As with any network, personal networks hold a big first mover advantage: whichever provider first sells several apps to the same consumer has a good, and ever-growing, chance of becoming that consumer’s primary network.

Once the importance of this becomes clear, you can recognize the game of high-stakes leapfrog that network vendors have been playing for the past two decades. It starts with Amazon in 1994, intercepting buyers before they can reach a physical retailer. A few years later, Google starts catching buyers in the browser, making searches before they’re ready to buy through Amazon. Then Facebook shows up, first with a social network where people discuss their purchases before they make a Web search, and later with a mobile app that bypasses the Web browser altogether. A decade after that, Amazon strikes back with voice search on Alexa, which can happen even before someone types in a social post.

Remember, this isn’t just about selling advertising to reach consumers during the purchase process. Different vendors can share a piece of that pie. What they can’t share is control over each consumer’s personal network. Since that, in turn, gives control over actual purchases, it’s a much bigger prize and, therefore, worth a great deal more effort to win. Now you see why Amazon has put so much effort into hardware over the years.  It’s not just that Jeff Bezos likes cool gadgets.

At this point, you might pause to wonder what happens next.  Is there something that can intercept consumers before they say what they’re thinking?  AI- and/or implant-enabled mind reading are certainly possibilities.  But the next frontier right now is subscriptions, which let purchases happen without any specific action for a voice system to intercept.

This is exactly why subscriptions are getting so much attention right now.  (I do need to admit that Dollar Shave Club, Blue Apron, and Birchbox messed up my chronology by launching around 2011, several years before Alexa).

Of course, there’s nothing to prevent the network vendors from launching subscription services. In fact, the price of Blue Apron’s IPO was depressed precisely by the fear that Amazon would enter its business through the Whole Foods acquisition.

But what’s really interesting about subscriptions is they’re less subject to the personal network effect than other types of purchases. A subscription company comes to understand its customers’ needs in one particular area very deeply.  Potentially, it can fulfill those needs better than a company working from less detailed data gathered in other domains.

Certainly a great deal depends on execution.  But if I’ve trained my wine-by-mail company to understand my precise tastes, I’ll probably buy through them when I’m stocking up for my next party, even though Amazon knows I’m planning to have people over and has some general idea that my friends like to drink.

In short, the walled gardens are not impregnable.  Subscriptions might offer a way to help customers escape. But marketers are going to have to work harder than ever to create relationships strong enough to pull their customers away from the networks. All I can do here is to clarify the issues so marketers can better understand the tasks ahead.

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Republished with author's permission from original post.

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