May 3, 2021 • 11min

Breakthrough Lessons: DESIGN for network effects

Pattern Breakers

This episode focuses on the critical importance of network effects for startups and how to intentionally design networks to achieve greatness. The host emphasizes that network effects have become the most important way to build a competitive moat in today's business world. He introduces the concept that great networks don't just happen by accident - they are carefully designed.

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Key Takeaways

Network effects are extremely powerful for creating both customer value and competitive barriers
Great networks are intentionally designed, not accidental
There are three key elements to consider when designing networks:
- How to get the network started and spreading
- What type of network to build (classic, marketplace, platform)
- Specific network properties like nodes, clusters, directionality
Viral growth is not the same as network effects - they are related but distinct concepts
Founders should try to design network effects into their products from the start, not as an afterthought
Being precise in thinking and communication about network design is crucial for success

Introduction

This episode focuses on the critical importance of network effects for startups and how to intentionally design networks to achieve greatness. The host emphasizes that network effects have become the most important way to build a competitive moat in today's business world. He introduces the concept that great networks don't just happen by accident - they are carefully designed.

Topics Discussed

The Power of Network Effects (1:17)

The episode begins by explaining why network effects are so powerful:

They create profound benefits for customers as more users join the network
They form a formidable barrier against competitors
They allow companies to potentially increase prices as they scale, which is rare in business
They often lead to "winner take all" dynamics in markets

The host uses the example of trying to compete with Facebook to illustrate how difficult it is to overcome established network effects. He notes that "free wouldn't be good enough as a value proposition, I would literally have to pay people by the billions all at the same time to leave."

Designing Networks Intentionally (2:34)

The episode then transitions to the core idea that great networks don't just happen - they are designed intentionally. The host outlines three key elements to consider when designing a network:

How to get the network started and spreading
What type of network to build
Specific network properties

Getting Networks Started and Spreading (2:56)

For the first element, the host details several key factors to get right:

Primary value proposition - Can value be created in single-player mode initially?
Growth tactics - How to spread organically without huge marketing spend
Engagement trigger - The threshold for a customer becoming fully engaged
Accelerators - What will make the network effects flywheel accelerate

The episode uses Facebook as an example to illustrate these concepts:

Single-player value: Online student directory
Growth tactic: Exclusivity and word-of-mouth
Engagement trigger: Connecting to 10 new users in first 14 days
Accelerator: Features like relationship status that increased engagement

Airbnb is also used as an example:

Single-player value: Cheaper lodging when hotels sold out
Growth tactic: Target cities with constrained hotel supply
Engagement trigger: Photography services to make listings appealing
Accelerator: Increasing guest room nights booked

Types of Networks (5:54)

The second key element is choosing what type of network to build. The host outlines three main types:

Classic networks - Like social networks or telephone networks
Marketplaces - Connecting buyers and sellers
Platforms - Like operating systems or messaging apps

For each type, there are specific considerations:

Classic networks:

Entry point to build network effects
Growth tactics to reach critical mass
Inflection point where network effects kick in
Driving engagement
Leveraging network topology

Marketplaces:

Building liquidity
Solving chicken-and-egg problem of supply and demand
Determining money side vs subsidy side

Platforms:

Will market be served by single or multiple platforms?
Shared vs proprietary platform control

Network Properties (7:31)

The third element involves getting even more precise about network design by considering specific properties:

Node homogeneity - Should all nodes play the same role or have different roles?
Clustering - What type of clustering works best? (hub and spoke, small connected groups, etc.)
Directionality - Unidirectional like Twitter or bidirectional like Facebook?
Complements - Are there complementary products that can increase network value?

The host uses the example of Microsoft Windows and Office as complementary products that create a virtuous cycle and strengthen network effects.

Common Mistakes to Avoid (8:43)

The episode highlights a crucial mistake to avoid: confusing viral growth with network effects. The host emphasizes:

Network effects are about creating value as more users join
Virality is about speed of adoption and distribution
They can happen together, but are not the same thing

Examples are given to illustrate this point:

Facebook had both network effects and virality
Airbnb had network effects but lacked virality initially

The host stresses that both approaches can work, but networks need to be designed differently based on their characteristics.

Implications for Founders (9:37)

In the final section, the episode outlines key takeaways for startup founders:

Network effects are the "most powerful economic force of our time"
Always try to design valid network effects into products from the start
Be precise in thinking and communication about network design decisions
Getting the thought process right is fundamental to finding a path to greatness

Conclusion

The episode concludes by emphasizing the importance of understanding and intentionally designing network effects for startup success. The host encourages listeners to dive deeper into the topic, offering additional resources in the show's newsletter. He also previews an upcoming interview with Reid Hoffman, dubbed the "network philosopher king," who shares insights on building LinkedIn as a network from the ground up.

The key message is that network effects are incredibly powerful, but they don't happen by accident. Founders who take the time to thoroughly understand network dynamics and intentionally design their products and services to leverage network effects will have a significant advantage in building successful, defensible businesses.