Start Me Up

Network effects - how to start them and how to scale them

It is summer holiday season in the Northern Hemisphere, which for some means an opportunity to find time to read – on a beach, a boat, a plane, sun lounger, balcony, wherever.

For diehard payments professionals, what might be a good read this summer?

In this article, I recommend one of my favourite books relevant to my work, essential for anyone in payments tasked with bringing a new payments product to market or building a new payments network – The Cold Start Problem, How to Start and Scale Network Effects by Andrew Chen.

The Author

Andrew Chen is a start-up investor who was previously the head of rider growth at Uber in its formative years. His motivation to write the book was to understand network effects and their dynamics in detail - how to start them and how to scale them, in order for network businesses to harness them to their advantage.

He observes that while many know about network effects and their importance, most understand them only superficially.

To write the book he has drawn on his direct experience as an operator and investor and on three years of research including interviewing hundreds of entrepreneurs and businesses. He named the book “The Cold Start Problem” as a metaphor for the challenge in getting users on to a new network or a new product and to start using them.

Payment Network Effects

Although very little of the book is to do with payments, this challenge is at the heart of launching and scaling a new payments network or product.

Payment businesses are network businesses, with payers and payees, typically buyers and suppliers. The more buyers using a payments network or product, the more suppliers will join or accept it, bringing in more buyers and so on – easy!

However, have you tried building a new payments network or launching an innovative new payments product?

It is difficult - very, very difficult, especially in a highly regulated environment with massive card networks and bank networks with their own fortress-like network effects, dominated by a banking sector with little incentive to change.

The Book’s Key Insights

The book is structured into six sections and 34 chapters. It is an easy and compelling read with insights on almost every page.

Three key insights from the book with payment examples I have added, are:

1. Atomic Networks – networks are often a network of smaller networks e.g. city networks, country networks. Start by building a small, atomic network, then build many more atomic networks from there. For example, Square started with art fairs in San Francisco, then other cities, expanding to food trucks, taxis and small businesses across the USA.

2. The Hard Side – every network has a hard side and an easy side. The hard side is the minority of users that create most of the value on a network and have most of the power to drive network growth. However, they are harder to get on to the network and are where marketing and sales efforts should be targeted. For example, in open banking, everyone with a bank account has access and are the easy side – more difficult is signing up merchants and billers and this is where PISP aggregators focus their efforts. The real sweet spot is to find a hard side with unmet needs – in Square’s case, rather than big businesses, this was the long tail of the economy, small sellers who were excluded from card payment systems.

3. Users – network effects are about more and more users joining the network. For this to happen, user retention is essential. Filling a bath is much easier with the plug in and so it is with growing networks. Active strategies are required to engage and retain users, typically more important than attracting new users. WeChat Pay’s growth in China took off when it offered digital hongbao red envelopes to gamify payments, which attracted new users in droves and kept them using the wallet. In contrast, in the past I have downloaded well-marketed wallets such as Barclays Pingit and Shell’s payment app only to have subsequent difficulty using them such as logging in. I expect many early adopters experiencing similar problems abandoned them.

There are many, many more insights in the book. From developers to board directors, whether you are building or scaling open banking products, real-time payment services, stablecoin businesses, digital wallets or are immersed in any other payments innovation, this book is for you.

Enjoy the summer (for those in the North) and enjoy the book!