The marketplace business model can be a sales machine. Last year alone, digital marketplaces reached $3.25 trillion in gross merchandise value. But even as sales skyrocket, marketplaces can still run at a loss. Why is this? Often, it comes down to margins. A brand that sells its own product can make margins upwards of 70%, but marketplace margins typically fall within the 5-20% range.
The question is, how can marketplaces ensure they make money when margins are thinner than traditional ecommerce?
If you’re considering launching a marketplace, it’s important to understand that marketplaces use a completely different business model than first-party commerce websites. This article will help you understand:
Marketplaces can rake in significant profits. A 2023 Forrester study found that businesses that launched a marketplace experienced an average growth of 44% in customers, 42% in overall revenue, 38% in revenue per account/user, and 36% in average order value (AOV). These numbers are possible because, often, marketplaces don’t rely on large margins to form their profit. Instead, they rely on their ability to scale.
As the middleman between buyers and sellers, marketplaces don’t own the inventory they sell. While this means they don’t turn a full profit from the goods sold on their site, it allows marketplaces to run inventory-light and scale endlessly, which is one of the main perks of launching a marketplace (hello, endless aisle!) While many marketplaces rely on volume to generate revenue, there are actually several revenue models for marketplaces to choose from — from charging a commission to a listing fee and more.
There are many marketplace business models, each with its own niche, pros, cons, and considerations. Most of the top 100 marketplaces use the following revenue models, so you can rest assured they’re proven to work.
How it works: Under this business model, online marketplaces charge a take rate or transaction fee. If the marketplace charges a take rate, it takes a percentage of the sale, usually from the seller. If the marketplace uses a transaction fee, it charges a fixed fee on each transaction, sometimes based on the value of the goods sold.
Best for: Product and rental marketplaces
Examples: Boatsetter, Zola, Seat Geek
Pros: It’s low risk. Commission is attractive to sellers because they only pay based on what they sell.
Cons: The quest to improve margins can lead to inflated price tags that are unattractive to buyers.
Considerations: Commission presents sellers with low barriers to entry, and because of this, many start-up marketplaces start by using commission. By reducing friction for sellers to participate, they acquire a greater breadth of products that appeal to more customers — and gain access to network effects much faster.
How it works: Sellers, buyers, or both get access to the marketplace platform by paying a subscription fee.
Best for: Digital product marketplaces
Pros: Stable and predictable income with a recurring customer base. Sellers get access to a new customer base, while buyers get access to a unique value like lower prices, higher quality items, or convenience.
Cons: Especially in the early days, upfront charges can create a barrier to entry. It’s more difficult to create value that users are willing to pay for on a recurring basis.
Considerations: Incentives, like discounts or fast shipping, can help drive value in the eyes of paying users.
How it works: Commission is collected on each transaction, and sellers, buyers, or both also pay a subscription fee.
Best for: Services and digital product marketplaces
Pros: Predictable base income, plus additional revenue based on sales.
Cons: Your value proposition must be rock solid, as cost creep can quickly repel users.
Considerations: This approach can be laid out in a few ways. Buyers could be responsible for the subscription fee, whereas sellers could be responsible for the transaction fee. Or sellers could pay both the subscription and transaction fees.
How it works: It’s free to use the marketplace, but buyers and/or sellers must purchase upgrades to unlock additional functionality.
Best for: Digital products and peer-to-peer marketplaces
Pros: Fosters fast lead generation and builds a customer base.
Cons: Converting free users into paying users takes time. The paid functionality must prove a solid return on investment or upgrade in order to entice free users to pay.
Considerations: Premium features must be built as a value add to the free version. Paid functionality can include sponsored listings, delivery, downloads, ad-free use, or access to analytics.
How it works: Potential clients make requests or place projects on the marketplace. Service providers then pay a fee to bid on the request.
Best for: Services marketplaces
Pros: Lead fee marketplaces are attractive to service providers because they give access to a pool of highly qualified prospects that are ready to buy.
Cons: Once a service provider and client are connected, they move their relationship off the platform.
Considerations: The success of lead fee marketplaces depends on its ability to incentivize both parties to 1. return to the marketplace or 2. maintain a revolving door of new providers and clients.
How it works: Sellers pay a fee to list their product or service on the marketplace, regardless of whether a sale is made.
Best for: Peer-to-peer marketplaces
Pros: The marketplace gets paid regardless of whether the item or service sells.
Cons: It may be harder to secure sellers when there’s no guarantee their product will sell. The financial risk to the seller can be off-putting.
Considerations: While subscription fees are recurring, list fees are only charged once per product or service posted. For the listing fee model to be attractive, fees are typically low, which means the marketplace relies on volume to make revenue.
Some marketplaces choose a combination of revenue models depending on their user base, offering, or delivery method. A hybrid approach is likely too complex for a start-up marketplace. But you can employ new monetization methods as you learn about customers and iterate your marketplace.
Marketplace business models aren’t one size fits all. Consider what type of marketplace you’re running, your marginal costs, and who you’ll charge for using your marketplace.
There are several different kinds of marketplaces, each with its specific niche users, customer preferences, and requirements.
Marketplace pricing must be a win-win-win for all parties involved. For every item, the price must provide sellers with a profit, give marketplace operators a reasonable commission, and be competitive to keep buyers from going elsewhere. That’s a lot of mouths drinking from a small glass.
Optimizing pricing to satisfy all parties begins and ends with understanding your sellers’ margins. If your sellers’ products have very thin margins, you can’t expect to take a large cut of their already meager profit. That said, if you know sellers have wider margins or sell digital products that are endlessly reproducible, you can get away with a higher take rate.
Determining who pays to use the marketplace comes down to simple economics: Is demand your source of friction? Or supply? The goal is to remove friction from the area where you are constrained.
If your marketplace expects challenges enticing sellers, but buyer demand is solid, you’re supply constrained. You’ll want to put the onus on buyers. The reverse is also true.
If your marketplace has no trouble attracting sellers, but encounters friction when attracting buyers, you’re demand constrained. Charging sellers commission makes more sense.
If your marketplace bounds in supply and demand, then you can take a cut off both. Think of Amazon Prime. Buyers pay a yearly subscription for convenience, and sellers pay a sales commission determined by product category. It’s achieved the ultimate win-win-win.
Now that we’ve laid out primary revenue models, we can look at monetization options for marketplaces that have matured past the launch phase. Think of this as productizing your marketplace: you can sell parts of your marketplace that exist but aren’t part of your primary revenue. For example, you could:
Sell the data you collect: Your marketplace has access to troves of customer data and purchasing patterns. Monetize it by packaging data into insightful analytics and selling it back to sellers.
Sell product placement opportunities: Your marketplace has digital shelves to showcase products and a search function that lists them. Monetize product placement by offering paid opportunities for sellers to appear at the top of searches and as recommended products.
Sell advertisements: Your marketplace is already home to a seller’s target market and a deep well of sales-qualified leads. Monetize those leads by selling targeted ads to sellers. This has the added benefit of connecting buyers with desirable products — faster.
Margins aren’t everything when it comes to marketplaces. From lead fees to subscriptions to productizing your infrastructure, there are many ways to make your marketplace profitable. By combining the right business model, strategic pricing, and monetization levers, marketplaces can set themselves up for high profitability despite low margins.