The Local Sharing Economy Is Here (But Scale Will Prove Difficult)

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share button keyThe sharing economy is now coming to maturity. Every iteration of things that can be shared, from baby clothes to power boats, has been picked through by college students who have been steeped in the gospel of Zuck (see this directory of sharing economy startups). The startup launch flowchart, institutionalized by the Y-Combinators and other mentors to youthful founders, all seem to copy the same launch strategy: if you’re going to do a sharing economy app, start local. Activate your existing networks, usually developed in college towns, and show traction. Validate proof of concept, get Series A funding, and then expand to the next set of cities.

The problem, however, is that almost every startup gets stuck at city one. The reason? If the sharing requires some sort of physical exchange of goods or services, then it requires the commitment of two people who live close to each other to complete transaction. And they need to find each other even though the just-launched app won’t reach the critical mass necessary to match up transaction partners for a long time.

Here’s why:

  1. User base constraints. Local means there is always a ceiling on the number of potential users based on a small geographical area where physical sharing can happen. Reaching local users requires either piggybacking off other existing local networks or allocating a local ad budget.
  2. Consumer hesitancy. Most people will hesitate to share due to the uncertainty of how the service will fulfill their expectations, and the additional vetting work required to set up the share. To the consumer, a more viable and certain alternative is simply the old way: buy or rent from a brand-name retailer or service provider.
  3. Vendor hesitancy. There are intangible costs and responsibilities to being a vendor that outweigh any financial or social compensation. For example, I live next to Golden Gate Park and have two bicycles that I use infrequently, about an hour per week. I briefly considered renting out the bikes to people who would enjoy a ride in the park. One block away is a bike rental shop that rents out bikes at $15 per day. I quickly calculated that at a slightly discounted rate of $12 per day, the inconvenience of being at home when the bike is taken out and returned, and the risk of damage let alone potential liability stopped me in my tracks.
  4. Sharing occurs infrequently at the local level to sustain transactions. One person’s demand must coincide with the other person’s supply, and the match has to be conveniently executed. If the model is playing in too small a niche, say jewelry sharing, then it’s difficult to build relevant transaction levels to satisfy additional investment. If the sharing model is too large a niche, then it’s likely too late in the game to compete without a bankroll.
  5. The revenue model appears broken from a local perspective. Calculate the revenues. Aggregating thousands of tiny commissions nationwide is a business model, Airbnb made $12-15 million in 2012 with its ~10% transaction surcharge and is well on its way to a potential $10bn valuation, but aggregating a hundred commissions in a single locale won’t even pay the office rent. Even if a startup demonstrates local success, there are many examples of companies that require feet-on-the-ground support becoming unsustainable; Patch and Groupon have demonstrated some of the major difficulties with scaling local. Any Series A investor would need a good explanation why a formula that works in San Francisco can be applied to Tulsa.
  6. Competition from online directories. The sharing economy model must compete with established online directory models like Angie’s List or Yelp. Asking TaskRabbit for some layman to do some electrical work seems more risky that hiring a well-reviewed professional electrician on Yelp. On the bright side, if a sharing model does gain local traction, the vendors on Yelp will jump on. I noticed when I made requests for work in 2012 on the earlier version of Zaarly (which had a consumer demand model in which consumer requests prompted vendor solicitation), most vendors who replied already had a developed Yelp presence. Zaarly’s pivot to becoming just another non-differentiated directory points to the challenges of point #2 above: consumers hesitate to make requests for bid.
  7. Eventual competition from brands. Not only will the model compete directly with online directories, but eventually big brands will jump in. Enterprise Rentacar already has its own car share unit. Brands can combine the convenience of sharing, i.e. renting a car nearby with a card swipe to unlock it, with the brand reliability  —  quality assurances, customer support, liability protection  — that put consumers at ease. The obvious upside to building a sharing startup resides right here: brands will acquire and roll up these startups, right down to individual cities. Roll ups happened during the consolidation of the Groupon-led daily deals industry, and it will happen with the sharing economy because there are so many niche plays. It’s conceivable for a jewelry company to acquire jewelry sharing services, and create a branded market for rental jewelry. And brands will jump in soon, a first indicator is Altimeter Group’s Jeremiah Owyang launching a startup to help brands make that leap.

Patrick Kitano is a founding principal of Brand into Media, a strategy group for social brand management solutions, and administrator of the Breaking News Network, a national hyperlocal network devoted to community service. He is reachable via Twitter (@pkitano) and email ([email protected]).