Strategy in the Post-fixed Costs Economy

Strategy in the Post fixed costs economy

Strategy in the Post-fixed Costs Economy

Evaluating strategic options in a world where businesses have never been easier to start, but never been harder to scale

by Ben Robinson, October 2020 | 15 minute read

We’ve talked often about the diminishing importance of supply-side economies of scale. In its simplest expression, digitization flips the industrial age equation. What was scarce in the industrial age was supply; what is scarce in the digital age is demand (attention).

In the industrial age, to scale supply meant mass production to spread the fixed cost of large capital investments over large volumes. And the industrial age was an age of mass produced, relatively standardized goods. This applied to goods and services provided by the private sector, but also to state-provided services, such as education and public services.

Since the advent of the internet, this is changing. We first noticed the shift in industries where both supply and distribution could be digitized (e.g. media) because supply became abundant faster and this highlighted our limited attention sooner.  But it’s becoming increasingly apparent that all industries are being disrupted as software has eaten the world. More and more physical goods have software components to them, making supply more digitized. Where supply cannot be digitized, distribution nearly always can. And where supply-side economies of scale remain important, they can be borrowed.

Renting scale and the end of fixed costs

AWS was not originally intended to be a platform on which third-parties would run their businesses. But, thanks to Amazon’s business model, it was possible to open up that infrastructure service to others. In doing so, Amazon created a massive and highly profitable business which contributes 65% of group operating profits.

But, as big as the impact has been on Amazon, the broader societal impact has been truly dramatic.

Before AWS, companies had to make large upfront investments in computing hardware – a significant barrier to entry. Even buying hardware was a major source of risk: buying too much could bankrupt a company while buying too little could cause a major bottleneck to growth. And so, AWS removed both risk and cost for new businesses. As a direct consequence, it also contributed to the creation and success of hundreds of thousands of new businesses.

This boost to global GDP over and above the value captured by Amazon itself is difficult to calculate, but it’s certainly very significant. It’s probably not an overstatement to suggest, as Charlie Songhurst does, that AWS has been the single biggest factor in the rise of angel investing.

But AWS is not the only internet era platform. From Shopify to Stripe, examples abound of platforms that share their scale economies to remove the cost and complexity of doing ecommerce – allowing companies to form and start trading faster, with reduced risk and at lower volumes than would have ever been possible.

And not all internet-era platforms are providing digital services. As Rita McGrath, Columbia Business School Professor, discussed on a recent Structural Shifts podcast, by helping establish prices and create trust, digitization is making more and more non-digital assets tradeable on marketplaces. As she put it:

“What we’re seeing with the advent of the digital economy is that more and more transactions can be conducted in markets that used to require a firm.”P

Uber was a pioneer in this regard, but we now see this “uber of x” phenomenon everywhere – even in the enterprise market. At aperture, we are very much an embodiment of this, providing strategy and go-to-market as-a-service that enables companies to avoid the fixed costs and risk of underutilization and underperformance in these functions.

In effect, it’s becoming easier to rent all services, physical and digital. All become liquid and on-demand. Capex gives way to opex or, as Younes Rharbaoui says: we have entered the post-fixed costs economy.

“Signs of a post-fixed costs economy are all around us: companies switching to full remote, increased reliance on independent workers & freelancers, on-demand software where cost matches usage, are all creating lean financial structures for growth.”

And, of course, like many other secular trends, the impact of the pandemic has been to accelerate it. If COVID-19 drew a binary distinction between online and offline services, lifting the former and sinking the latter, then it was disproportionately brutal in its treatment of those offline businesses with high fixed costs – oil companies, airlines, hotel chains and so on. From now on, all fixed cost investments will be more heavily scrutinized and, where they exist, variable costs alternatives will be more actively considered. Even Warren Buffett, a regular character in aperture blogs, is starting to consider the wisdom of some high fixed-cost business models.

The fact is, if fixed costs were already becoming passé, they definitely will be in the post-pandemic world – ushering in a faster transition to a new, internet-era economic structure.

Platforms, aggregators and the long tail

For the best explanation of the difference between platforms and aggregators, we recommend this classic essay from Ben Thompson. In it, he uses the Bill Gates platform definition, namely that: “A platform is when the economic value of everybody that uses it exceeds the value of the company that creates it. Then it’s a platform.”

Bill Gates quote platform vs. aggregators

On this definition, the business we have already mentioned – AWS, Stripe, Shopify – are all platforms. They make the large investments in fixed costs – datacenters, fulfilment centers, payment networks, etc. – that mean their clients don’t have to. They make it cheaper and simpler to do business.

It’s this commoditization of supply and associated end of fixed costs that’s now starting to give rise to a long tail of providers. Thanks to lower and variable input costs, it’s possible to make money at lower volumes than in the past, which in turn means a higher number of providers can co-exist.

Take newspaper publishing, for example. The massive costs of producing and distributing physical newspapers gave rise to significant economies of scale and produced an oligarchical market structure. Compare that with today, when a platform like Substack allows independent writers easily and cheaply to publish, distribute, and monetize paid newsletters. These writers can make a living with only a small audience, allowing potentially tens of thousands of them to co-exist – and giving rise to a broader phenomenon, the “Passion Economy”, where more of us can pursue our craft or our talent and make a living from it.

However, the difference between the long tail as it’s conceived now and the original theory, is that supply is abundant, not demand. The constraint on all digital-era businesses is demand and the gatekeepers of demand – the most profitable actors in the digital ecosystem – are aggregators.

In a world of abundant supply, aggregators help match buyers and sellers. They are in a position to do so because they provide interactive content that rises above the noise to command our attention. When in possession of our attention, they can monetize it by charging advertisers to reach us. This has become the biggest cost for many online companies, accounting for 40% or 50% of the investments they make in growing their business.

As Clayton Christensen predicted in the Law of Conservation of Attractive Profits, as one part of the value chain commoditizes, the value is captured elsewhere. As platforms helped generate an economic surplus, aggregators increasingly captured that value – especially Google and Facebook.

While it has become cheaper to start a business, a sharp increase in customer acquisition costs more than offset these savings.

More precarious

But it’s not just high customer acquisition costs that prevent long tail companies from rising to a size where they exploit scale effects. There are other factors at play.

First, the falling costs of starting a business is a double-edge sword. If one online retailer can set up on Shopify, so can any other. Platform companies are lowering the barriers to entry for everyone, making it harder to defend a business than in the past.

Second, if a business model has network effects and a company can grow large enough to exploit them, this market leader becomes more powerful than an industrial-age leader. This is because, unlike supply-side economies of scale, demand-side economies of scale are subject to increasing returns to scale; the more they exist, the stronger they become. And so, where the industrial age gave way to oligopolies with clearly defined industry boundaries, the internet age gives way to winner-takes-most aggregators, large-scale platforms, and a long tail of suppliers operating across the economy in general.

Third, there’s also one important supply-side economy of scale which makes size important even in the absence of network effects – and reinforces them where they exist. This is the ad score. Basically, the bigger a company gets, the cheaper its relative cost of customer acquisition becomes because it pays a lower cost per lead thanks to a higher ad score (the algorithm that advertising platforms like Facebook and Google use to calculate the likelihood of a customer clicking on an ad).

Effectively, the post-fixed cost digital economy is one where is it simultaneously cheaper than ever to start a business, harder than ever to defend and scale it, and where the returns to scale have never been more important.

If it was hard to cross the chasm from startup to large, scaled business in the industrial era, in the digital age it is harder still.

So where to next?

Let’s look at strategic options for new entrants, from where to play to how to scale.

Where to play

Marc Gruber, a professor at EPFL and former podcast guest, wrote a book on “Where to Play”. At the risk of grossly oversimplifying the narrative, it argues that companies spend too little time thinking about which market opportunity to pursue – assuming a good product eventually finds a market – and instead provides a framework to select the right market before commencing activities.

Like Marc, we believe it makes sense to invest the time upfront to consider carefully where to play, even more so in the post-fixed cost economy. Marc’s book provides the methodologies for this choice, so we limit ourselves here to explaining the rationale.

In a digital world, where returns to scale are bigger, incumbents will be harder to displace. Therefore, it follows that any startup should focus either on creating a new market or, more likely, on market blind spots: the niches where consumers are underserved or overserved.

Underserved and overserved markets

In the digital age, underserved markets are likely bigger opportunities than in the past because geographical limitations are removed. A micro market in one country might be a big market when addressing all countries collectively.

B2B marketplaces are a classic example of this phenomenon.

While there are B2C marketplaces for seemingly everything, many entrepreneurs overlook B2B marketplaces because they seem less scalable. They think that it will be difficult to build a big business if your buyers and sellers are very specialized; that there won’t be a generalized pull effect. Buyers of fish are unlikely to be drawn to a specialist marketplace for, say, cement and building materials. But when you are dealing with a global B2B vertical, a two-sided network is more than sufficient to build a massive business: the wholesale fish market, for example, is worth USD150bn!

Another reason B2B marketplaces are sometimes overlooked is because it can be a long game. Many of the businesses we work with are patiently helping incumbents digitize their offering as a precursor to enabling one-to-many transactions. But their ultimate goal is to become a platform for enabling a many-to-many marketplace.

Trade Ledger Business Finance Lending Platform

There are also plenty of opportunities to target overserved customers. As Gary Pisano discussed on another episode of Structural Shifts, companies often push so far with innovation with an existing product or within an existing business model that they overshoot customer demands and leave themselves open to disruption from new entrants providing more user-friendly products or offering more convenience. He gives the example of subscription-based razor blade services like Dollar Shave Club disrupting the overengineered and expensive Gillette razors (“I can only shave so close before it’s scary!”). But this concept of overshooting is especially prevalent in B2B software where, in order to meet the enterprise buyer’s demands, traditional companies have overshot the demands of the end user creating the opportunity for disruptive innovation. This idea is brilliantly expressed in the following excerpt from an a16z article:

“Since effective top-down sales require a highly choreographed (and costly!) dance between pre-sales and the customer, product teams are incented to add more nobs to the product so these teams can sell more value and extract more dollars. Vendors get crossed off the list in vendor discovery if their product doesn’t check all the right boxes for the enterprise buyer, even if many of the boxes don’t actually deliver any value. This often creates a vicious cycle where more complex products give rise to longer sales cycles for more dollars, which then incentivizes even more complex products. For any user of legacy enterprise software, it doesn’t take long to realize that designing a seamless user experience is by no means a top priority for the vendor.”

Direct to consumer

Targeting underserved and overserved customers is what Clayton Christensen refers to as “disruptive innovation” and, as he tells us in the Innovator’s Dilemma, disruptive innovation is about simpler and cheaper products, but it’s also about marketing:

“disruptive technology should be framed as a marketing challenge, not a technological one”

This is even truer today than when Christensen wrote it because digitization opens up new routes to customer. As a result, product, monetization and customer acquisition have to align seamlessly around these new distribution opportunities.

The big trend is direct-to-consumer.

In the retail space, this mostly refers to the phenomenon of avoiding any intermediation – retailers or wholesalers or even any physical retail footprint – to sell directly to the consumer.

In the enterprise space, direct-to-consumer is different. Historically, it was not worth going directly to end users because they didn’t have much influence – or budget. Therefore, it was necessary to go through procurement teams and the choreographed dance of RFI, RFPs and workshops mentioned above.

But what is changing now is that technology products are not just sold directly, but are consumed directly. This makes software-as-a-service a much more disruptive phenomenon than people think: it’s more than a cheaper deployment method, it is a way to circumvent the central buying function and reach the end user.

In this context, it’s clear SaaS companies should have products marketed to end users, simple enough for them to consume without heavy configuration, and priced so they won’t appear on the central procurement team’s radar (e.g. freemium models to test and deliver value ahead of the paywall).

Slack is the example many cite. It markets directly to end users, who can try it for free. Once it has taken hold in an enterprise, it spreads virally thanks to strong network effects (even across enterprises). All the while Slack reaps the benefits by having a pricing structure that reflects usage.

Some argue that it’s harder to make this bottoms-up, direct-to-consumer approach work in areas like fintech, where regulation is important and IT security teams have more muscle. But we see it happening everywhere.

One fintech example that we came across recently, in the context of our upcoming wealth management report, is Hydrogen.

Hydrogen offers a classic bottoms-up approach: a user can provision for themselves a free sandbox environment from the Hydrogen website, pre-integrated with the services they’ll need (like Plaid). The customer only begins paying once they cross certain thresholds, such as API calls. In addition, that also take a jobs-to-be-done approach to solving end user problems by offering discrete services as no-code plug-ins to existing applications, meaning an end user can add a service like tax optimization in minutes.

Blake Bartlett OpenView partners quote

Avoiding the aggregator tax

Going direct to underserved or overserved consumers is the new playbook for disruptive innovation, but it doesn’t mean companies can avoid the aggregator tax. In fact, costs just get reallocated: in retail, CAC is the new rent, while in enterprise, CAC is becoming the new senior sales rep.

Nonetheless, while unavoidable, businesses can minimize the aggregator tax.

One way is to invest in brand.

A lot of startups seem to believe investing in brand is a luxury. We don’t agree. Marketing is like a pump: first, you have to fill it, if you want to draw it down. Sure, you can generate some leads from well-targeted paid campaigns, but it’s not a sustainable endeavor and you’ll end up paying more to aggregators over time. Instead, you want to run paid campaigns into a customer demographic that’s heard of your company and thinks positively about it, which will improve your ad score and lower your ad cost.

You should also invest in data. Going direct to consumers means you know more about your customers than your industrial age predecessors ever did. It’s critical to capture this information in order to:

– build proprietary routes to customers

– learn more about your users to better target and to aid self-discovery through recommendations

– learn how consumers use the solution so you can constantly improve the utility of the product, everything from ease of purchase to completeness of solving user’s problems.

You must leverage the power of networked buyers.  At the most basic level, your product should be differentiated enough that customers will want to advertise it on your behalf. That customer advocacy might come in the form of a positive review or post, but as former podcast guest Julian Lehr highlights, it may also come in the form of signaling.

In addition to advertising, the networked customer can be an acquisition channel.

Wherever possible, you should try to build into your solution the viral features that make the product better when it’s used together with others (e.g. messaging), that lead to customers acquiring other customers. And, even when it’s not possible to build these viral features into the product, it’s possible to build them around the product. A Nike running shoe has no inherently viral features, but the community it has built around its products, the millions who share fitness information, definitely does. And it’s not just consumer brands that can create communities. Consider Salesforce, for instance, which has a community of over 2 million organizing events and sharing content. This attracts others, but also binds together the users in a way which makes it hard to leave the community (by choosing a different product).

Don’t just rent commodities, rent luxuries

If you’ve read this far, it probably won’t come as a surprise that we advocate for renting commodities. Don’t buy your own servers, for example, or write your own accounting software. This will keep operating costs low and variable.

However, we also advocate for renting specialist skills. It allows more cost flexibility and avoids underutilization, but it also reflects a structural shift.

The best people increasingly don’t want to work for a single company. They like the variety and the speed of learning that comes from working across multiple companies and projects. And, platforms are emerging that go further than just matching companies with freelancers – platforms that put together, manage and take responsibility for (the output of) interdisciplinary teams. Effectively, they give businesses greater flexibility and quality at scale and specialists the security and freedom to keep learning.

Achieving internet escape velocity

Brett Bivens, a venture capitalist at TechNexus, came on the Structural Shifts podcast earlier this year to talk about his theory of “Internet Escape Velocity”.

Essentially, internet escape velocity is what happens when a company successfully executes the strategy playbook described above. That is:

– it identifies an underserved or overserved niche

– it leverages internet distribution to reach those customers directly

– it unleashes a growth loop by combining the reinforcing properties of product, distribution and monetization, and

– it uses data and marketing to avoid the aggregator tax

At that point, it hits internet escape velocity, becoming capable of crossing the chasm of precarious long tail supplier to become an aggregator itself, using the pull of its loyal customer base to pull in more suppliers or to launch new own-label services. Brett uses the example of Spotify, which he describes as follows:

“over time, as they expand and gain leverage, podcasts are a higher margin business, social products are a higher margin business, marketplace products are a higher margin business for them. And so, by owning the consumer demand via the lower margin streaming business, they have the opportunity to expand into those areas.”

When a company hits internet escape velocity, it also has the option to invest in fixed assets. As we showed in a paper we wrote with Dave Galbraith in 2016, internet-era companies tend to become asset heavier over time as they seek to entrench their position and deliver better customer fulfillment. But the critical point is that they invest after they achieve a sustainable route to customers. Assets grow like the roots of a tree, downwards from distribution rather than upwards from production.

If, however, a company that hits internet escape velocity doesn’t want to invest in fixed assets, the good news is that it’s never been easier to rent supply in the post fixed-cost economy.

Is Spotify the new MoviePass?

Is Spotify the New MoviePass
Are US subscription-based business models an innovation, or a compromise?

Is Spotify the new MoviePass?

by Ben Robinson | Jun 7, 2019 | 9 minutes read

Have you ever wondered why the social features on Spotify aren’t better? It’s not difficult to imagine a more engaging experience if, say, it was easy to co-create playlists or you got updates on what friends and artists were listening to. One explanation could be that it is hard to build siloed social interaction — outside of horizontal apps like Facebook or WhatsApp. But my hunch is that, while Spotify wants to maximize users, it doesn’t want to maximize usage. Why? Because unlike most aggregation platforms, its marginal cost grows with usage, meaning that — like MoviePass — its best customers are actually its worst customers. That’s why it’s struggling to generate profits, why it’s struggling to protect itself from rival streaming services and why it needs to become the pre-eminent platform for podcasts.

The move to subscriptions

Source: Zuora

Is a subscription model right for Spotify?

Spotify vs Netflix

Netflix vs. Spotify
Netflix business model vs. Spotify's Business Model

Spotify as Netflix

Spotify vs Amazon and Uber

Uber creating consumer surplus

Spotify vs Tencent Music

A new way?

Is Blockchain the internet of finance?

Whether the solution comes through crypto or an infrastructure upgrade, not being able to execute on micropayments-based business models is bad for business and bad for consumers. Furthermore, it is likely to give a growing advantage to Chinese vs American internet giants as they battle to colonize the rest of the world.

An Unpretentious Case for Blowing Some Tailwind into Airbnb

An Unpretentious Case of Blowing some Tailwind into Airbnb
Robert F. Kennedy sleeps on the floor of a plane during his 1968 presidential campaign

An Unpretentious Case for Blowing Some Tailwind into Airbnb 

by Dan Colceriu | Aug 1, 2018 | 19 minutes read

August 2018 marks ten years since Airbnb was founded. The company is now facing a perfect storm of challenges, but it is precisely in storms that its future might lie. This article explores new opportunities, as well as the obligations the platform has to its stakeholders.

At the end of the article, as per the custom with low-cost airlines, please don’t forget to clap.

When almost-broke, early-millennials Brian Chesky and Joe Gebbia decided ten years ago to turn into an online business model their initiative of renting air mattresses in their flat to the attendees of an upcoming conference who might have otherwise struggled to find hotel rooms, investors were pretty skeptical about the potential.

After all, people renting out their properties, especially in shore locations during the summer or in the mountains during the winter, was long-established in the offline world, and there were already some internet businesses at the time that were trying to move this world online. It was through this old-fashioned prism that Brian and Joe’s vision was found to be wanting to operate.

But slowly, and with a lot of unscalable effort, their idea took shape and the hotel industry started to feel the initial wave of impact in their economics of conferences: a surge in demand vs. a limited, not enough supply of hotel rooms was allowing them to charge higher rates during these events. However, the Air Bed and Breakfast business was now absorbing that extra demand, lowering therefore the ceiling of how high hotel price surges could go.

Brian and Joe didn’t see Airbnb as a vacation rental company (by vacation meaning the traditional rental of an entire beach house or a mountain cabin for 1–2 weeks), but rather as the embodiment of the new dynamics of urban life and travel: fast-paced, millennial-driven, price-sensitive, centered on personalities and experiences rather than comfort, yet still authentic and artisanal.

Of course, the hotel industry was serving a different clientele, and besides the limitations on the price surge during big events, they didn’t foresee any loss in actual market share. “What is Airbnb?” is how CFOs were replying to industry analysts even in 2013, when asked about the threat.

But Airbnb was-smartly-also focusing on the supply-side of its two-sided marketplace, positioning itself as a way to enable the ever-growing population of (young-)tenants to monetize their rented urban real-estate (a feature which was mostly available only to property owners), by mainly sharing rooms (and hence co-living, rather than renting out the entire flat) to travellers who, if not for Airbnb, would not make the travel in the first place as they couldn’t afford (or couldn’t find) hotel rooms, or they would simply crash in at friends or family (yes, that crazy uncle).

Fast forward to present times, Airbnb is now a global platform, considered as a real threat by the hotel chains, as it has moved aggressively, in pursuit of growth, to target, on the demand-side, anyone from the conference-goers, the one-night standers, the city breakers, the business travelers, to the long-form beach-house vacationers.

Starting from a beautiful idea, an urban safety layer to cover excessive demand during peak times, Airbnb created an incredibly successful, fast-growing and profitable business, projected to sell circa 250–280 million room nights in 2018, which in turn generates incredible consumer surplus, while also enabling the supply-side to monetize an asset that was otherwise very expensive to use and generating exactly zero-income. That is, before the supply-side got seized by wealthy multi-property owners, professional landlords, real-estate investment vehicles etc.

Lately, Airbnb seems to have reached its invisible growth asymptote, as it faces multiple challenges, a perfect storm believed to have already contributed to carving out some 10%-15% of its current growth rate in 2018. This pressure is exacerbated by an upcoming planned IPO:

  • backlash from local communities over the platform’s increased role in driving up housing prices, by shifting long-term rental supply to more lucrative short-term tourism (locals who might not want to, or be able to partake in the extraction of benefits from tourism by making available their owned/rented house);
  • increased scrutiny from regulators, who are trying to limit/ban the supply-side of short-term apartment-rentals, to mitigate the effects described above;
  • increased pressure for sustainable growth, both from private investors who are now willing to liquidate their venture investments but also potential new pressure from future investors as the company prepares to go public;
  • increased competition from hotels who are adapting their offering by either reducing prices (in some markets it can now be even cheaper to take a hotel room than Airbnb) or by making the experience more personal, with plans to even aggregate available housing stock from apartments nearby and distribute them through the hotel reception/website;
  • increased competition from other aggregators, such as Booking.com and Priceline.com, who have successfully started to move beyond the traditional aggregation of just hotel rooms by using their proprietary distribution channels to move into the aggregation of private properties such as apartments and houses, or otherwise known as “alternative accommodations”.

Of course, Airbnb will continue to diversify (experiences, restaurants) and grow into emerging markets like Africa, China, India and Latin America, but the reality is that, in order to grow faster in its core business, it needs more sustainable supply to be available, as well as it needs to find the most efficient acquisition cost (on both sides of its marketplace).

That is, the platform needs to manage its imminent product/market unfit: convincing more people to try out hosting, while managing the housing impact dilemma, as well as finding ways to embed itself more deeply into where future customers who might never try Airbnb are found.

Inside a passenger aeroplane (1926). No seatbelts. More legroom.

Some of the world’s first passenger airplanes were built as luxury aircrafts and flew somewhere in 1913/1914. The first such planes were built to offer a great deal of comfort, with spacious fuselages incorporating the passenger saloon, a washroom, comfortable chairs, a bedroom, a lounge. But gradually, the focus on comfort shifted more towards security, and then to operational efficiency, to lowering prices and eventually to adherence to timetables.

The airline industry expanded to provide services to every country in the world, playing an essential role in the global economy, eventually becoming a public utility and being regulated as such in some countries (meaning route and price control). The deregulation that started in the 1970s led to the creation of the low cost airlines, started by the American domestic carrier Southwest, proliferation of which led to a more market-driven industry, where the levels of service and price are allegedly determined by customer.

The first airline to offer cheaper transatlantic fares was Icelandic airline Loftleiðir in 1964, often referred to as “the Hippie Airline”. Many young Americans travelled to Europe after graduation, to experience the “old-world culture”, and they were more concerned with getting there cheaply than comfortably or even exactly on time. Loftleiðir were not famous for speed or punctuality, but flying with the company became a sort of rite of passage for those young “hippies” Source: Wikipedia; Photographer: Gary Miller

Indeed, the incumbent players saw a big hit in market share and profitability, which forced them to enter a downward price spiral (made possible also by the efficiency innovations that were constantly deployed to lower the cost of air travel), or launch their own low-cost brand satellites to compete against the new competitors.

Faced with this new competition, traditional airlines have also discovered the strategy of co-operation (Star Alliance, Sky team, oneworld) which contributed further to lowering operational costs (through code-sharing ticket-office sharing, linkage between frequent flyer programs etc.) that would increase competitiveness and which would be later on extended cross-industries (with hotels, car rental agencies etc).

The real cost of air transport has more than halved over the last 40 decades
The real cost of air transport has more than halved over the last 40 decades, Source: ICAO, IATA, via Aleksandra Fedosova’s Thesis

It is true that the democratization of both long-haul and short-haul flights brought about by the appearance of low-cost airlines meant that consumers, faced with the novel opportunity to travel the world, would ignore things like comfort or scheduled times for departure/landing. It was the experience of flying that mattered.

But in present times, flying has become a part of life for the urban class, it is so ubiquitous, that it no longer represents an experience in itself, no matter how hard some very few airline companies still try to differentiate the in-flight service.

The value has shifted entirely to the place of destination, and so, in most cases (in the economy class), for both leisure and working-travelers, their main expectations from the airline industry (being it traditional or low-cost) is simply a minimum of comfort (a floor, however, for which every year consumers seem to be willing to go lower) and paramount safety. With the advent of flight aggregators like Kayak, the airlines were commoditized even further, with the only differentiation when choosing a flight, in the eyes of most consumers, being reduced to: 1/ departure, landing time; 2/ direct or with stops; 3/ what is the airport of departure and landing. Probably in this order. Of course, there are variations, like a very good frequent flyer programme might make one trade-off the flight schedule and choose a certain airline to accumulate further points. But in reality, most FFPs are useless and stuck in a different era.

So it seems that, with airlines, consumers are happy for the time being to allow this trade-off: in-flight comfort and quality of services to be sacrificed in return for safety, affordability, adherence to timetables and choice, at scale. In an ever-challenging competitive landscape, airlines are happily shifting investment from comfort to operational efficiencies, safety procedures, and route optimisation, hence more value is distributed to the customers in the form lower prices.

The only problem appears that when airlines fail to do the one thing that consumers expect them to do, which is move them from point A to point B over air, safely and on time—be it because of extreme weather conditions, union strikes, missing pilots, delays followed by inability to depart since the destination airport does not allow night-flights etc. — , the tacit agreement is no longer valid. Consumers should expect the best possible comfort and quality of services, at scale. In this situation, exhausted airlines have no excuse for not acting like a tech company, offering ever-increasing quality and personalization at scale, to manage the unpleasant situation.

However, there are plenty of cases where cancellations and delays end up with having lots of passengers stranded overnight in a city where they weren’t supposed to be. And in this situation, the whole airline/airport experience is simply, awful: lack of (personalized) communication despite being active users of airline mobile-apps, long queues, and a high chance of ending up sleeping in an airport — mainly because of the same equation I discussed at the beginning of this article: excessive demand vs. limited supply of hotel rooms.

Later on, they changed it to ‘stormy weather’
When they keep you for three hours with no information, standing in queues, of course you miss any chance of finding any accomodation. By the time you would want to search one on your own, it’s already too late.

As I was flying from Munich towards home, and so after one hour of waiting at the gate with no feedback, two hours of staying in a queue, tired and dehydrated, we were told that the hotel rooms have been exhausted and we should feel free to grab pillows and blankets from “over there” and find our way in the airport until the next day.

Of course, some airports might have some sleeping beds (usually occupied), but some not. But generally speaking, in today’s world of increasing customer expectations, if one is not on a political campaign tour like Robert F. Kennedy above, one should not sleep in an airport. Even worse than the poor in-flight experience, airports themselves have, in general, the worst possible customer experience. Sleeping in one is simply dehumanising (unless you’re Tom Hanks shooting The Terminal).

So how does Airbnb’s challenges (the locals’ backlash, the regulators scrutiny, the growth slowdown, the loss of initial strategic vision, the increasing acquisition costs) link with airlines’ incapacity of acting like a tech company (at least when they fail in their main activity)?

It has to do with Airbnb’s recent strategic re-positioning, announcing its intention of becoming a company that operates on an infinite time horizon and also one that truly caters to and is therefore measured on metrics relevant to all stakeholders (not just the shareholders): but also to its employees, to local communities, to its partners ecosystem.

“We think that a company should survive to see the next century, not just the next quarter. A 21st-century company should eventually become a 22nd-century company. By having an infinite time horizon, a company can be more audacious, take more responsibility for what they make, and create more lasting change. […]

What is the purpose of a company? I would say its purpose is to realize its vision. But even this is no longer enough. We must realize our vision and ensure our vision is good for society. This means that we must have the best interest of three stakeholders in mind: Airbnb the company (employees and shareholders), Airbnb the community (guests and hosts) and the world outside of Airbnb. To be a 21st-century company, we must find harmony between these stakeholders.

[…]

If people are good and mostly the same, then we should be able to offer more than people sleeping in one another’s homes. We imagine a world where every one of us can belong anywhere. A world where you can go to any community and someone says, “Welcome home.” Where home isn’t just a house, but anywhere you belong. Where every city is a village, every block a community, and every kitchen table a conversation. In this world, we can be anything we want. This is the magical world of Airbnb. We will probably never fully realize this vision, but we will die trying.”


1/ The airline industry represents the industrial-era model of supply side economies of scale, focused on driving operational efficiency at the expense of quality. When airlines fail to deliver on their primary role, they become reliant on the hotel industry.

2/ The hotel industry is the embodiment of depersonalised customer experience, with pricing power derived from scarcity of supply. The problem is that, in the digital age, poor experience due to limited supply is no longer acceptable.

3/ Airbnb is a tech company that has specialised in matching supply and demand on the short-rental accomodation market (and relative to hotels, Airbnb can tap into a much larger supply).

A leap of faith

The sequence above alludes to the role of tech companies. When certain peaks in demand exceed the fixed supply, rather than accepting a suboptimal experience (sleeping in airports) or a pricing disadvantage imposed by the licensed professionals (expensive hotel rooms in emergency situations), tech companies such as Airbnb can tap into the multitude, activating amateur-hosts as a third safety layer to absorb the excessive demand, all while offering superior experience and fair pricing.

This has happened in the taxi industry as well, where Uber and Lyft acted as a layer serving previously underserved segments by the taxi industry (either certain neighbourhoods or, unfortunately, certain races). In a way, as I remember reading on Twitter, now infamous Uber CEO Travis Kalanick might have done more against black and poor neighbourhood discrimination than our favourite activists. Furthermore, in cities like Paris, a new layer was developed by startups like Heetch, who operate at the frontier, where Uber drivers (in pursuit of better returns to make up for their increasing costs as they transition towards semi-professional), have stopped serving night-time party goes who need to get back in the suburbs in the morning. Heetch, operated by amateurs, serves that peak in demand.

As articulated by Nicolas Colin in his latest book HEDGE, technology business models enable an alliance between the professionals and the amateurs:

“…we should explore the idea of how amateurs could become allies of licensed professionals instead of foes. In my view, technology is showing us ways in which it will be possible to put a ceiling on the number of workers while satisfying consumer demand even in the most extreme circumstances. The stake is to prevent rent-seeking and ensure that demand is always served at the highest quality and largest scale. The goals should be to impose occupational licensing to professionals in exchange for certain benefits… while simultaneously using amateurs as a backup.

[…]

If an additional workforce is needed to match certain peaks in demand or serve particular segments of the market, the solution is there: inviting amateurs so that they focus on those slots and segments where demand cannot be met by the professionals alone. If contained on this part of the market, amateur supply can reinforce the professional workforce instead of weakening its bargaining power.”

www.flightstats.com

I understand that the most optimistic, libertarian people out there would rather invent tech to fix the weather, or would lobby to dismantle pilot unions or remove pilots altogether, or would double down on streamlining airport and fleet operations in the hope that all of these will completely eliminate flight cancellations and overnight delays. But, unfortunately, as the number of flights worldwide is only going to increase, it is fair to assume that these cancellations are going to stay with us. And airlines are ill-equipped and lack the incentives to create a process for the scenario that is outside their core: the actual flying. So all they do is customer-service-washing.

Many of these flight cancellations, due to the chaos they create and due to inadequate mitigating processes on the airlines side, will result in people having to sleep in airports overnight, since more often than not, one of the situations will incur: 1/ the hotel supply in the area will be exhausted; 2/ by the time the airline organises itself, it’s already too late to leave the airport; 3/ in some cases, airlines might not even have the obligation to provide accomodation, as they would rather wait for the consumers to claim financial compensation instead (which doesn’t necessarily happen and that process itself is painful, since regulators don’t actively work to enforce and streamline it).

Airbnb’s opportunity, as well as obligation — Heathrow cancels more than 200 Sunday flights and warns of further disruption, January 2013, source: bbc.co.uk

Banking on the idea that people are inherently good and would step in to help others while in need, and that strangers can trust each other, providing the right identity verification mechanisms are in place, Airbnb could and should go back to its roots and take the ambitious effort of enacting this safety layer.

First, it could engage airlines to explore platform integration, while providing in the same time design-thinking consultancy to these companies to help them streamline the digital process post-flight cancellation: in a world where smartphones are the norm, consumers should have the option to choose between queuing or engaging with the airline over their mobile — both the list of next flights available for the next day, and the list of available accomodation, either at a hotel or through Airbnb, can be made, almost Tinder-style, available to users in real-time.

Not only can Airbnb help both airlines and the hotel layer re-design the process of allocation emergency accomodation during overnight flight cancellation through smartphones, but it can also provide the necessary extra supply of accomodation (either rooms in shared flats, or entire flats) to absorb the extra demand (while also serving it in a highly personalized fashion, based on a better understanding of the preferences of end consumer). In the end, what other entity is better placed to list, at any given situation, be it emergency or not, all available, un-utilised housing stock, in pretty much any city in the world?

Second, it should engage regulators and local politicians, to convince them of the societal value of this initiative (since it is basically making possible the enforcement of consumer protection regulations which otherwise would be impossible to be respected). This will in turn create the necessary political pressure for airlines to undertake this modernisation (otherwise, airlines don’t have much incentive to do it, since no matter how badly they treat consumers, there is limited impact on the decision of those consumers to avoid that airline in the future). This can also be a better-starting point for Airbnb to launch discussions on obtaining some sort of a licensing procedure for its hosts (particularly the ones that are willing to join this specific programme).

Third, it should launch a targeted campaign especially with locals living in proximity of airports, to create this reserve army of emergency hosts. New conditions must be agreed, different from the current vacation-oriented hosts have, since emergency hosts must be willing to answer midnight-calls, allow showering at night etc. This can be either converting existing hosts into the new programme, or convincing a new cohort of people to join the platform as emergency hosts, people who otherwise would have never done it: due to many reasons, such as they don’t think they need it, they don’t think the hassle of sharing flats for the whole summer is worth it etc. But faced with the opportunity of hosting, on rare occasions, a traveller in need, while generating income at a premium with no real marketing effort, this could break the ice.

MPs vote on expanding London Heathrow Airport, June 2018, https://www.georgeherald.com

This is also a way to give something back to the people who live near airports and have to deal with the unpleasantness of it (noise, air pollution). It also creates the possibility for Airbnb to convert, at a later stage, these emergency hosts into more permanent vacation-hosts, to further fuel its growth-based business model (we established that it is critical for Airbnb to find more supply, if not build it from scratch).

Also, through the integration with the airline platform (technological, consensus, data sharing etc.), Airbnb can be embedded in the flight check-in process, and can better communicate with the airline which passengers have a history of using Airbnb, and therefore, in the case of an overnight cancellation, who would be most inclined to accept such an accomodation, instead of a hotel. This way, hotel rooms could go to the fussy ones, while Airbnb rooms could go to the others who would rather sleep in a “trusted home” than an airport. It also gives Airbnb the opportunity to obtain some kind of consent for data-sharing for passengers who never used Airbnb before (i.e. “in case of flight cancellation and no hotel supply, would you be willing to receive alternative accomodation options from Airbnb?”). This, in turn, is a channel for acquiring future Airbnb vacation-guests, who might have never used the service hadn’t been for the pleasant surprise they had when Airbnb saved them that night.

Add UberPool’s ability to create in real-time routes for multiple passengers depending on the direction of their destination, and you already have a much faster way to organize collective transport to the accomodation, in the middle of the night, rather than the slow process of contracting emergency coach-buses that leave every 45 minutes.


It does feel like a gargantuan effort, but Airbnb has proven once that it is willing to do unscalable things (i.e. visit apartments to take better photos) to convince people of its value. Furthermore, it now faces the perfect storm of challenges, and this kind of strategic re-positioning helps to mitigate some of them:

  • Backlash from local communities — Airbnb can find an ally in people living close to the airport, by giving them an opportunity to monetize their real-estate asset in an infrequent, almost effortless way. This can also shift some of Airbnb’s growth, at least temporarily, away from entire-flat vacation-rentals in the city centers (since emergency-hosting can be preponderantly in shared-flats, near airports).
  • Increased regulatory scrutiny — Without sacrificing growth, Airbnb can re-position itself as a safety layer for absorbing extra demand and reduce, if not eliminate, the big number of people sleeping in airports due to flight cancellations / delay. This can also help create a new licensing mechanism for emergency-hosts, further legitimising Airbnb’s business.
  • Increased pressure for growth — This creates a new market for Airbnb, converting hosts that would have otherwise never converted, and similar with guests.
  • Increased competitive pressure—By being the controlling node in this layered network along with airlines and hotels, Airbnb can embed itself in today’s ever-growing flight industry, and become the de-facto safety layer for emergency accommodations. This in turn re-establishes the public perception that Airbnb is a friend (and a saviour) of the hotel industry, which increases its competitiveness in the areas where they compete head-to-head.

It is normal to be skeptical about this, but if, against everyone’s opinion, Brian and Joe proved 10 years ago that inflating mattresses and renting them online can evolve into a multi-billion business, we should not underestimate their ambition and power.

It can start as small experiments (with selected airlines, at selected airports), and then further iterated upon. This not only raises the potential of increasing the frequency of interactions between guests and Airbnb (on top of the few times guests interact with Airbnb, maybe 2–3x per year for vacation-rentals, Airbnb can grab more share-of-mind if it manages to embed itself in the airline check-in process). Scaling this by working with airlines, with regulators and politicians would create a reserve army of hosts, as well as a streamlined process of matching supply and demand, which could potentially absorbe even the most extreme conditions:

Air Travel Disruption and Porte Ouverte

Achieving this safety layer is possible, especially if it combines an infinite time horizon with the power of the multitude and its potential in bringing together professionals and amateurs, but most importantly, the attractiveness of a world where, anywhere you might be stranded for the night, there is a welcoming community where someone says — “Welcome home!”