Evans on Antitrust Economics of Vertical Restraints for Multisided Platforms from December 2012

The Economics of Vertical Restraints by Multisided Platforms David S. Evans GlobalEcon, University of Chicago, and University College London 6 December 2012 Vertical Restraints Adopted by Dominant Firms CEDES, Brasilia, Brazil

Why Focus on Multisided Platforms?

New and rapidly growing economic literature with important an4trust applica4ons

Many important industries including exchanges, media, cards, and key online businesses

Many compe44on policy cases such as shopping malls, media players, payment cards and search engines

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Overview

Economics of Mul4sided Pla>orms

Cri4cal Mass and Ver4cal Restraints

Pla>orm Governance and Ver4cal Restraints

An4trust Analysis of Ver4cal Restraints


ECONOMICS OF MULTI-SIDED PLATFORMS

Section 1

OpenTable Is Intermediary between Diners and Restaurants

5 © Global Economics Group. Do Not Distribute Without Permission

Restaurants Pay and Consumers Use Free

6

$119 million NA revenue in 2011 | $1.02 billion markets cap


OpenTable Solves Transaction Cost Problem

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$119 million NA revenue in 2011 | $1.02 billion markets cap


Positive Feedback Effects Fuel Growth

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Ø  27 million reserva4ons in 2011Q4 a month up from 19 million in 2010Q4

Ø  25k restaurants in 2011Q4 up from 20k in 2010Q4

Ø  More than 40% annual growth in revenue


Many Similar “Multi-sided Platform” Businesses Positive Feedback Effects Fuel Business Growth

9

COMPANY CUSTOMER SIDE A CUSTOMER SIDE B CUSTOMER SIDE C

Apple iOS Users Applica4on Developers

MNOs

Google Search Searchers Adver4sers Websites

Deutsche Bourse Liquidity providers Liquidity takers

eHarmony Men Women

Época Readers Adver4sers

Aricanduva Retail Stores Shoppers

American Express Cardholders Merchants

Facebook Friends Adver4sers Applica4on Developers


Multi-sided Platforms Create Value by Reducing Transaction Costs

10

Pla>orms enable two or more types of

customers,

who could engage in mutually valuable exchange

to find each other though

search and matching

to transact,

and to thereby

create and exchange value.


Common Platform Features

11

PosiIve Indirect Network Effects

Type A customers value pla>orm more if there are more Type B customers and o\en vice versa.

Stores like malls with more foot traffic; shoppers like malls with more diverse stores.

Money/Subsidy Side

Pla>orms o\en give one side a “break” and make their profits for the other side.

Consumers don’t pay to make reserva4ons and even get reward points on reserva4on pla>orms.

Single/MulI-‐homing

If customers on side A only use pla>orm 1 (“single home”) then the customers on side B can only reach these customers through the pla>orm 1 (so pla>orm is a “compe44ve boeleneck”). So\ware developers can only “reach” iPhone users by developing by the iOS


Impact on Economic Models

12

General Result Most economic models/tools used in an4trust ignore interdependent demands from mul4ple pla>orm sides and are therefore “misspecified”

We now know from literature that results of standard models do not necessarily hold for mul4-‐sided pla>orms

Market DefiniIon

Standard SSNIP and UPP tests wrong for mul4-‐sided pla>orms.

Standard tests are mathema4cally wrong and give biased results

Economic models of exclusionary pracIces

Economic models (e.g. Whinston on tying) based on many assump4ons to begin with and not very robust.

Results do not/may not once interdependent demand between two sides is introduced.


CRITICAL MASS AND VERTICAL RESTRAINTS

Section 2

YouTube Ignited in Late 2005

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0.000

10,000.000

20,000.000

30,000.000

40,000.000

50,000.000

60,000.000

70,000.000

may 05

jun 05

jul 05

aug 05

sep 05

oct 05

nov 05

dec 05

jan 06

feb 06

mar 06

apr 06

may 06

jun 06

jul 06

aug 06

sep 06

oct 06

nov 06

dec 06

jan 07

feb 07

mar 07

apr 07

may 07

jun 07

jul 07

aug 07

sep 07

oct 07

nov 07

dec 07

jan 08

feb 08

TABLE 1 -- YOUTUBE UNIQUE VISITORS ('000)

YOUTUBE

Both sides essenIal for launch

YouTube needed content creators and content viewers

Need strategies to get both sides on board

YouTube tried mul4ple strategies to increase uploading and viewing of videos

IgniIon requires geQng enough on board

Slow growth from February to December 2005 when YouTube shows an inflec4on point


Platforms Need Critical Mass to Ignite

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CriIcal mass

Cri4cal mass refers to the minimal set of customers on each side that is large enough to aeract more customers and result in sustainable posi4ve feedback

CriIcal mass depends on scale and balance

Probability of customers from two sets gejng together and exchanging value increases with the number of customers on each side

PlaRorms implode if they can’t reach criIcal mass

If there aren’t enough customers on the other side the probability of advantageous exchange falls and customers don’t join and the early adopters who have eventually leave


Successful Platform Launch Depends on Critical Mass

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0 200 400 600 800 1000 1200

0 200 400 600 800 1000

Each point reflects a combina2on of scale (how many customers) and balance (propor2on of customer types)

CriIcal mass corresponds to a combinaIon of scale and balance that is minimally sufficient to ignite the plaRorm


Critical Mass, Platform Ignition and Growth

17

Catalytic Ignition and Critical Mass

Side B

D*- Long-run equilibrium

C`

C``

C*

Ignition

Points of critical mass

Movements at starting to achieve critical mass

O

In this example the cri4cal mass points are between C’ and C”. C* is the point that would lead to op4mal pla>orm launch. Points to the NW of the vector 0-‐C’ and to the SW of vector 0-‐C” would result result in pla>orm implosion.

Side A


Three Phases of Platform Growth

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0.000

10,000.000

20,000.000

30,000.000

40,000.000

50,000.000

60,000.000

70,000.000

may 05

jun 05

jul 05

aug 05

sep 05

oct 05

nov 05

dec 05

jan 06

feb 06

mar 06

apr 06

may 06

jun 06

jul 06

aug 06

sep 06

oct 06

nov 06

dec 06

jan 07

feb 07

mar 07

apr 07

may 07

jun 07

jul 07

aug 07

sep 07

oct 07

nov 07

dec 07

jan 08

feb 08

TABLE 1 -- YOUTUBE UNIQUE VISITORS ('000)

YOUTUBE

IniIaIon

Pla>orm undertakes strategies to get to cri4cal mass

IgniIon and Rapid Growth

Pla>orm reaches cri4cal mass and gets self-‐sustaining posi4ve feedback effects

Maturity

Pla>orm reaches profitable equilibrium and grows through compe44on and market growth


Some pla>orms can secure precommitments from both sides and thereby collapse ini4a4on and igni4on into immediate growth at startup.

Initiation and Getting to Critical Mass

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Early adopters

Customers who like to try new things

High-‐value customers

Customers that place high expected value on par4cipa4ng in the pla>orm

Highly aUracIve customers

Customers on one side who are highly valued to customers on the other sides

Exclusive deals

Exclusive deals force customers on the other side to use the pla>orm to gain access to these customers

ExpectaIons of success

Shape customer expecta4ons that the pla>orm will provide value in order to get customers to mul4-‐home or single home on pla>orm


Making It Harder for Rivals to Reach Critical Mass

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Lock enough demand on either side

By keeping available demand below the minimal level on either side the new pla>orm cannot reach the cri4cal mass fron4er.

Lock up enough demand on both sides

By locking up enough demand on both sides the new pla>orm cannot reach the cri4cal mass fron4er

Lock up key assets needed for igniIon

By locking up customers that account for a dispropor4onate share of posi4ve feedbacks, are early adopters, or high value users, or by preemp4ng exclusive deals, the new pla>orm could be prevented from reaching the cri4cal mass fron4er


These are possibili4es. Unclear how significant they are in prac4ce given that rivals have counterstrategies.

Vertical Restraints that Might Deter Entry

21

Exclusive Deals

Locks up demand on one or both sides of the pla>orm

CondiIonal rebates

Discourages customers from using rival pla>orm and therefore engaging in mul4homing or single homing with entrant

Other restraints

Behavioral restraints (tying, pricing restric4ons, various behavioral restraints, etc.) could raise the cost of commijng demand to a rival pla>orm


Some Procompetitive Explanations of Vertical Restraints

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Exclusivity benefits customers

Customers on side B benefit from knowing that when they use the pla>orm they will be get access to par4cular customers on side A. Reduces their search and transac4ons costs.

Exclusivity reduces plaRorm risks

By reducing risk that customers on one side will reduce demand and thereby jeopardize value of the value to all sides the pla>orm is able to make greater sunk cost investments including in innova4on.

Exclusivity prevents free riding

Pla>orm may have incurred significant risks in entering in developing customer groups to maximize pla>orm value. Exclusivity agreements prevent copycats from freeriding.

Behavioral restricIons benefit customers

Restric4ons on side A customers benefit side B customers by preven4ng opportunism


Balancing and Some Complexities

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Degree of impediment to entry

Impediment depends on the “type” of customers excluded as well as and perhaps more so than sheer volume of demand foreclosure. Could prevent entry by foreclosing some demand on both sides.

Counter strategies

Can differen4a4on enable entry despite exclusive deals by incumbent pla>orms? Can entrant enter into exclusive deals of its own?

Stage of compeIIon

Incumbent may have exclusive dealing arrangements as part of entry strategy to deal with cri4cal mass

Behavioral restricIons

Ver4cal restraints may benefit customers that are not subject to ver4cal restraints (e.g. the other side of the pla>orm).

Incumbent vs. entrant

Entrant could be powerful pla>orm in adjacent business while incumbent could be successful startup. Difficult to assess impact of an4trust restraints on long run social welfare (Microso\ vs. Netscape).


PLATFORM GOVERNANCE AND VERTICAL RESTRAINTS

Section 3

Platforms Harness Externalities

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A Place to Get Together

Pla>orm provides a physical or virtual environment for different types of customers to get together.

Ways to Connect and Create Value

Pla>orm provides search and matching methods for helping customers find “value-‐crea4ng” transac4ons and for exchanging value.

Manage externaliIes

Pla>orms manage posi4ve and nega4ve externali4es to increase value that members can realize from the pla>orm.


Platforms Helping One Side

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Kanyon Mall in Turkey “is appropriately named in light of the shape of the building, with the "canyon walls" comprised of four winding retail levels.” The canyon was made primarily with stone, 4le and concrete.


Platform Design and Rules Promote Positive Externalities

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SorIng Devices to Get Right Customers

“Exclusionary vibe” (JDate discourages Gen4les)

“Exclusionary amenity” (Upscale anchor stores discourages low-‐end shoppers)

Search Diversion

Design rules encourage one type of agent to meet another type of agent who really values them but may not seek out by themselves

Shopping malls with anchor stores at either end


Platforms and Bad Behavior

Vitaly Borker Gets 4 Years for Threats, Terror Used to Boost Google Rankings

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SAC Insider Case Rides Finra Referral to Cohen’s Backyard


Governance of Bad Behavior that Mitigates Negative Externalities

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Rules Prohibi4ons on ac4ons that could harm other agents (usually those on other side of match/transac4on)

eBay has detailed rules for buyer and seller behavior No misleading ads (sellers) and no mul4ple auc4ons for same good (buyers)

DetecIon and Monitoring

Systems to determine if rules are being broken

Facebook has hundreds of employees looking for bad pictures and bad language

Enforcement Pla>orms have and use “Bouncers Rights” to exclude violators

Google manually reduces ranks of websites that violate rules for 90 days and some4mes delists websites


Welfare Effects of Rules

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PromoIng posiIve externaliIes has costs

Sor4ng devices harm customers that can’t get on pla>orm or don’t get their preferred matches

Search diversion benefits side that gets from looks but not necessarily side that has been diverted.

Governing bad behavior has costs

Customers lose benefits from viola4ons

Customers also lose from false posi4ves in enforcement

PlaRorm has incenIves to balance benefits and costs

Pla>orm can make more money by promo4ng posi4ve externali4es and reducing nega4ve ones

Pla>orm value is greater and pla>orm profit greater too


Vertical Restraints and Platform Governance

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AnI-‐steering/exclusive dealing rules

Might deter entry, but…

Give customers on other side assurance that when they use the pla>orm they will get the pla>orm’s products

No surcharge rules

Might deter entry, but …

Prevents opportunis4c behavior and provides customers price certainty for pla>orm

PlaRorm exclusion penalIes and rules

Might prevent alterna4ve pla>orm from accessing users, but …

Punishes customers on one side from harming customers on the other side through fraud, decep4on, and other bad behavior.


ANTITRUST ANALYSIS OF VERTICAL RESTRAINTS

Section 4

Factors to Consider in Evaluating Vertical Restraints for Platforms

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Impact of restraints on achieving criIcal mass

To what extent do restraints preclude strategies necessary for reaching cri4cal mass and are there effec4ve counterstrategies

PlaRorm and Industry Stage of Development

Restraints more likely to be residue of procompe44ve strategy and s4ll provide efficiencies in earlier stages.

Impact on all sides Benefits and costs should be evaluated by looking at impact on all customer sides

Role in managing externaliIes

Possible efficiencies from managing posi4ve and nega4ve pla>orm externali4es should be considered.

Robustness of standard economic models

No reason to believe that the result of economic models that do not consider interdependent demand hold for mul4sided pla>orms and results of literature so far show that the results do not in fact hold in important cases.


Thank You!

34

DAVID S. EVANS

Global Economics Group | Chairman

[email protected]

Mobile: +1 617 320 8933

Skype: david.s.evans


Evans on Antitrust Economics of Vertical Restraints for Multisided Platforms from December 2012

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Transcript of Evans on Antitrust Economics of Vertical Restraints for Multisided Platforms from December 2012