Network Interconnectivity and Entry into Platform Markets

Abstract

Digital technologies have led to the emergence of many platforms in our economy today. In certain platform networks, buyers in one market purchase services from providers in many other markets, whereas in others, buyers primarily purchase services from providers within the same market. Accordingly, network interconnectivity—which measures the degree to which consumers in one market purchase services from service providers in a different market—varies across different industries. We examine how network interconnectivity affects interactions between an incumbent platform serving multiple markets and an entrant platform seeking to enter one of these markets. Our model yields several interesting results. First, even if the entrant can advertise at no cost, it still may not want to make every user in a local market aware of its service, as doing so may trigger a competitive response from the incumbent. Second, having more mobile buyers, which increases interconnectivity between markets, can reduce the incumbent’s incentive to fight and, thus, increase the entrant’s incentive to expand. Third, stronger interconnectivity between markets may or may not make the incumbent more defensible: when advertising is not costly and mobile buyers consume in both their local markets and the markets they visit, a large number of mobile buyers will increase the entrant’s profitability, thereby making it difficult for the incumbent to deter entry. However, when advertising is costly or mobile buyers only consume in the markets they travel to, a large number of mobile buyers will help the incumbent deter entry. When advertising cost is at an intermediate level, the entrant prefers a market with moderate interconnectivity between markets. Fourth, we find that even if advanced targeting technologies can enable the entrant to also advertise to mobile buyers, the entrant may choose not to do so in order to avoid triggering the incumbent’s competitive response. Finally, we find that the presence of network effects is likely to decrease the entrant’s profit. Our results offer managerial implications for platform firms and help understand their performance heterogeneity.