What is a digital marketplace? And how does it work? Find out how the platforms can help provide better services, more efficiently
Digital marketplaces, such as Amazon.com or Booking.com, are expanding to new markets in industries such as energy or freight forwarding. Europe aims to take a bigger role in this area of business by setting up its own digital marketplaces.
But what are digital marketplaces and how do they work. We asked Darragh Mac Neill and Salvatore Scagliarini, senior industry experts at the European Investment Bank who are at work to develop this sector.
What is a digital marketplace?
Darragh: A digital marketplace is a platform creating a venue for both buyers and sellers to transact over a product or a service. It matches potential buyers of a service or a product with providers of that service or product.
Salvatore: The energy industry is currently being turned upside down by the so-called three Ds: decarbonisation, decentralisation and digitalisation. A digital energy platform, which is a software/hardware system, encompasses all of these by matching the supply and the demand of electricity via the aggregation of so-called distributed energy resources to provide services to the electricity grid.
This is a totally new business model for the industry, so new that it’s not even regulated yet. Smaller distributed/decentralised energy resources like batteries of electric vehicles or rooftop solar PV cannot provide services to the grid on their own because of their tiny size. Moreover, wind and solar renewable energy sources feature intermittent energy generation because they depend on the sun and the wind to generate electricity. The purpose of a digital platform is to aggregate all these resources, build up scale and thus be able to provide and sell services to the electricity grid.
Grid operators and owners have the challenging task of balancing supply and demand of electricity on the grid in real time by removing any bottlenecks and imbalances. A digital platform addresses those needs, but it also targets power generators, the owners of the distributed energy resources, by adding value to their distributed assets.
In the old world of centralised electricity markets, utilities were both generators and distributors as well as sellers/traders of electricity. In the new decentralised markets, customers take a proactive role by generating their own electricity and selling/trading it into the market: this is what we call a prosumer, a producer/consumer. All this is enabled by giving the platform/aggregator access to the customers’ distributed energy resources and then selling bulk power and related services to the grid operators.
Darragh: The key concept around platforms is the network effect, which is a phenomenon whereby increased numbers of people or participants improve the value of a good or service. Market access is paramount and scale and the resulting transactional efficiency are what we’re aiming to achieve.
Salvatore: It’s nothing different than what happened in the early 20th century, when the phone and the telecom industry were really at their beginnings. The value of having a phone in the early 1900s was very low, because very few people had a phone. By building up scale and adding users, the value of a platform, of a network, increases and that’s the definition of network effect.
How does a digital marketplace work?
Darragh: A digital marketplace plays an intermediary role between buyers and sellers. It doesn’t own the assets.
Let’s take the example of freight forwarding. A digital platform matches truck owners who are available to ship loads from A to B with people who want to purchase that service.
The platform provides them the opportunity to identify additional providers of trucking services. With sufficient scale the platform also allows the intermediary to optimise the logistics network by identifying empty loads, one of the main headaches that trucks owners experience and proposing loads to make sure that they’ve optimised that trip they’re making. They can add value based on access to large amounts of data.
Are there data privacy issues?
Darragh: In many cases there are data privacy issues to be considered and we are fortunate in the EU to have the General Data Protection Regulation, which these companies need to adhere to. So, back to the trucking example, we need to make sure that appropriate technical and organizational measures are in place to protect the individual truck driver‘s data.
This will continue be one of the issues to be addressed and a lot of these companies put significant effort into ensuring that they are GDPR compliant, which may eventually give us an advantage in Europe compared with other jurisdictions.
What is the benefit of a digital marketplace?
Darragh: These platforms add a lot of value in highly fragmented markets, which is the case in freight forwarding. The ability of truck owners to get access to large shippers or people who require trucking services is limited. A platform gives access and transparency over clients that they would never have had access to, so it opens up quite different markets for them. In general, the more fragmented the industry, the bigger the opportunity for disruption through a platform approach.
Also for the end consumer, there are significant advantages. Let’s take another example where digital platforms are expected to have a big impact: the automotive industry.
Typically, once an end consumer purchases a car, they’re locked into the network of the brand for a number of years. There are a couple of different platforms looking to disrupt that relationship. In the future, fewer consumers are expected to own a vehicle, but rather purchase a service, which can be ordered on demand. For many consumers, that’s sufficient, as they don’t really care what type of car they’re in, particularly for shorter periods of time.
Isn’t this what a car leasing company does?
Darragh: Almost, but this is a pure pay as you go service, less expensive and much more flexible. It can be based on a distributed model where the vehicle is available in local neighbourhoods, rather than having to go a central location, such as the airport to pick up a rental car.
A private car owner can eventually monetise this asset that they have, whenever they don’t need to use it. Like this, the platform owns the customer relationship and is disintermediating the car brand and dealer. The car dealer no longer has access to the customer, but simply provides a vehicle as a service. That changes the whole dynamic in the industry — a perspective which of course makes car manufacturers very nervous.
Many legacy industries have a vested interest in maintaining the status quo. Often you see people coming from the outside—digital natives —and offering this platform service. A start-up organisation has very little to lose in the current structure.
It will be a challenge to get the major players on the platforms and that probably represents the tipping point for these platforms. Once a sufficient number of large-scale companies sign up, it becomes easier through the network effect mentioned earlier. More buyers on the marketplace attract more sellers and that attracts more buyers, so the cost can be amortised over a much bigger number of transactions, achieving cost efficiency.
There are many other examples from business-to-consumer markets. The travel industry has been hugely impacted by marketplaces in the last number of years. With Booking, Skyscanner or Airbnb, many consumers do not use travel agents anymore.
Salvatore: Right now the focus is on business-to-business (B2B) customers because they can quickly provide bulk quantities of distributed resources and scale. But in the future, when there will be millions of electric vehicles in the streets, everybody will look into that and that’s why car manufacturers are very keen to invest in this. The B2C (business-to-consumer) business model will then increase its attractiveness.
Is the purpose of such platforms to break monopolies in certain sectors?
Darragh: The purpose of such platforms is to use digital technologies and business models primarily to add value (cost, quality or experience) to consumers through the disintermediation of existing industry ecosystems. From an EIB perspective, it’s about supporting champions in these businesses and defending Europe’s position in the business-to-business space.
Digital marketplaces have migrated from media and entertainment, and retail and are more and more present in the business-to-business area, such as transport, logistics, manufacturing, energy and utilities. It’s a natural progression of these marketplaces through these various industries, a continuum. Rather than seeking to displace established players in the B2C space, we are looking at those industries where marketplaces will play a significant factor.
Salvatore: In the case of the energy industry, the shift from a centralised to a distributed business model, clearly breaks monopolies, but this will have a huge impact on the whole industry value chain. Indeed, there is currently a race to the bottom in terms of value generation for renewable energy generation, because of both sharply decreasing investment costs and intrinsic near-zero marginal cost of electricity production (the “fuel” is free of charge). Platforms might address this issue by augmenting the value generation proposition of distributed energy generation assets. To some extent, the same applies to the car industry because an electric vehicle by itself has up to 80% fewer components than an internal combustion engine car. Thus the increasing pressure on car manufacturers to find additional revenue streams in order to generate additional value.
Why and how does the European Investment Bank get involved?
Salvatore: All those transactions are extremely risky, since there is huge uncertainty around the forecast cash flows. Therefore, we are only able to finance this kind of projects with special financial products, developed jointly with the European Commission, which provides the necessary back-to-back guarantee.
Another issue is that these digital platforms are very light on capital expenditures, CAPEX. They mainly have operating expenses, mostly in terms of cost of salaries related to research, development and innovation. As a legacy public bank prone to infrastructure-based financing, our business model is very much built around CAPEX-heavy assets, which is to some extent an additional limiting factor in financing such innovative endeavours.
Recently, we closed our first transaction in the energy digital platforms aggregating different types of distributed energy resources: we financed The Mobility House, a Swiss-German start-up by providing a €15 million loan to the company in August. The company is currently targeting fleets, companies leasing and renting electric vehicles to other companies, a B2B business model. The company also aggregates other distributed energy assets.
This project is not only about innovation and digitalization but also about decarbonisation. A digital energy platform aggregates intermittent renewable energies, which are decarbonising the electricity industry. The more value the platform creates by selling services to the grid, the bigger will be the attractiveness and market uptake of renewable energies and electric vehicles alike. Therefore, this is fully aligned with EIB’s climate action targets.
Darragh: With sufficient scale, it is possible to drive more value and higher levels of network optimisation, which again increases scale. The key is to have relevant, sufficient, quality data which is a big issue, as with poor data quality, poor decisions are made, and that frustrates both buyers and sellers. Which is where we see technologies like artificial intelligence and machine learning—it will not be individuals who are making the majority of these decisions but artificial intelligence.
- Melina Gkionaki, writer at the EIB
Compliments of the European Investment Bank – a member of the EACCNY.