Just because your online marketplace is showing some user growth does not mean it is doing well. If your goal is to build a financially viable platform, your marketplace needs liquidity in addition to user growth. Continue reading to find out what marketplace liquidity is, how to measure it, and what its key drivers are.

What is marketplace liquidity?

In simple terms, marketplace liquidity quantifies a seller’s chances of making a sale or a buyer’s chances of procuring the right product or service. 

The smart guys at VC heavy-weights, Andreessen Horowitz, define marketplace liquidity as,

“. . . the likelihood that a seller is able to find a buyer, or that a buyer is able to find the product or service they’re looking for.”

Andreessen Horowitz

According to Julia Morrongiello at Point Nine Capital, a Berlin-based VC firm that specialises in online marketplaces,

“Liquidity is the lifeblood of marketplaces. It is the efficiency with which a marketplace matches buyers and sellers on its platform.”

Julia Morrongiello

Simon Rothman at Greylock Partners,

“Liquidity is the reasonable expectation of selling something you list or finding what you’re looking for . . . Until you reach liquidity, you’re vulnerable. After, you have the opportunity for dominance.”

Simon Rothman

How do you measure marketplace liquidity?

Well-known marketplace performance metrics such as Gross Merchandise Volume, Monthly Active Users or Customer Lifetime Value are important, but they don’t tell you how liquid your marketplace is.

You want to look at the rate at which buyers and sellers match on your platform. Exactly what gets measured will depend on your business model. Since marketplaces are two-sided, both buyer and seller liquidity have to be taken into account.

Buyer liquidity

The average number of visits, search queries or quote requests that lead to transactions, also known as the Search To Fill Rate.

A retail marketplace such as Etsy would therefore look at the ratio of search sessions vs purchases, while freelance marketplaces like TaskRabbit would compare job postings with the number of hires over a specific period. On-demand marketplaces like Lyft would calculate the number of actual rides as a percentage of ride requests.

Supplier liquidity

 The average number of seller listings that result in transactions within a specific timeframe is known as the Utilisation Rate.

Retail marketplaces would compare stock levels at the beginning and end of a month, while accommodation marketplaces would calculate the percentage of rooms booked per night. Ride hailing apps would look at the percentage of drivers that are working full-time per week. 

The more granular your focus (zooming in on categories, locations, timeframes), the more comprehensive and useful the picture of your marketplace liquidity will be. You may discover that certain product categories are not driving much sales compared to others, which would necessitate an adjustment to either your marketing strategy or your inventory.

The type of marketplace you are building will influence which liquidity metrics you should focus on:

  • Double-commit marketplaces like UpWork require engagement and agreement by both buyers and sellers to conclude a transaction.
  • Buyer-centric marketplaces like Amazon or Airbnb have passive sellers that simply indicate the details of products or services and their availability, while the onus is on buyers to actively commit to a transaction.
  • Managed marketplaces like Uber automatically match buyers with sellers on receipt of the buyer’s request.

Liquidity challenges vary according to the marketplace type

Double-commit marketplaces tend to have the lowest liquidity as both buyers and sellers have to spend time and effort to conclude a transaction. This usually means lower conversion rates, but they have the advantage of being better at catering for custom requirements. Top focus: streamline the transaction flow to improve search-to-fill ratios. 

Buyer-centric marketplaces remove some of the friction from the transaction process as no interaction is required between buyers and sellers. This tends to drive higher search-to-fill rates. A prerequisite is that sellers keep listings up-to-date with the correct product details and availability.

Buyer-centric marketplaces need to keep a close eye on utilisation rates. The lower the utilisation rates, the higher the seller churn rate and vice versa. Low match rates can also lead to multi-tenanting (where sellers post listings on multiple sites) and bad service or low quality goods.

Examples of utilisation metrics include tracking the percentage of sellers that sell above a certain amount per month or work more than a number of hours per week.

Managed marketplaces, where the marketplace sets the price (e.g. Uber, Lyft), usually have the highest search-to-fill rate and liquidity. This is due to the automated matching of buyers and sellers, which removes most of the transaction friction. They demand a high degree of seller standardisation since the platform, not the sellers, is held responsible for quality and service levels. Those can be tracked via customer feedback (ratings, reviews, complaints), NPS and turnaround times (time-to-fill).

Ride-hailing and delivery platforms, for example, should therefore focus on average times to pick up / drop off. This time-to-fill metric should ideally be tracked on a location and category basis for a more granular view.

The downside of managed marketplaces is that they tend to have weaker network effects. That’s because standardised supply often means lower barriers to entry which can lead to supply saturation. There’s not much more benefit in adding additional sellers for buyers if the time-to-fill falls below a certain threshold. If food is delivered within 10 minutes on average, adding additional delivery drivers would not increase buyer satisfaction by much.

What are the key drivers of marketplace liquidity?

It’s one thing to track your liquidity, but how do you improve it? Here are a few common elements that have proven their worth as drivers of marketplace liquidity.

Establish product-market fit

It is actually shocking how most articles on marketplace liquidity omit the first crucial step – making sure there’s a need for your product in the market. This is best done with an MVP to validate your market assumptions and collect user insights. 

And who better to back that up than Paul Graham of Y Combinator, as can be seen in this email thread on an early-stage Airbnb’s product-market fit and ability to ‘make money’. The record speaks for itself – twelve years later the company is worth $74 billion.

Paul Graham Airbnb Y-Combinator email

By conducting your experiment with a few handpicked sellers and a small targeted group of buyers you can conduct your experiment faster and cheaper than with a full-blown platform.

Once you have some user feedback and a better understanding of the market, you can iterate your way to a more sophisticated product and suitable business model. This lean approach has been proven to be highly effective in establishing product-market fit.

Solve the supply vs demand (chicken-or-egg) dilemma

One of the biggest challenges facing marketplace entrepreneurs is how to scale both supply and demand. Sellers aren’t going to sign up if there are no buyers and buyers will not use the platform if there are not enough sellers. The rule of thumb is to focus on scaling one side (buyers or sellers) of the marketplace equation in order to attract more of the other side.

Some well-known techniques include:

  • Create standalone value where the one side doesn’t need the other to derive value from using the platform – e.g. Houzz’s home improvement marketplace offers a 3D augmented-reality tool, as well as marketing, project and client management solutions to design professionals. 
  • Stock the shelves by seeding the supply side with free platform-created profiles for qualifying sellers. Once there’s enough traffic, you can monetise it by providing value-added services or owning the transaction pipeline. The more detailed and high-quality your seller profiles, the bigger the incentive for users to search them. The downside is that for high-volume low-value retail marketplaces it can be expensive to collect and create enough listings.
  • Piggyback on another platform’s existing user base. Airbnb drove more guests to their hosts by cross-listing their accommodation on Craigslist with a booking link back to Airbnb.

Hybrid approaches try to leverage sellers and buyers simultaneously:

  • Provide a better way for buyers and sellers to connect and transact. Secure payments, real-time messaging, RFP tools all support this approach. 
  • Concierge marketplaces use human intervention such as curation to increase the likelihood of a match between buyer and seller. This can be a good strategy for early-stage marketplaces to better understand and cater for buyers’ needs. Some marketplaces offer concierge services, such as personalised support, as part of a premium offering.

Increase density within the right locations

The number of users (buyers and sellers) within a certain geographic area have to be in sync. For example, a food delivery marketplace can add 1,000 customers in London and 100 couriers in Manchester, but still not increase its liquidity.

When MobyPark, a parking marketplace, realised that both search-to-fill and utilisation rates were very low, they investigated. They found that demand and supply were not in sync; most of their drivers were looking for parking spaces close to airports such as Charles De Gaul and Schiphol, not city centres. They solved the density problem by approaching hotels with excess parking space close to airports.

The size of the geographical area to be checked for density will vary from marketplace to marketplace. An apartment cleaning marketplace like Nestify will look at a smaller area than an art marketplace like Affordable Art Fair, since you need cleaners close to where the majority of your host properties are located, while art sales is a global business. 

That said, it would be prudent for a startup to pursue density on a location-by-location basis, also known as a pocket approach. It’s easier to build momentum with lots of liquidity in a focused area, than thinly spread liquidity over multiple locations. 

Once you know where your demand is congregated you can increase seller density with a targeted marketing strategy. Grosa, a marketplace for Afro-Caribbean groceries, made GBP3,000 in its first month by making sure its sellers and buyers are in the same location through targeted local marketing.

Ensure optimal buyer to seller ratio

Buyer-to-seller ratio = active buyers / active sellers

Marketplaces that do not have enough listings or quotes for each buyer, or enough enquiries or transactions per seller, are going to lose users. The optimal buyer-to-seller ratio will depend on the marketplace type though. A real estate marketplace will be happy with a 1:1 ratio, while a retail marketplace for FMCG would probably require something closer to 100:1.

It’s also useful to calculate how many customers or transactions one seller can serve. If sellers don’t have sufficient stock, or service levels drop below acceptable levels, your marketplace will suffer. Sellers that can service many buyers are more valuable to your marketplace and should be an acquisition focus for early-stage platforms. You can track the ability of sellers to service buyers by dividing the transactions per buyer by the transactions per seller. 

A high buyer-to-seller ratio is not necessarily good for business. Parking marketplace, MobyPark, had lots of traffic, but low transaction volumes. Analysis revealed many dead listings as a result of property owners who did not update their parking bay availability.  The solution was to make property owners more engaged by sending them regular reminders to update availability.

Market the right categories and/or products (category concentration)

Focusing marketing spend on product categories for which there are high demand can increase liquidity and reduce CAC. The Boxhut, a subscription box marketplace, followed this strategy by basing their Google Ads campaigns on the products sold by high-volume suppliers on their platform. 

Their first step was to find out what buyers were looking for. This was done by analysing the navigation filters to see which products performed best and checking Google Ads keyword planner for the popularity of keywords like ‘food subscription’. 

They discovered that a small number of suppliers were responsible for most of the sales. This discovery helped them create a vibrant market for those suppliers through targeted marketing campaigns.

As mentioned, the strategy for tracking and driving liquidity will vary according to the nature of your marketplace. Identifying the right metrics and taking advantage of the resulting opportunities is best done with a custom marketplace.

A custom marketplace offers unlimited flexibility for the testing of assumptions which can mean the difference between success or failure. To learn more about the advantages of a custom marketplace get in touch with CobbleWeb – the marketplace experts.