Network externalities are effects that arise on a product or service as the number of users increases. Network effects occur wherever platforms bring different users together and where the number of users has an impact on the services and success of the offering.
Direct or horizontal network effects are effects in which the number of users has a clear influence on the quality of a product. They play a role above all in communication networks.
Indirect or vertical network effects are effects in which external factors influence the quality of a product. The best-known example of this is the provider Windows.
In the last two decades, network effects accounted for 70% of value creation in digital startups. It is not surprising, as the power of network effects is enormous. Once a network is integrated into a platform or startup, unlimited growth potential can be unleashed.
Network effects increase the value of FOLO. With strong network effects, the value of FOLO increases sharply with each additional user. Take Instagram, as the number of users increases, Instagram becomes more attractive and valuable to existing and new users. This, in turn, increases the amount and variety of new content on Instagram and attracts even more users. With more users, FOLO gets more attractive, more places can be shared and the network of FOLO will increase. FOLO’s can be created more often and people can get in touch more easily due to the rising amount of FOLO users.
A platform with a network effect requires comparatively less marketing
Once FOLO set up a network effect, it benefits from network automation. It eventually grows and markets itself as more and more users join in. If FOLO has a network effect, it can grow with comparatively much less marketing or without trying to attract more customers.
How do you build and develop network effects?
It’s a challenge to overwhelm FOLO with existing network effects, but developing them is no piece of cake either. It takes effort, research, and experimentation to create and maintain a network effect. That said, there are many strategies companies can use to try to create a network effect. Creating a network effect and building a user base can be a daunting task. How would you attract the first user with a network effect, unless there is a network? The answer here is to attract users by providing value and then getting them to join a network. While not the only way to build a network, the strategy can be beneficial for companies trying to build a platform with network effects.
