Not All Network Effects Are Equal: How To Build Strong Network Effects In Healthcare

Four out of the top five most highly valued companies in the world are platform businesses that leverage network effects. Research suggests that 70% of value creation from technology since 1990 is due to network effects. And our own research at Summit Health suggests that Fortune 500 technology companies that leverage network effects (e.g., Apple, Amazon), when compared with those that don’t (e.g., Dell, Oracle), consistently outperform their peers in terms of revenue growth, revenue per employee, and profitability. 

If you’re building a network effects-driven company in healthcare and you’ve already overcome the Cold Start problem, kudos are in order - that’s no small feat! 

Overcoming the Cold Start is an accomplishment, but to truly realize the benefits of network effects - in terms of monetization, growth efficiency, and defensibility - leaders need to think about the strength of their network effects. 

Not all network effects are created equal. Groupon does not enjoy the same strength of network effects that Airbnb does

Because while many toss around the term ‘network effects’ loosely, the reality is that not all network effects are created equal. For one of the most glaring examples of weak network effects, one can look to Groupon (NAS: GRPN). A former high flying internet marketplace touting its network effects, Groupon’s market capitalization peaked in 2013, its revenue has been declining since 2015, and its gross margin always left something to be desired.

Or consider a comparison: while Uber is the much larger company and raised substantially more capital, Lyft’s network effects in their core business have been stronger. The table below shows historical data comparing the two and suggests that network size is not the only (or even primary) factor contributing to the strength and value of the network. 

Clearly, it’s not just network size that matters. (For more information about how Lyft cultivated stronger network effects, see here).

Of course, most opportunities for platforms in healthcare are different from ride-hailing. 

So, when building a network effects-driven platform in healthcare, what should founders and investors look for and try to cultivate?

If you’re not familiar with network effects or platforms in healthcare, try starting here. 

Characteristics That Contribute To Strong (or Weak) Network Effects

The first factor that founders and investors should consider is ‘multi-homing’ costs. Multi-homing costs are all of the costs associated with using two or more solutions for the same purpose. The higher the costs, the greater the customer captivity. In healthcare, this is why so many startups tout their integrations with EHRs: a meaningful integration with an EHR can be difficult to replicate and costly for companies and customers to maintain (which regulators recognize: they are trying to bring down these costs by pushing for interoperability standards and cracking down on information blockers’). 

Multi-homing costs are critical for platform businesses: if a primary source of value in the platform is the network of users itself, then competition from other networks can quickly ‘tip’ the market by attracting marquee users or accounts, which will in turn bring others. Low multi-homing costs on both sides of the network (driver and rider) plague both Uber and Lyft. 

So multi-homing costs are critical, but not sufficient, to consider and address.

Other characteristics that play into the strength of network effects include:

• Interaction patterns: what is the frequency of interactions between the two (or more) sides? Generally speaking, the more frequent, the stronger the potential network effect, especially if one or more sides of users are human beings. Human beings are creatures of habit, so the more interactions, the more the opportunity to tap into and create stickiness with those habits.

• Fragmentation of market sides: how consolidated or fragmented are the different ‘sides’ of the market? In general, the more fragmented the better for the network platform itself; highly consolidated markets may view a centralized platform as a ‘hold up’ risk, and seek to build their own connections with other sides. In healthcare, it’s also important to consider the fragmentation of systems and clients for a given side.

• Complexity of coordination: is the interaction between the two sides simple and straightforward, or contain many moving and interacting parts? An example of a relatively simple transaction in healthcare may be a pharmacy eligibility transaction, which involves a request from a physician using an EHR and a response from the PBM.

• Costs of transaction failure: what happens if the interaction doesn’t meet both sides’ expectations? Is it a major problem, or a minor inconvenience? In general, the bigger the problem, the stronger the network effect. Consider for instance two platform companies both building referral networks, but one focused on cardiology and the other on dermatology. All else being equal, the platform building a cardiology network is likely to have stronger network effects because the nature of the patients’ conditions will be more severe and require more serious medical attention.

The above are some of the characteristics we look for at Summit Health. For more information or if you have any questions, contact us. 

Tactics To Build Stronger Network Effects

The good news for both founders and investors is that network effects can be actively cultivated and strengthened.

Here are a few ideas that we at Summit Health have used successfully, worked with our partners to implement, or seen in the market that we think are good examples:

• Get embedded: Redox is on a mission to make healthcare data more accessible and usable, and they operate a platform connecting digital health companies with healthcare organizations including hospital systems and payors. Because the use cases that any two sides are looking to implement may require different implementations, data models, and workflow orchestration, Redox winds up building deeper and deeper (more embedded) relationships on both sides.

• Subsidize: - CoverMyMeds (CMM) operates a platform connecting doctors, pharmacies and PBMs to automate the prescription prior authorization process. CMM started out by pitching their solution to doctors, but hit a brick wall. They then turned to pharmacies - where prior authorization issues are often first identified - and successfully leveraged relationships with pharmacies to recruit doctors onto the platform. One of the keys: CMM knew their business wasn’t trying to sell software to pharmacies, so they gave it away for free. Solving a problem for the pharmacies and doing so at no cost made pharmacies champions of CMM in the market. 

• Develop tooling: Wheel is a platform connecting physicians to telehealth companies. Wheel has invested capital, time and leadership energy to create tools and processes that optimize the telehealth and professional experience for clinicians, allowing them to use one platform while practicing for multiple telehealth companies.

• Exclusivity / preferred: Surescripts is known as the nation’s e-prescribing network, and it didn’t become the dominant network by accident. One of the tactics Surescripts used to great effect was offering preferred pricing in return for customers to be ‘loyal’ to its network, meaning that they didn’t use other networks if Surescripts was available. In particular when dealing with large or marquee customers that can attract others onto the platform, platforms should consider whether concessions are worthwhile, especially if the customer is willing to point others to use the platform.

The above are just some of the tactics we have experience with at Summit Health. For more information or for questions, contact us. 

Final Questions For Consideration

By this point, our hope is that it is clear that not all network effects are created equal, that there are natural characteristics that influence the strength of network effects, and that there are actions founders can take to strengthen those natural effects. 

A key question remains: when should this be a priority for a platform company?

The answer, of course, depends. Of course founders and investors should be considering these things from a very early stage, but early on the focus likely should be on many other factors as well, not least how to overcome the Cold Start problem. 

With that, if you’re wondering “When does it make sense for my company?” or “Where can I learn more?” please reach out or just book time with us. We’re nerds about all things platforms, marketplaces, network effects and business strategy in healthcare