How do you build network effects into a business?

A founder asked me this question and it’s a great one. So here’s an answer. If you have other questions, please just reply! I get a lot of responses to these emails and knowing that they are useful makes them much, much more fun to write. The only thing that’s better is questions about what to write about next 😉.

What are network effects and why are they important?

Network effects occur when your product or service becomes increasingly valuable as more people use it. Network effects can also create distribution. For B2B products you can absolutely have network effects within a single customer and in the broader marketplace.

Network effects are behind some of the most successful businesses of all time: Microsoft, Meta (aka Facebook), YouTube, Google, Bloomberg, Walmart, etc. Distribution network effects can lead to the kind of hyper growth VCs dream of. Docusign, for example, grew because someone would receive a request for a signature, and then sign up. Evite had a similar growth pattern for invitations.

The thing with distribution network effects is that they work for anyone in the space. HelloSign launched and benefitted from the same tailwind as Docusign. Paperless Post grew the same way Evite did–and tools like Partiful or Lu.ma are growing the same way today. SurveyMonkey grew to $20+ million in revenue with a handful of people and no marketing or VC, but later entrants (TypeForm, for one) rode the same distribution network effect to displace it.

Reducing customer acquisition costs is a great thing. But the network effects you really want are like Facebook or LinkedIn: the more people join, the richer the network becomes for each user, or the better the product becomes. Retention network effects.

Retention network effects aren’t limited to social media—they show up in less obvious places. Adobe and Microsoft's dominance stems partly from industry-wide adoption, creating a standard that newcomers naturally gravitate toward. Microsoft also encouraged development on its OS, so that more and more companies needed Windows to run other programs. Even though Linux was free, because it wouldn’t run your favorite Windows programs–it didn’t displace Microsoft Windows.

In SaaS there are many less obvious examples. Carta benefitted from both kinds of network effect, distribution and retention. Investors would discover Carta because startups would invite them to track their shares on it. Early on it took some convincing–but not much. Then new startups would be directed to Carta by their investors (or lawyers) who were using it, creating both distribution and retention network effects. Eventually competitors emerged, and were able to gain share using the same distribution network effects–but this is a “winner takes most” market, and Carta has continued to innovate and maintain market share.

Single player and multiplayer experiences

Single player refers to applications or products that are useful on their own. Photoshop, for example, has a great single player experience: you can create digital designs or edit photographs. Quickbooks, similarly, let you keep your books digitally and saved you (or your accountant) a lot of time on double entry. Single player apps can build communities or user bases that are loyal and reluctant to try alternatives. Just try to get your accountant to try a new accounting software and see what happens.