This week Andy & Brian discuss the future of first-party B2B marketplaces and whether the model can rebound from a difficult period following years of overinvestment and low margins.

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Brian Beck: Andy Hoar, welcome to Friday 15. Great to be here with you. Welcome everyone to our weekly Friday 15 podcast, LinkedIn Live, Intergalactic Broadcast. Good to see everybody. That’s right. There are aliens in another solar system that are picking the signal up as we speak. I think so. We’ve gone intergalactic. I love it. Well, awesome. Well, thanks, everyone, for joining today. We’re excited to share some cool stuff. We’ve got a great question we’re going to be talking about today, all about marketplaces. But before we get into all that fun stuff, Andy, let’s do some breaking news. Here it comes. Breaking news. So, well, folks, I don’t know if you saw this, Andy, but AD, Affiliated Distributors, which is an industry buying group and industry association, they recently announced they’re merging with a company called iMark, which is another industry type association in the electrical category. And this is fascinating to me, Andy, because I think it signals kind of how B2B companies are really looking at building scale. And you think about distributors and think about AD as a group of distributors, affiliated distributors, and they leverage their ability to go out and negotiate with distributors. suppliers as a group. There’s hundreds of companies involved in this, many mid-market distributors, and they also have quite a bit of e-commerce capability. Caroline Ernst over there, their VP of e-commerce, has done a great job bringing capabilities to this organization. So what are your thoughts? Any reactions here? 

Andy Hoar: Yeah, we have a lot of people in our community who are in the Master B2B Forum who are members of AD. But this just reinforces the age-old… problem here for small distributors, independent distributors, which is there’s a lot to be said for specialization and for geography, but scale matters more. And especially in today’s world where you can order from anywhere and have things shipped from anywhere, it’s go big or go home. 

Brian: I also think this is a continued move to compete with new entrants in B2B like Amazon, right, where there’s a high degree of scale and selection and buying power and all those things. So just interesting to see. And I think we’re going to see more and more of this, you know, particularly amongst mid market as they try to effectively position themselves against some of the big the big behemoths out there. So our topic today is all about first party marketplaces this has been a theme for the last several years through the pandemic and we’ll share some data in a moment where the marketplace model in B2B has so much excitement, potential, but as we’ve learned, also a lot of challenges in terms of deploying. We’re going to share some data. We interviewed some folks ahead of this. The question is, is the first-party marketplace model working in B2B? So we’re going to dive into that a little bit. And just to set the stage a little bit, I wanted to share a couple of things. So there’s confusion about this. What is an online marketplace? Let’s start there. The authority of all things, Wikipedia. Those watching can see. I always go to Wikipedia, right? I mean, it is the authority, right, Andy? 

Andy: That’s right. Wikipedia or TMZ. That’s the other one you go to, right? TMZ. We’ll use them next week. 

Brian: So Wikipedia says it’s a type of e-commerce website where product or service information is provided by multiple third parties. And in an online marketplace, transactions are processed by the marketplace operator (think Amazon) and then delivered or fulfilled by the participating sellers with the marketplace operator typically earning revenue by taking a piece of the transaction. So if you’re selling on amazon you know you’re paying Amazon – usually it’s 15 percent of the transaction – you keep the rest of it basically from a retail perspective and they facilitate it. They’re the merchant of record. Now, you talked about different flavors of marketplace. Those of you who can see this, I have a chart here showing different flavors of marketplace. We’re not going to dive into all this, but the reason I wanted to share a little bit about this is because there are different types of marketplaces. And what we’re talking about today are first party marketplaces. These are marketplaces operated by a traditional B2B company like a distributor or manufacturer. Also vertical marketplaces, industry vertical marketplaces where someone may launch in metals or chemicals or fasteners or medical products, launch a marketplace that goes and tries to address the needs of that B2B buyer in that format we described. So you’ve got companies like Partstown and Zoro and Volusion and Infra.Market and others that use this model. And they tend to be somewhat, some of them often are more controlled or vetted where the sellers come in and they’re vetted before they can list on the marketplace. And what we saw through the pandemic was that marketplaces were on fire. In fact, here’s some data that shows that, and those of you looking, but I’ll describe it, shows that B2B marketplaces during COVID emerged as the fastest growing channel in digital commerce. In 2022, growing to $130 billion, up from $56 billion in 2021 – huge, huge growth numbers. And this garnered a lot of interest, Andy, from the venture capital and PE community. And so we were getting huge investments. You had companies worth billions of dollars. But since 2022, investment interest has really cooled. In fact, only four product marketplaces have received private equity investment this year. This is some data from Bowery Capital. Thank you guys for sharing this with us. They’re talking about where the investment is going in goods. This is against 11, more than 11 in 2023, and even more than that earlier during the pandemic. The investment appetite for this model has cooled dramatically. And we’ll go into why. But Andy, any thoughts on this or any comments on the data? 

Andy: I hate to use this analogy, but the marketplace frothiness reminds me a little bit of what happened during the early 2000s with the early dot-com boom. And one important regard is everybody thought they could scale and everybody thought they could win. And so during the pandemic, it was really about the endless assortment, adding more capability in terms of products, dropshipping things versus warehousing yourself. In theory, just like e-commerce back in the day, back in the 2000s, made sense for everybody to do. But what everybody was unfortunately not focused on was profit. And back in the 2000s, it was about grabbing mindshare and grabbing scale. It didn’t matter. Pets.com famously said, we don’t care about making money ever. We just want to own as much territory as we can. Well, I feel a little bit of that went on during the pandemic because the opportunity opened up. So the market is reallocating its resources like most markets do. And people are now pushing back and saying, okay, I don’t care about your GMV. I don’t care about how many SKUs you have. All I really care about in the end is what’s your profit look like? And so these guys are multiples of profit now. And I think you were going to share that there are a couple of these companies that were valued based on their GMV and not their profit. And now there’s a mismatch in the market big time. 

Brian: That’s what Bowery told us, Andy. It’s fascinating. So, you know, back during the pandemic, you know, top line, the total GMV, the merchandise value running through the marketplace was how these companies were being valued. They were conveying that Faire, which is a product marketplace for home goods and accessories, is a B2B marketplace. It was valued at something like $12 billion. But then these market dynamics shifted, and now those companies are being valued basically on their net revenue, not on the gross merchandise value, but actually what they’re earning in revenue. And it’s a tiny percentage of the total GMV, and therefore – Think again about that definition, commission, Amazon making 15% – It’s analogous to these marketplaces. Faire, I think, charges maybe 20%, something like that. But that doesn’t support a $12 billion valuation. 

Andy: So what you end up with is a situation where more like 500, 600 million based on a three X multiple of profit. So 600 million versus 12 billion. 

Brian: So it’s a tough challenge. But why are these investments down? Why is the model challenging? Well, it’s hard to scale it. And we heard this from the practitioners we talked to, and we’ll share some there, too. There’s a lot of manual process that’s pretty extensive. The notion of a marketplace like e-commerce is you can automate, digitize a lot of these steps. But what the marketplace operators have found is there’s a lot of hand-holding in onboarding suppliers and acquiring buyers. There’s just a lot of manual process. And I think this also bears out with some of the software platforms, too, with the companies that launch these platforms for manufacturers, distributors, verticals, is that even in building the marketplaces, there’s a lot of bespoke stuff that has to happen. So even the tech side is highly manual and customized, right? 

Andy: Well, all the product catalogs are different. And so you have to harmonize those. One of the amazing things about Amazon is those ASIN numbers where they’ve got a standardized universal number for everything. That’s really hard to do. Now, we’re going to talk about how maybe AI can help with that, but it’s this onboarding process is very labor intensive. And so it’s becoming more like these marketplaces are becoming like standard companies where they have a lot of account executives who are making sure the numbers or the catalogs are correct and making sure there’s a lot of care and feeding going on. And that just ain’t what tech companies are valued on. 

Brian: Well, that was the other point that Bowery made is that marketplaces are staffed like tech companies, but they don’t have the margins to support it. If you’re a SaaS company, you’re a software company, you’ve got great margins, you know, gross margins. These guys don’t have great gross margins, but they’re staffed like they do. 

Andy: So either the gross margin improves dramatically or the staffing will change dramatically. I think we know which one’s going to happen. 

Brian: We don’t have it here, but the Bowery guys also shared some data on the number of employees. And you’re absolutely right. The number of employees at these vertical marketplaces are dropping. And all this is driven by changes in valuations of these companies. And ultimately, why has investment cooled in them? Because there ain’t no exit, right? At least not right now. There’s not a strategic sort of follow on investment. So somebody gets in at a seed level. If someone invested at a seed level, it’s hard for them to get out. And then the notion of a strategic like a distributor buying a vertical marketplace in a category, I think still has a lot of promise, but it hasn’t come to bear yet. These distributors, as we’ll show you in a second, they’re launching their own marketplace. They’re just doing it themselves rather than buy somebody. At least that’s been the trend. So it’s interesting. We’re seeing the challenge in the vertical side. I think the promise is still there. And when we talk to folks like Theresa Kuske, who is the maverick, Kuske, one of our longtime competitors, combatants on our debates. She’s at Chamfr now. She joined this company from Ergodyne, which is a safety products manufacturer. She built their e-Commerce. She’s very sophisticated. She joined Chamfr a couple of months ago. Chamfr is a vertical marketplace focused on medical products. When we asked her what the top challenges were, she said, top three, lifecycle in converting new suppliers is long and takes many touches. Exactly to the point we made earlier, it’s a lot of work to get suppliers on board. Number two, building supply and demand at the same time. This is more complex than regular e-commerce because you’re dealing with multiple different sides of the equation here. 

Andy: You can’t just have a bunch of supply and no demand. You can’t just have a bunch of demand and no supply. You have to fight on both fronts. 

Brian: It took Amazon 30 years to get where it is today. This is a seriously complex business model. Managing and enhancing data from suppliers was the number three thing she listed in terms of challenges. I’ll tell you, Andy, one thing I did hear when I talked to Theresa and we talked together to Bowery and some others, there’s a bullishness though about the model. That hasn’t changed. So when we asked Theresa, what are the advantages? Well, it’s getting the buyer, it’s filling a gap early in their buying journey, getting them engaged really early when they’re getting products specified. Greater search visibility. So more exposure to Google and other search engines. They have a broad array of products. they can cover more of the market there’s a deeper knowledge also an expertise of the industry as a vertical marketplace. There’s specificity there that they can capitalize on industry and product expertise so that was Theresa’s feedback.

Andy: These are inherently fractured markets too, that’s worth mentioning. There are tons of suppliers and tons of buyers and it’s hard to establish equilibrium between the two of them. And this is why Faire, for example, has done pretty well, because there’s a lot of buyers, a lot of suppliers, a lot of groups, and that nobody brings these groups together very effectively. So, yes, in theory, this marketplace model makes sense. It’s just the reality is a little challenging. 

Brian: Well, I think it’s about scale. And you can argue that Faire has been a good success story, but they got scale. They raised a lot of money while it was still available. and they’ve really scaled the business. And you could argue that regardless of valuations and everything else, they have filled the need. They’re doing 150 or 200 or something million in GMV now, something like that. It’s significant. The other fellow, Andy, we talked with was Michael Eichinger, longtime industry pioneer, very innovative thinker. Michael’s a chief operating officer at Bay Fastening, Bay Supply, which is a traditional mid-market distributor. Michael is pushing the envelope. He was early to e-commerce. He launched a marketplace three years ago. So this is an example of a traditional B2B company. So when we asked him – what were the top challenges? He said similar things. Complicated bespoke functionality is required. No software platform fully supports industry specific needs. Now, there’s obviously marketplace platforms that get you pretty far down the road. But to your point, catalogs are different. Buying cycles are different. He cited all kinds of examples of getting requests for quotes. The quote process in his industry is really interesting and challenging and unique. Catalog management, he cited as being another challenge, including setting pricing rules. So think about the B2B buyer and getting pricing right. And you’ve got all these different suppliers, sellers selling product on your marketplace. Third thing he indicated was a buyer’s needs are different in B2B, and it’s hard to meet that in the marketplace model. But all that said, Andy, he was really still very bullish on this model. I asked him the question. I said, hey, Michael, would you do it differently? Would you do it again five years ago when you’re thinking about this? He said, no way. It’s not about the short term. This is a long-term play to accommodate the needs of the buyer. He said, I expect this to take eight years to come to fruition. And he sees this model as a differentiator. I love the way this guy thinks. If you can sustain the investment and have that kind of a vision and get your C-suite on board, right? 

Andy: I think there’s a first mover advantage here if you get enough scale. And it could be, not to use another cliche, but it could be a winner takes most scenario. And it’s possible that, for example, Bay got there earlier. But t’s funny to consider that in many places, I’ve heard people argue that marketplaces ARE what distributors do. When you describe what it is, where you’re aggregating suppliers on one end and buyers on the other, isn’t that what a distributor already does? And I think the challenge is that with a lot of these distributors in those environments, they’re low, low margin businesses. And I think many companies were hoping that a marketplace would, because they could reduce the cost, they could increase the scale, but mostly reduce the cost so they could change the profit picture and increase their margins. And that I think is the part that has not borne out yet. 

Brian: I agree with you, the inventory light model. Look at the big some of the big guys like Grainger with Zoro. They attribute an enormous amount of their growth to this notion of extended assortment. Grainger came out with the stats that 19 percent growth. year over year came specifically from extending the assortment through e-commerce. And that part of that in the world of Zoro, at least, is coming from a marketplace model. So I agree with you. I think there’s a real value to distribution in this model. But again, it isn’t it isn’t a panacea when it comes to margin. That’s for sure. 

Andy: Well, why does it work? We’re speculating here, but I think you would find that part of the reason why a Zoro works is because they curate a lot of what they do, which is a unique value proposition. They don’t just throw everything out there. That’s one thing, but it also helps. And you’ve got big brother there with Grainger because they can cheat. And I use this term in a flattering way, they can cheat on both ends of that equation in terms of the suppliers. They gave them a lot of suppliers. In terms of the buyers, and they were hoping to go after a new market, but they brought a lot of buyers to the table too. So they were able to make this marketplace model work a little bit better because they had the help of, they could stand on the shoulders of Grainger to some extent. 

Brian: Well, so the key question here is, and we now know, having gone through it, that the challenges have a lot to do with onboarding data and suppliers and things like that. The key question is, can AI change the trajectory of both the first party and vertical marketplaces by addressing some of these fundamental challenges? Andy, any thoughts? 

Andy: Onboarding, maybe. I don’t know about the other part of it, but if there’s any hope, it’s really the onboarding part. And I’m in wait-and-see mode because I still think there’s a lot of complexity, as Michael pointed out. There’s a lot of bespokeness about this, and we’ll see if AI can deliver on that or not. I’m hopeful, I think eventually, but if people are expecting that AI is going to change the margin picture here, I doubt in the short term that’s going to happen. 

Brian: Yeah, I’m with you. I’m with you on that. All right. So we’re at Friday 20 here. So let’s let’s wrap up with our poll and a couple other quick announcements. So we asked the LinkedIn community, what’s the status of the first party company owned marketplace model in B2B? And there’s still, a lot of 38 percent said, hey, we thought we still think it’s growing. But, over 50 percent said plateauing or growing or slowing. Excuse me. Plateauing or slowing. And 13 percent thought it was going away completely. I don’t agree with the 13 percent, but I definitely think we’re in a slower period for sure. 

Andy: 62 percent are saying not growing. That’s the headline here. And I think we’re going to see. But I think it was maybe overinvestment. A lot of froth around this and so it will equilibrate over time, but when we do this again in a year or two I think we’ll get a better picture on this.

Brian:  I think so I’m really still very bullish and hopeful and supportive and optimistic for folks like Michael and Theresa and Julie and all the folks at Chamfr as well because I think it’s just that the tenacity is what’s required. So there can be winners here, but it’s going to take doubling down on some stuff and some fortitude.