EIS Final Project: Airbnb

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EIS Final Project: Airbnb
EIS Final Project: Airbnb

Matt Consigli, Matt Gallagher, Mukul Kumar, Nishant Mehta, Justin Purnell, Ross Templeton
                                      11/11/2012
EIS Final Project: Airbnb
Value Proposition

           In 2007, designers Joe Gebbia and Brian Chesky were struggling to pay rent in their native San

Francisco when an upcoming design conference had fully booked the city's hotel rooms. Thinking they

might be able to house a few conference participants on air mattresses in exchange for rent money,

Gebbia and Chesky launched airbedandbreakfast.com.1 When, six days later, they had three guests

paying $80 per night for an air mattress on their floor and breakfast, they knew they had something.

Joined by programmer Nathan Blecharczyk, they hurriedly redesigned and expanded their site for

another hotel-swarming event, the 2008 Democratic National Convention in Denver. Launched two

weeks before the August convention, within a week, they had 800 listings.2 Airbnb was on its way.

           Airbnb.com was an unwitting pioneer in what is now known as the "Collaborative Consumption"

space, sometimes known as the "Sharing Economy." By using technology to create a multi-sided

platform for owners and users to connect, and enable underutilized resources to be used by people who

need them, only when they need them. By eliminating the need for everyone to own an expensive

resource like a car, such as ZipCar does, they can lower the transaction costs for everyone as the

network grows.

The Hotel Industry

           The traditional hotel industry is familiar to most travelers. Hoteliers have a set inventory of

rooms that they rent out on a nightly basis at rates that vary from cheap to affordable to exorbitant

based on a variety of factors, but namely occupancy, with the intention of maximizing their revenue per

available room ("RevPAR" being the industry term). While every hotelier has their own pricing model, as

a rule, pricing is largely opaque to the traveler, though many websites exist that compare pricing and

aim to drive the rental rate for a particular room down to a hotel's "best offer." However, hotels are

1
    (Salter, 2012)
2
    (Salter, 2012)

                                                                                                        1
EIS Final Project: Airbnb
largely in city centers, their offerings are largely standardized and generic, and, given the number of

options, travelers can rarely feel like they "got a deal."

           Airbnb’s aim is to disrupt the traditional hotel industry. Their website acts as a multi-sided

platform for the "living space" market. Hosts can list their available space–from an unused bedroom to

their entire home–on the site, for a night, a week, or a long-term rental for 3% of the booking price.

Travelers can then choose from an inventory of spaces that suit their particular travel needs at an

agreed-upon price, with up to 15% of the booking fee going to the site as intermediary.3

           As the Airbnb network grows–in January 2011, the company had one million bookings, by July of

that year it had doubled to two million, by the end of 2011, it had five million, and in June of 2012 hit 10

million–it steeply lowers the transaction costs associated with finding a living space. Traditional hotels

are forced to compete both on price against a rapidly growing inventory of distinct properties,

particularly in urban areas where the cost of expansion is high, and during times when their own

inventory is lowest.

           Significant transaction costs also exist in terms of vetting the quality of both the property and

the person who will use it. After a high-profile disaster in which a renter’s home was destroyed by a

tenant, and her blog entry about it went international, Airbnb has increasingly taken on the role of risk

mitigant. Airbnb photographs new listings professionally, insures the property for the host up to $1

million, and their customer service helpline quickly addresses the concerns of travelers who arrive at a

room that does not meet its billing on the site. Moreover, in terms of monitoring and enforcing

compliance, the company uses an extensive reputational review system for hosts and allows them to

collect significant information on potential renters to help ensure that the tenant's motives are clear,

and that the tenant's guests are similarly well-intentioned.

3
    (Airbnb)

                                                                                                          2
Airbnb's final role in lowering transaction costs is to help negotiate the contract between buyer

and seller. Before accepting a request, a host and guest are allowed to exchange messages through the

site, but Airbnb has developed an algorithm to block messages containing phone numbers or email

addresses. If a host accepts a request, Airbnb authorizes payment and provides the traveler’s email

address and phone number, with payment arriving to the host via check, direct deposit or PayPal.4

         Airbnb's value proposition is easy to understand for both buyers and sellers. For potential hosts,

it allows them to monetize a previously underutilized space within their home (or other property–sellers

have rented out private islands, tree houses, caves, and boats) with a vetted paying guest for any

amount of time they'd like. If you find yourself called away on business and don't need your apartment

for a week, why not rent it out? For travelers, the value proposition is equally clear. While hotels offer a

consistent and generally reliable experience, the inventory is limited, the pricing is opaque, and rooms

can be generic. Why not rent a nice apartment for yourself for a fraction of what it would cost to stay in

a hotel?

Market Opportunity

         At its founding in 2007, Airbnb’s room leasing model posed a threat to existing hotel room

capacity, as the potential for a flood of newly available rooms could meaningfully reduce the value of

existing supply. Given the large size of the U.S. hotel market - $125.2 billion5 –the market opportunity

for Airbnb and its host partners was immense.

The U.S. Hotel Market

         In late 2007/early 2008, the U.S. hotel market was in relatively strong condition. Over the

previous five years, the market had grown by a cumulative 16.2% and had reached peak revenues of

$125.2 billion by the close of 2007.6 At the close of 2007, national occupancy rates stood at 63.1%,

4
  (Airbnb)
5
  (IbisWorld, 2012)
6
  (IbisWorld, 2012)

                                                                                                          3
slightly above historical averages.7 Despite the strong performance of the market through 2007 and

early 2008, macroeconomic uncertainty loomed on the horizon. Nevertheless, several large deals,

including The Blackstone Group’s June 2007 acquisition of Hilton Worldwide, suggested that global

investors remained bullish on the sector.

Hotel Market Players

        At the end of 2007, the U.S. hotel market was tremendously fragmented, with 48,757 different

establishments operated by 40,284 different corporate entities.8 The roughly 49,000 properties were

divided into three main categories – company owned hotels (e.g. owned and operated by the hotel’s

brand owner), franchised hotels, and independent hotels.9 At the beginning of 2007, approximately 70%

of U.S. hotel rooms were operated by franchise owners, 12% were operated by brand owners, and the

balance were independent. 10 Branded hotels (franchise/brand operated owned) were the most

profitable portion of the market through the 2000s, with average net operating income exceeding that

of independent hotels during the 2002 – 2008 period.11 Branded hotels were able to generate higher net

operating income by taking advantage of customer loyalty programs, more sophisticated revenue

management techniques, and through their ability to access large national reservation systems.12

Independent hotels did not enjoy these advantages, and as a result, tended to deliver lower profitability

numbers than their branded peers.

        Despite relatively low levels of industry concentration, U.S. hotels produced surprisingly high

levels of operating income between 1995 and 2006 – generating pre-tax income between $12 and $22

billion each year.13 Such numbers seem high given what many would describe as high levels of industry

7
  (American Hotel and Lodging Association, 2008)
8
  (IbisWorld, 2012)
9
  (Kalnins, 2006)
10
   (Kalnins, 2006)
11
   (O’Neill & Carlbäck, 2011)
12
   (O’Neill & Carlbäck, 2011)
13
   (Kalnins, 2006)

                                                                                                       4
rivalry. However, a closer examination of the industry shows that within local markets, levels of rivalry

are generally lower – allowing for relatively high profitability.14 Survey data shows that most hotels

believe they have only four or five true rivals in their market.15 This suggests that local markets are often

oligopolies, allowing hotel owners to charge higher rates than could be expected given the high levels of

rivalry in the national hotel market.16

U.S. Hotel Guests

          U.S. hotel guests fell into two distinct categories – leisure travelers and business travelers.

Business travelers represented 44% of total travelers in 2007, paying an average of $119 per room.17

These customers were typically less price sensitive than leisure customers and tended to be loyal to

large national brands.18 Leisure travelers represented 56% of total travelers in 2007, paying an average

of $109 per room.19 Such customers were generally more price sensitive than their business travel

counterparts and tended to be less loyal to national brands.20

Market Analysis: Airbnb Opportunity

          An assessment of the hotel market shows that Airbnb had a potentially compelling market

opportunity at its founding in 2007. The firm was entering a large and profitable market with a new

value proposition that would be attractive to the industry’s largest customer segment – price sensitive

leisure travelers. By offering a new supply of rooms in markets across the country, Airbnb had the

potential to disrupt local hotel oligopolies and offer consumers a lower cost alternative to traditional

hotels.

Ecosystem Analysis

14
   (Kalnins, 2006)
15
   (Kalnins, 2006)
16
   (Kalnins, 2006)
17
   (American Hotel and Lodging Association, 2008)
18
   (American Hotel and Lodging Association, 2008)
19
   (American Hotel and Lodging Association, 2008)
20
   (American Hotel and Lodging Association, 2008)

                                                                                                           5
Adventurous Travel Accommodations before Airbnb

           Traditionally, US travelers seeking unique, personal accommodations have had relatively few

options. For those who wish to avoid the pervasive large hotel chains in favor of something that feels

more distinctly local, boutique hotels, motels, hostels, inns, and bed and breakfasts (“B&Bs”) have long

been the most readily available alternatives. In particular, B&Bs provide adventurous travelers with

benefits not available through standard hotels, such as the chance to have personal interactions over

shared meals with hosts and other guests. This model has developed a strong niche market in the US,

with some fifteen to twenty-thousand B&Bs operating nationwide21.

           While the process might initially seem simple, Appendix 1 illustrates the many requisite steps

involving various parties for a traveler to find and stay at a B&B. First, the traveler must find the B&B.

Today, this is increasingly done through online search engines, such as Google. These searches can lead

users directly to a B&B’s website if the search criteria are specific, but more commonly lead to a number

of listings pages, such as Homeaway’s BedandBreakfast.com. These listing sites sort B&Bs by location,

price, and other features to help travelers select accommodations, and some provide online room

booking services. From the listing sites, travelers investigate the websites of individual B&Bs. To ensure

that travelers will find their site, B&Bs undertake a series of steps. The B&B owner/operator must first

create a website, often by contracting with professional photographers and web designers. The website

must then be marketed, for which purpose many B&Bs join associations and purchase online

advertising. Of course, the B&B must also focus on its day-to-day operations, ensure that it has

adequate liability insurance coverage, and even map out and recommend local businesses and eateries

for visiting guests. Once their stay is over, many guests write B&B reviews for websites like TripAdvisor,

for the benefit of other travelers.

The Airbnb Ecosystem – Adoption Strategy

21
     Professional Association of Innkeepers International

                                                                                                        6
Airbnb is bringing disruptive innovation to the unique travel accommodations market and, to a

lesser extent, the traditional hotel accommodations market. To deliver on its value proposition, Airbnb

has rearranged several of the players in the ecosystem, brought in new players, and removed others. In

addition to these planned strategies, the company has also relied on recent trends. This business model

might not have been successful even a decade ago, but developments in technology, shifts in cultural

norms, and economic realities in the US and other developed nations have paved a way for the

emergence of Airbnb. Appendix 2 shows the Airbnb ecosystem.

           Many of the actors in the Airbnb ecosystem did not require significant influence to change their

participation. For example, third party service providers such as contracted photographers are likely

relatively indifferent between working for individual B&Bs in the old ecosystem and working for Airbnb

in the new ecosystem.        These companies and freelancers likely benefit from the overall market

expansion and increased work opportunities, but they were already happy and active ecosystem

participants before the emergence of Airbnb. However, it is significantly more interesting to look at a

few of the key players Airbnb has actively managed to better understand how the company developed

its ecosystem:

Hosts (homeowners or renters): Moved from Red to Green in the adoption chain

       Airbnb’s most unique characteristic is arguably its proposition that anyone with a spare bed (or

couch, airbed, etc.) can convert their space into a profitable B&B overnight. This premise is at the core

of Airbnb’s offering, as the company must build an adequate base of supply (hosts) to attract and satisfy

demand (guests). However, attracting hosts also represents the company’s greatest challenge. Airbnb

is still improving in its ability to attract and retain hosts, but it has already seen remarkable success with

over 5 million room-nights booked, as well as hosts in over 19,000 cities across 192 countries22. The

22
     (Taylor, 2012)

                                                                                                            7
company’s success has hinged, in large part, on its ability to attract hosts by addressing their needs and

concerns:

   Safety and security

    For many potential hosts, the idea of letting someone you don’t know personally stay with you, in

    your home, triggers significant questions about safety and security. Airbnb addresses these issues

    by providing a suite of support services to mitigate concern and address any issues that might arise:

        o   When listing their accommodations, hosts answer a series of questions to restrict the types

            of guests they are willing to host, as well as the terms of the stay. These guidelines are

            posted to the accommodation listing.

        o   Guests can be required by hosts to post a security deposit (held by Airbnb).

        o   Hosts are covered by a $1 million umbrella insurance policy backed by Lloyd’s of London for

            guest damages.

        o   Detailed guest profiles, including validated emails and phone numbers, linked Facebook

            accounts, guest photos, and even reviews from other hosts who have previously interacted

            with the guest are made available to the host before a reservation is made. Privacy controls

            allow each host to limit what information is available to potential guests before the host

            accepts a request for reservation.

        o   In-site messaging platforms (chat and video-chat services hosted through Airbnb.com) allow

            guests and hosts to interact, get to know each other’s needs and preferences, and set

            ground rules before a reservation is made.

        o   A 24/7 support line is available for host and guest concerns.

                It is interesting to note that many of these measures were developed after the home of

                an Airbnb host in San Francisco was vandalized by guests in mid-2011. The company

                faced significant public scrutiny after the incident and even issued a public apology.

                                                                                                         8
   Communications and logistics

    Airbnb simplifies and guides the communications process to minimize headache for potential hosts.

    A few key elements of Airbnb’s process include:

       o   Airbnb listings pages display key logistical information such as approximate location (specific

           location is revealed once the booking is finalized), availability, pricing by date, check-in and

           check-out times, house rules, and amenities. This information is organized in a simple,

           standard design, preempting questions from potential guests and reducing the need for

           email or phone contact.

       o   Airbnb uses a sophisticated smartphone application and simple text messaging to keep

           hosts informed of inquiries on their listings. Airbnb.com also features several easy-to-use

           tools for hosts to track listings’ performance and history.

   Planning and pricing

    Airbnb reduces the burden that would otherwise be placed on hosts to determine how to best list

    their rooms, set prices, and even host their guests. The company provides best practices in all of

    these areas to maximize host engagement and ensure a consistently positive guest experience.

       o   Airbnb provides a “Quick Start Guide to Hosting” as a downloadable PDF file on its website.

           The file is filled with tips, checklists, and other information to help hosts set up their listings

           and provide a great guest experience.

       o   Airbnb.com and the mobile application offer price guidance based on a home’s value or

           equivalent rent, helping hosts determine a reasonable nightly rental rate. Suggested rates

           are also provided for longer-term rentals.

   Marketing

                                                                                                            9
Airbnb hosts play only a minimal role in the marketing of their listings. Airbnb markets itself

           heavily, driving travelers to the site and mobile application. It also provides a number of tools to

           help hosts make their listings as attractive as possible.

           o   Listings sites are well-integrated with social networking platforms like Twitter, Pinterest,

               Google Plus, and Facebook. While this does serve to improve security by allowing hosts to

               see potential guests’ shared connections, it also provides a valuable marketing tool as

               guests share information within their personal networks about their favorite host listings.

               The “Wish List” feature also allows guests to flag and share listings across social networks.

           o   Airbnb’s web design is cutting-edge, thanks to the company’s strong team of designers and

               developers (and a few open-sourced code contributions). One example is the “infinite

               scrolling” characteristic: as travelers browse through listings, they can scroll down the

               website page seamlessly, surveying an endless stream of high-resolution photos. These

               types of features improve the user experience, keeping users engaged with the site and

               transforming the act of finding accommodations from a necessary task into an enjoyable

               activity. In turn, hosts benefit from their private access to this highly-engaged pool of

               travelers23.

           o   Free professional photography services can be arranged directly through Airbnb, allowing

               hosts to easily build a professional looking listing. This is a clear advantage for hosts

               considering other options such as Craigslist for finding a short-term renter or sublease.

Travelers: Moved from Red to Green in the adoption chain

           Travelers’ demand and preferences for unique accommodations aren’t new developments, but

there is significant trepidation from travelers in staying in someone else’s home. Airbnb had several

levers to manage to entice travelers to use their collaborative rental service.

23
     (Kuang)

                                                                                                           10
First of all, Airbnb is relatively inexpensive for the traveler. Unlike hotels, Airbnb doesn’t incur

the typical expenses of housing and accommodating travelers like cleaning, maintenance, utilities, etc.

Furthermore, Airbnb‘s hosts aren’t in the business of maximizing profits like hotels. They are simply

looking to augment their income while they’re out of town. As a result, many of the listings on Airbnb’s

site are priced below-market. Travelers have the opportunity to visit a new city, travel the world, and

create new memories at a fraction of the price.

        Next, Airbnb is easy to use and is configured to draw the user in. The company uses high-

quality, professional photographers to catalog its listings. The user sees crisp, stunning photos of their

destination and becomes immersed in where they’re going. As mentioned, the “infinite scrolling”

feature on the site allows users to flawlessly scroll through hundreds of listings and photos without a

hitch. This turns browsing into an experience and keeps the user immersed in the activity. Once a

transaction is finally complete, Airbnb offers top-notch customer service. They broker all money

transfers between travelers and hosts, reducing the hassle and uncertainty of payment and removing

risk for the parties involved. The company also offers 24/7 customer support to help resolve conflicts.

        Finally, Airbnb has made their service social rather than search-based. Piggy-backing off the

trend of social networking and the rise of companies like Facebook, Twitter, Pinterest, etc., Airbnb is

striving to create a community and make the rental system a personal experience. The site encourages

reviews of hosts and travelers to enhance travel planning and help weed out bad seeds. Airbnb also

surveys its hosts to provide local recommendations for specific cities. The “Local Lists” are intended to

improve the experience of people visiting a city for the first time. By having a great time the first time

around, travelers are likely to return to a city and return to the Airbnb site. The website also has “Wish

Lists” which are lists of alluring locations that users create themselves. By tagging these locations with a

heart, instead of the typical star, Airbnb found that engagement sky-rocketed.             The heart was

                                                                                                        11
aspirational, not a generic web shorthand24. The Wish Lists are collaborative and can be linked to

Facebook or other social networking accounts. This helps to grow the Airbnb community and makes it

more of a destination site, somewhere where people will go for fun instead of just a place to book a

room.

Online Marketing: Green in the adoption chain

           Airbnb’s collaborative sharing model in the home rental space is revolutionary. This service was

previously unknown to travelers. Collaborative sharing requires sufficient scale and networking effects

or the business model cannot succeed. Therefore, one of the greatest challenges on Airbnb’s part was

spreading awareness for and educating consumers about the service. Google has the best targeting

tools in the online space and Airbnb utilized Google Display Network and TrueView video ads on

YouTube to try to attract and retain the right customers.          By using visual ads to showcase the

uniqueness of Airbnb’s rental accommodations and its global scale, the company was able to target the

right customers internationally. The ads allowed Airbnb to show, rather than tell, consumers how their

company is different. TrueView videos provided for short, thorough explanations of the new service.

Finally, Airbnb used remarketing to re-ignite interest from past customers to get them back to the site to

search for more rentals. The strategy worked and Airbnb, with Google’s help, was ultimately able to

increase the number of nights booked from 800,000 to 2 million (at the time)25.

Insurance Providers: Green in the adoption chain

           Trust is imperative for Airbnb’s hosts. There is great risk in inviting an unknown traveler into

your home amidst your valuables and cherished possessions and mementos. Airbnb is responsible for

upholding the “triangular trust” between the company, travelers, and hosts. Airbnb learned this the

hard way in June 2011 when a host reported that a renter trashed her apartment, her belongings, and

stole valuables and sensitive personal documents.

24
     (Kuang)
25
     (Google, 2012)

                                                                                                        12
“They smashed a hole through a locked closet door, and found the passport, cash,

         credit card and grandmother’s jewelry I had hidden inside. They took my camera, my

         iPod, an old laptop, and my external backup drive filled with photos, journals…my life.

         They found my birth certificate and social security card, which I believe they

         photocopied – kindly using the printer/copier I kindly left out for my guests’ use…”26

         Airbnb hadn’t historically taken financial responsibility for such incidents, but when other

episodes started emerging the company clearly needed to act. The key was to add a new player to the

ecosystem, the insurance provider. Airbnb first offered a $50,000 blanket guarantee on personal

property, the Airbnb Guarantee. They then upped this plan, in partnership with Lloyd’s of London, to

cover up to $1 million in property damages to every host free of charge, the Host Guarantee27. The

move was unprecedented for both Airbnb and Lloyd’s. It has offered peace of mind to Airbnb’s hosts,

made it easier for new hosts to opt in to the system, and has even allowed the company to move

“upscale” to the realm of castles, yachts, etc.

Venture Capitalists: Moved from Red to Green in the adoption chain

         Like most start-ups, survival and success is greatly dependent on getting enough capital from

the right investors. Airbnb would not be around today, and will not grow into the future, without its VC

partners. Finding partners at the company’s outset was no easy task however. Some of Silicon Valley’s

most well-respected VCs (15 A-list investors by some counts)28 passed on Airbnb in 2010, never

fathoming that travelers would want to stay in some stranger’s bedroom, or that someone would be

crazy enough to rent it out in the first place.

         “You have two designers?” With this question most meetings in the early days abruptly ended.

The Silicon Valley culture is much more welcoming to MIT than RISD, the co-founders’ alma mater.

26
   (Arrington, 2011)
27
   (Airbnb)
28
   (Carr)

                                                                                                     13
Investors were scared off by a team that had no businesspeople, one just-hired techy, and two guys who

“made things pretty.29” So how did the company finally get investors on board? Ironically, creativity

and design saved them.

            In the summer of 2008 Airbnb was running out of cash. Generating just a few hundred dollars a

week and already facing mounting credit card debt, the co-founders desperately needed another source

of funding. In the midst of the 2008 presidential election, the company created two Airbnb-branded

cereals, Obama O’s and Cap’n McCain’s. The team found a manufacturer to create custom boxes,

bought generic Cheerios and Chex, and repackaged the cereals to sell online for $40/box. The plan

received nationwide news coverage and the attention of several celebrity enthusiasts. By the end of the

election, Airbnb raised $30,000 and more importantly, finally caught the attention of investors30.

            In November, 2010, the company raised $7.2MM from Y Combinator, Sequoia Capital, Greylock

Partners and Youniversity Ventures. Said Paul Graham of Y Combinator, “Those guys were animals. It

was certainly the first time we funded a startup that had two designers and one hacker.31” Airbnb was

off and running and one year later they secured an additional $112MM in financing from Andreessen

Horowiz, DST Global and General Catalyst, valuing the company at $1.3Bn.

            While these company-driven innovations have been critical for engaging hosts, Airbnb also

relied more passively on several growing trends to support their business. First, the emergence of social

networks and social media is gradually altering people’s perception of privacy. Platforms like Facebook

and LinkedIn are increasing people’s level of comfort with sharing personal information and reducing

barriers to interaction with second and third degree network connections. This growing comfort in

informational sharing is critical in Airbnb’s model as it allows them to establish a sufficient level of

credibility and trust between strangers. Second, Airbnb benefitted from a growing trend of adventurous

29
   (Carr)
30
   (Carr)
31
   (Carr)

                                                                                                      14
travelers seeking unique accommodations through couch-surfing or vacation home rentals. Websites

like couchsurfing.org and VRBO.com (Homeaway’s Vacation Rental By Owner) emerged in the late 1990s

to support and popularize this trend.             As travelers began connecting and even arranging

accommodations through these platforms, the benefits and risks of this model became more and more

apparent. Airbnb not only leveraged the momentum of this “peer-to-peer” travel accommodations

model, but was also able to learn from the successes and mistakes of these earlier movers. Third, and

finally, economic pressures likely strengthened the market for Airbnb, especially in the company’s

earliest stages. Founded in 2008, Airbnb grew its user base in the wake of a global financial crisis. High-

unemployment and reduced household incomes in many developed nations, including the U.S.,

increased the attractiveness of saving money while traveling and making additional income by renting

out spare bedrooms. As Airbnb developed, the company moved to diversify into more expensive, high-

end offerings such as rentals of castles, mansions, and private islands. However, the founders still

acknowledge the importance of financially-troubled hosts in providing a strong base of supply, especially

in the company’s early years32.

The Airbnb Ecosystem – Co-Innovation Strategy

           Due to Airbnb’s remarkable timing for market entry, there was relatively little and quite

manageable co-innovation risk.        Services like Google’s Display Network and Facebook were well-

established and easily integrated. Photographers already had high-end equipment and the ability to

capture pristine photos and the company’s web design was managed in-house. This leaves only

insurance and local attraction reviews as viable co-innovation risks.

           Airbnb’s $1 million insurance policy is not only the first of its kind, it is also offered free of

charge to its customers. The company was able to accomplish this by teaming up with exactly the right

partner. Whereas most insurance companies would decline this product due to its seeming riskiness,

32
     (Hindman, 2012)

                                                                                                          15
Lloyd’s of London is known for accepting complex and unorthodox risks. One insurance expert called it a

brilliant move on Airbnb’s part and that “no other insurance company would have touched this with a

180 foot pole.”33

           The plan works because the Host Guarantee stipulates that if an event occurs the host must first

approach the guest seeking damages, must then approach their own homeowner’s or renter’s insurance

provider, and then can approach Airbnb. Some may argue that this makes the policy a bit of a gimmick,

but the proliferation of new listings in the time since its adoption is undeniable. The company also

insists that instances of damage remain an aberration.

           With regards to enhancing Airbnb’s service through reviews of local attractions, the company

has largely “outsourced” this innovation to its hosts and guests. Although Airbnb recently purchased a

restaurant review service to help in its efforts34, the ongoing cultural shift to social networking,

collaborative consumption, and online customer feedback has led the charge for Airbnb in this realm of

its business. The growing network of US and international hosts and travelers should help make

Airbnb’s review service more robust as time passes.

Analysis of Airbnb Business Model

           Airbnb’s success since its 2007 launch has been remarkable. Few could have imagined at

Airbnb’s founding that three inexperienced business people could grow their start-up from nothing to a

$1.3 billion valuation within just five years. This breathtaking trajectory leads to a key question – how

was Airbnb able to deliver such incredible amounts of value creation in such a short amount of time?

           Airbnb’s success seems to hinge on three main factors – the firm’s position as a “best mover” in

the room leasing industry, its ability to effectively reposition risks within its ecosystem, and its ability to

sequence success – consistently adding features that built on its initial footprint.

33
     (Olanoff, 2012)
34
     (StrategyEye, 2012)

                                                                                                           16
The Best Mover, Not the First

           At its founding in 2007, Airbnb was not the only player in the room-rental industry. Other

players, such as Craigslist or bedandbreakfast.com had already entered the market and were acting as

intermediaries between travelers and hosts across the globe. Despite this first mover advantage, neither

firm enjoyed the success of Airbnb, suggesting that the room rental industry favors “best movers” over

“first movers.”

           A closer examination of the industry at Airbnb’s founding shows that the room rental

intermediary space is generally unfavorable to first movers. In particular, traditional (scarcity of inputs,

cost differentials) and strategic sources (size of the market and the simplicity of the product) of first

mover advantage are generally unfavorable in the room rental intermediary space. While new economy

sources of competitive advantage show a potential advantage for a first mover, none of Airbnb’s initial

competitors had meaningful network effects or lock-in traps that would have allowed it to build an

easily defensible competitive position in the marketplace.

                                                       Favorability
                       Advantage source                                                   Notes
                                                         for FMA
                                                                       Hosts and guests are available in plenty
                           Scarcity of inputs         Low              both in domestic as well as international
                                                                       markets.
                                                                       Product development costs - Usually
                                                                       reduce as the products become simpler
       Traditional                                                     and development costs go down with
                                                                       new technology advances.
        Sources
                           Cost differentials         Low
                                                                       Customer acquisition costs - Airbnb grew
                                                                       their initial user base almost completely
                                                                       on the back of craigslist35. Its competition
                                                                       can also use similar channels to acquire
                                                                       customers.

35
     (Balfour, 2012)

                                                                                                        17
Although the switching costs were low
                                                                     initially, Airbnb has increased them by
                     Switching costs                Moderate
                                                                     implementing reviews and detailed
                                                                     profile options in the product.
                     1. Efficiently sized                            The market is quite large and the product
 Strategic sources                                  Low              can also have multiple differentiation
                     2. Simple product                               factors.
                                                                     Airbnb platform has significant direct and
                                                                     indirect network effects between hosts
                     Network effects and critical
                                                    High             and guests. Over time, it has attained
                     mass
                                                                     critical mass in terms of number of active
                                                                     users.
  New Economy                                                        By collecting a lot of information from its
    sources                                                          users, Airbnb has created an incentive for
                     Lock-in traps                  Moderate
                                                                     its users to remain on the Airbnb
                                                                     platform.
                                                                     Regulatory environment will affect
                     Private vs public standards    Low              Airbnb and its competition in a similar
                                                                     manner.

        As it entered the market in 2007, Airbnb took advantage of the fact that success in the room

rental intermediary market was not dependent on first mover advantage, but rather on best mover

advantage. Airbnb created a website that meaningfully improved on the offerings of competitors.

Craigslist’s inability to offer customers a guarantee of quality prevented it from gaining share in the

market, as both hosts and travelers were unwilling to risk dealing with unsatisfactory counterparties.

Airbnb was able to circumvent these concerns by creating an elaborate review system that allowed both

hosts and guests to better vet potential accommodations and customers. This innovation allowed

Airbnb to gain the trust of the two key players in the ecosystem – hosts and guests – and take share

from Craigslist.

        In addition to its development of a powerful vetting scheme, Airbnb also improved upon the

offering of bedandbreakfast.com by aggregating a larger, more efficiently sized collection of rooms for

rent. Bedandbreakfast.com and other similar sites offered a stable of rooms located in small inns across

the United States. While the collection of inns was certainly heterogeneous, the variety of offerings

                                                                                                      18
provided by these competitors did match that of Airbnb. Airbnb’s ability to offer a unique travel

experience – from a loft in SoHo to a Boeing 727 in the Costa Rican rain forest36 – allowed it to gain

share from the bed and breakfast aggregators.

           By entering the market after Craigslist and bed and breakfast reservation aggregators, Airbnb

was able to deliver a service offering that was best in class. The firm was able to offer hosts and guests

alike the opportunity to vet their counterparts – something its competition was unable to do.

Additionally, Airbnb’s ability to quickly build a wide variety of room offerings allowed it to unseat

existing competitors and offer guests the opportunity to experience unique travel experiences. By being

the “best mover” Airbnb was able to build a dominant market position that few can challenge today.

Effectively Repositioning Risks in the Ecosystem

           Airbnb’s success is also attributable to its ability to transition risk from its two most important

constituencies – guests and hosts – to other portions of the ecosystem. This transition of risk made

Airbnb an invaluable intermediary in the room rental ecosystem and cemented its position as a powerful

platform that all market participants rely on to make the room rental transaction process as painless as

possible.

Risk                      Traditional Room Rental           Airbnb ecosystem           Notes
Poor Quality                Risk bearer – Renter           Risk bearer – Airbnb        Review system
Rooms (Traveler)             Risk profile – High            Risk profile – Low         provides quality
                                                                                       signal
                                                                                       Airbnb provides 24/7
                                                                                       customer service to
                                                                                       guarantee quality
Security and                 Risk bearer – Host            Risk bearer – Airbnb        Airbnb covers
safety accidents             Risk profile – High             Risk profile - Low        property loss or
(Host)                                                                                 damage due to theft
                                                                                       or vandalism caused
                                                                                       by an Airbnb guest
                                                                                       for up to $1M37.
                                                                                       Airbnb allows hosts
                                                                                       to vet the quality of

36
     (Airbnb.com)
37
     (Airbnb)

                                                                                                           19
users through
                                                                                 reviews, profiles, etc.
        At Airbnb’s founding in 2007, the cost of a host and a guest transacting on a room rental was

prohibitively high. Travelers were generally reticent to rent from homeowners or apartment owners, as

they had no ability to differentiate between the quality of offerings listed on Craigslist or other room

rental services. This combined with a lack of a meaningful recourse option for travelers to make the

potential costs of renting a room dangerously high. No traveler wanted to spend their money on a room

in an unfamiliar geography that was not up to their standards. As a result, travelers generally did not

rent single rooms in homes or apartments. Airbnb recognized this hurdle and offered a two pronged

solution - in exchange for a service fee, Airbnb would provide travelers with both a quality guarantee

(backed by 24/7 customer service) and access to a database of reviews on each room location. By

shifting risk from the traveler to itself, Airbnb significantly lowered the transaction costs of renting a

single room and opened up a potentially large market of customers.

        Airbnb was also able to lower the transaction costs for hosts. Until the advent of Airbnb, hosts

had little insight into the quality/trustworthiness of their guests. Many feared that if they rented their

homes to outsiders, they could potentially fall victim to theft or see their property damaged. As a result

of these risks, homeowners were generally reluctant to rent their homes to strangers. Recognizing the

potential worries of homeowners, Airbnb worked to shift risks from hosts to another portion of the

ecosystem by giving hosts a $1 million umbrella insurance policy from Lloyds of London. By mitigating

the risk of property damage and theft, Airbnb made the prospect of renting property much more

attractive to homeowners across the globe.

        By transitioning risks from hosts and travelers to other portions of the ecosystem, Airbnb was

able to meaningfully lower transaction costs and build a dominant position in the room rental market.

By effectively repositioning risks, Airbnb gained traction in the market and was able to build an

                                                                                                      20
unmatched network of travelers and hosts. This network has created significant barriers to entry and

prevented new players from threatening Airbnb’s supremacy in the room rental market.

Successfully Sequencing Innovation

          Airbnb was also effective in sequencing the expansion of its value blueprint in a way that

allowed the ecosystem partners to be ready and enabled them to come together to create value.

Minimum viable footprint – The current state-of-art website and services offered by Airbnb is a far cry

from the initial product. Launched under the name of “Air Bed and Breakfast”, the website was just an

online portal for renting space on a stranger’s airbed or couch. In a review, Techcrunch noted – “The site

is spare but it does the job.”38 Appendix 3 shows a listing from the 2008 version of Airbnb’s website.

Typically, each person offering a room put up a picture of themselves and the apartment or house, along

with some very basic information. Travelers could make reservations and pay for the stay on the

website. Airbnb needed only a web platform to connect travelers and locals to successfully create new

38
     (AirBed And Breakfast Takes Pad Crashing To A Whole New Level, 2008)

                                                                                                      21
value in the ecosystem. Not only did Airbnb assemble the smallest configuration of elements that were

needed in the ecosystem, it also created unique commercial value and became popular among young

travelers and conventioneers. Thus the minimum viable footprint was formed by the combination of

limited website features, travelers, and hosts, and was simple, valued and extendable.

Staged Expansion - In 2009, the founders realized that the users wanted to use the site for more than

just renting space in someone’s house and were actively posting rental listings for apartments, houses

and vacation rentals. They also realized that increased and varied choice is more appealing for

consumers and decided to re-brand their website as Airbnb to incorporate a variety of local

accommodation options39. By verifying the users’ preferences before casting a wider net for housing

rentals, the founders ensured that this expansion benefitted from its existing user base. The site still

allowed users to post airbed and couch listings, which continues to be popular amongst consumers. But

with a wider market, AirBnB soon grew to 2,500 listings and close to 10,000 registered users.

           Between 2009 and 2010, Airbnb introduced a number of new features in its website to make

user experience more personal. In 2009, Airbnb added a Groups feature to its website to make it easier

for people who share interests (e.g. photography) or have another connection with each other (e.g.

alumni who’ve attended the same university) to share travel accommodations and recommendations40.

Later, Airbnb added a new Social Connections feature to its website. Airbnb Social Connections allowed

users to hook up the service to their social graph via Facebook Connect. In the listings for cities around

the world the users could now see an avatar if a Facebook friend was friends with the host or had

reviewed the host. By this time, the boundaries between virtual and real social networks had

disappeared. Not just the early adopters, but even the mainstream population had become comfortable

sharing private information and making real world connections using virtual social networks such as

Facebook. From a technical point of view, Facebook’s open API platform was required for these

39
     (Rao, 2009)
40
     (Wauters, 2009)

                                                                                                      22
enhancements to integrate with the social networks in a seamless manner. With this expansion of its

value blueprint, Airbnb also increased the value creation potential for its next product enhancements.

           Until 2011 Airbnb had always been focused on helping people rent out their apartments and

homes, but historically the service had been about short-term rentals. Although it was possible to book

longer stays, most people turned to the site as an alternative to booking a hotel room for a week as

opposed to renting out a condo for a month or three. That changed with the launch of the Sublets

feature in 201141. Airbnb delayed the launch of this feature to ramp up its safety features. In order to

convince people to rent out their apartments and homes for the long term, Airbnb needed to revamp its

safety features. The new safety features put in place after a backlash helped in addressing safety

concerns in the minds of users. In late 2011, Airbnb also decided to revamp its mobile offerings and

launched its Android app with international expansion in mind. At the time, Airbnb served over 19,000

cities in 192 countries and expected its user base to double from its mobile offerings. Although

smartphones and mobile apps had started penetrating the US market in 2009, it took a couple of years

for the rest of the world (especially in emerging economies) to catch up in terms of number of

smartphones per capita. When Airbnb finally decided to launch its Android app, Android had captured

close to 50% of the entire world’s market share42. In this stage, Airbnb successfully expanded its user

base using new services and new channels.

Airbnb - A Radical Innovation in the Making

           Airbnb is emerging into a classic case of disruption. Internet-driven disruption first started on

the demand side and impacted the retailers and the traditional media industry. Recently, with the

emergence of the social web and real online identity, disruption has now moved to the supply side as

well. Service industries which require significant investment to create supply can possibly be disrupted

by lower-end services as long as the platform has a strong procurement and curating model. Airbnb,

41
     (Kincaid, 2011)
42
     (Tsotsis, 2012)

                                                                                                               23
unlike many other competitors, has thus far built the capabilities to disrupt the market from both the

demand and supply sides.

        The hotel industry faces the potential for large-scale disruption by new entrants, finding initial

demand from the low-end of the market. The disruption here could be on two dimensions: technology

linkages or market knowledge linkages.

                                                                   Conserve               Disrupt

                                            Disrupt                Craigslist             Airbnb

       Market Knowledge Links

                                           Conserve

                                                                    Hotels               Priceline

                                                       Technology Knowledge Links

        Initially, when services like Craigslist were launched their technology linkages were not much

different from traditional online hotel listings or advertisements, but they did manage to capture a

market segment that was looking for cheap accommodations in unique, difficult to find locations. While

these services had potential value, they did not offer much additional benefit in terms of ease of use,

rating systems, etc. In contrast to Craigslist, Priceline greatly enhanced the technology behind hotel

search services. However, Priceline did not target a different market segment. It instead offered the

same services to the same customers with better integration of online payment, customer ratings,

pictures, etc. In essence, Priceline was a sustaining innovation. In contrast, Airbnb melds the two into a

                                                                                                         24
low-end, and eventual new-market, disruption. By leveraging its technology and social networking

competencies, Airbnb can successfully provide its services to customers looking for cheap

accommodation alternatives in markets that are not always efficiently targeted by traditional hotels.

How Sustainable is Airbnb’s competitive advantage?

        In the wake of its tremendous success, multiple new players have emerged to challenge Airbnb

in both domestic and international markets. However, Airbnb has been able to constantly maintain

superiority over its competition. The table below analyzes just how unique and sustainable the success

of the Airbnb innovation is.

    Competitive advantage          Rare?        Substitutable?    Imitable (ST)?       Imitable (LT)?
    Business model                                                        
    Pricing model                                                         
    Brand                                              
    Access to supply                                                                         
    Product                                                               
    Management                                         
    Access to capital                                                     
    Multi-sided platform               

        Airbnb has positioned itself for a long-term superiority over its competition in the collaborative

consumption model by building a multi-sided platform between hosts and guests. This platform has

strong same-sided (direct) and cross-sided (indirect) network effects. The advent of social media has

acted as a catalyst to increase the network effects on this platform, and Airbnb has capitalized on this

opportunity by implementing features such as social connections. Although it is difficult to determine

whether or not this platform has reached a critical mass yet, there is no doubt that a multi-sided

platform of this size and such strong network effects cannot be easily replicated or replaced.

        High unemployment and low hiring levels in the wake of economic recession (2008) caused a

large number of households to consider offering unused space in their homes as short-term rentals. By

capturing this demand at the right time, Airbnb created one of the largest supply pools of verified and

                                                                                                        25
reviewed short-term rental listings. Airbnb has already surpassed Hilton Hotels as the largest player in

the hospitality industry —based on number of rooms available — as early as mid-2012.43 Creating a

similar supply pool might be feasible in the long-term, but there is a very low possibility that it can be

done in the short-term. The competitive position of Airbnb is further strengthened by the fact that it

will take a long time and significant investment for a competitor to create a similar supply pool.

Airbnb’s Path Forward

     We see three logical avenues for Airbnb’s growth in the future, either standalone or in combination:

         1. Continue to consolidate the existing position in the overnight stay market

         2. Expand into new markets that align with the current business model (e.g. geographic

             expansion)

         3. Expand into new markets that are outside the current business model (e.g. leasing non-

             accommodation spaces)

     The first path is a necessity. Airbnb has begun its disruption of the travel accommodation market,

but it needs to expand its marketing and customer retention efforts to grow its network and complete

the disruption of B&Bs and, ultimately, traditional hotels. Airbnb’s growth in nights booked has grown

exponentially in the first five years if its existence. However, the US lodging industry was valued at $138

billion in sales as of 201144. There is yet untapped potential for Airbnb’s services.

         Second, there are multiple opportunities to expand into new markets that fit nicely into Airbnb’s

existing business model. Airbnb is a large player in the US and especially Europe. Although Airbnb has

listings in over 26,000 cities across 192 countries, 45 its presence in cities outside of the US and Europe is

relatively small. The company should focus on building its scale in other global cities and emerging

markets.

43
   (Basulto, 2011)
44
   (American Hotel & Lodging Association)
45
   (Airbnb)

                                                                                                          26
Airbnb can also expand into other product offerings that align with their business model, i.e.

longer-term rentals and sublets. In fact, the company’s expansion into this area is already underway.

Airbnb has built strong relationships with many of its hosts, and longer-term rentals are a natural

extension of their competency.

        Third, Airbnb can begin to extend its services into new businesses that are currently outside of

their model. Airbnb’s key value proposition is that it can create a forum to rent underutilized spaces to

price sensitive consumers. There are several markets outside of overnight accommodations that fit this

profile. Ideas include unused office space that can be rented to entrepreneurs, small startups, or

freelancers. There is also a market for leased event space on the high-end like convention centers or

banquet halls and on the lower end like restaurant space for corporate events, family reunions, etc. By

expanding their business from brokering overnight accommodations to brokering underutilized private

and public spaces in general, Airbnb can rapidly increase the growth and value of its business.

                                                                                                      27
Appendix 1

Appendix 2

             28
Appendix 3

             29
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                                                                                        30
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