How One App’s Buyout Can Boost Competitors

When Facebook bought Instagram, competing apps were expected to vanish. Instead, some actually gained users.

Based on the research of Ashish Agarwal

A funny thing happened on the way to an online monopoly.

When Facebook paid $1 billion for photo-sharing app Instagram in 2012, technology observers predicted it would crush Instagram’s competitors. But in the months that followed, something unexpected happened, according to new research from Texas McCombs: Instagram’s top rivals added customers.

“It turns out that a rising tide raises some ships,” says Ashish Agarwal, associate professor of Information, Risk, and Operations Management. “Not everyone benefited, but the best apps did.”

The research carries implications, he says, for both application developers and the platforms they develop for. It also sheds light on a delicate dance, in which the two sides are sometimes partners and sometimes foes.

Uneasy Allies

Platforms like Facebook or Twitter recruit third parties to create new apps, hoping they’ll attract new users eager to use the new tools. But there’s also an implied threat to the developers, says Agarwal. “They’re scared that if they go on a particular platform, at some point the platform is going to get its own app and try to take over the market.”

Which is what happened with Instagram — at first. Facebook integrated the app, so that existing Facebook users could automatically share photos to Instagram. That gave it a leg up on other photo-sharing apps, which required several steps to accomplish the same task.

To assess the buyout’s effects on the competition, Agarwal partnered with colleague Zhuoxin Li of Boston College. Crunching user data for Instagram and its top 20 competitors, they found that Instagram was the big winner. It leapfrogged from 2.2 million users, two months before joining forces with Facebook, to 9.2 million users two months after.

But its 10 largest rivals, like Pixable and Pizap, also grew over the same period, from a collective 4.1 million to 5.1 million users. Agarwal attributes their gains to a spillover effect, a phenomenon seen in products from drugs to smartphones. “When new drugs come out, people see TV ads, and that helps the overall category,” he says.

On Facebook, millions who had never used a photo-sharing app got suddenly exposed to the concept. Most of them stuck with Instagram, but many were moved to try alternatives, some of which had features Instagram didn’t offer.

Not every app shared in the bounty, though. While the 10 biggest competitors attracted new users, the next 10 lost a third of theirs. Says Agarwal, “The effect was to increase inequality in the field. It widened the gap between winners and losers.”

Applying Lessons for Apps

For app developers, he says, the moral is to position yourself among the winners. Those who amass market share early on can thrive, even if a Facebook or Google buys up a competitor.

“If you’re trying to compete on these platforms, your development strategy should be geared towards expanding your user base rather than monetizing your existing customers. Focus on being a big player rather than just trying to get revenues.” — Ashish Agarwal

Once a mega-platform acquires an opposing app, the goal changes. It’s time to differentiate yourself by adding unique features, like creating your own social network, a la Pinterest. “Apps could think up activities that their users can’t do on Facebook, that can only be done on the app,” says Agarwal. “That creates stickiness for their users.”

It’s actually in a platform’s interest to help rival apps differentiate, he suggests. When a Twitter acquires a Periscope, the platform could reach out to other video-streaming apps, with tools for adding new features. It might even offer subsidies to keep a few challengers in the market

That’s because a platform can’t afford to drive third-party developers away completely. “When you’re looking at innovation on platforms, a lot of it comes from third parties,” says Agarwal.

An ecosystem thrives on outside people developing new apps. “Offer them incentives to develop on your platform,” he says. “In the long run, a platform needs to realize it can’t do everything on its own.”

“Platform Integration and Demand Spillovers in Complementary Markets: Evidence from Facebook’s Integration of Instagram” was published in Management Science.

Story by Steve Brooks