Social Commerce: Web3 & The Digital Franchise Model
On Commerce & Social Interaction and how Web3 can digitize the Franchise Agreement
Historically, societies have organized around centers of commerce: bazaars, markets and malls aggregated various suppliers in a single point of distribution where consumers could find goods and wares from across the world: ranging from daily produce essentials like meats and grains to luxurious products like silks, spices and jewelry.
In Ancient Rome, Trajan’s Market, thought to be one of the world’s oldest shopping malls (113 AD), hosted commerce from across the Empire but also layered trade with several Roman taverns and large halls believed to hold concerts and auditions.
In Asia Minor, prior to the 10th century, marketplaces were often associated with the caravanserai — a roadside inn that supported the flow of commerce, information and people (‘caravaners’) across trade routes — outside city walls. Moreover, markets at Mecca and Medina were known to be significant trade center in the 3rd century (CE) and the nomadic communities were highly dependent on them for both trade and social interactions.
From these centers of commerce, new forms of social interaction — between individuals and cultures — emerged; ever since the two have been intimately intertwined. This is true across societies, regardless of geography, culture or epoch.
Thus, markets created a powerful context for social exchange. Trade created trust, trust enabled larger social collision. Indeed, while the primary purpose of these forums were commercial, commerce became the point of leverage to facilitate much of the human interaction we enjoy today.
This holds true up to the contemporary, where modern malls have existed as a center of our economic and social lives. It has been the place where you would spend time with your family, go on a date, meet up with friends, catch a movie, discover new products, grab a bite, play games, get in trouble, flirt, fight, and on and on.
In fact, the mall is a one of the core primitives of the American mythos. From Stranger Things to Mean Girls to Clueless to Fast Times at Ridgemont High, the mall (and the mall montage) has been an elementary cinematic device to frame coming of age, growing up and socializing in the United States. Indeed, the mall was seen as that third place, outside of home and school/work, where the pre-internet generations congregated to shop, eat and hang out. As much as it was the focal point of commerce, it was also center of social interaction.
But that changed with advent of the Internet and the introduction of the digital age. Today a vast majority of our social interaction happens online within the confines of social media networks — and for younger generations social gaming platforms. Ben Thompson succinctly sums up how social media has evolved in in a recent Stratechery post:
The earliest forms of social networking on the web were text-based bulletin boards and USENET groups; then came widespread e-mail, AOL chatrooms, and forums. Facebook arrived on the scene in the mid-2000s; one of the things that helped it explode in popularity was the addition of images. Instagram was an image-only social network that soon added video, which is all that TikTok is. And, over the last couple of years in particular, video conferencing through apps like Zoom or Facetime have delivered 3D images on 2D screens.
Still, medium has always mattered less for social networking, just because the social part of it was so inherently interesting. Humans like communicating with other humans, even if that requires dialing up a random BBS to download messages, composing a reply, and dialing back in to send it. Games may be mostly deterministic, but humans are full of surprises.
But I disagree with Ben on the point that the “medium has always mattered less for social networking.” The medium is crucial.
Consider how significantly the medium has changed. For thousands of years, the medium of social interaction was more or less the same. Markets, bazaars and malls provided the rails and real estate to socialize, creating a set of norms that humans understood and passed down over time.
The obvious takeaway is that the medium of social interaction transformed from being a physical to a digital place; but a more nuanced analysis reveals that the medium, for the first time, is no longer a locus of commerce. Social media networks create a completely new medium — an entire digital territory — for modern social interaction that use objects like videos, photos and text, as well as novel distribution mechanism like algorithmic feeds and ephemeral stories to create a digital surface area that is both infinite and catered specifically for the user.
With this new medium comes a host of new digital norms like liking, following, posting, poking, commenting, subtweeting, trolling, doxing, etc. that are a far departure from grabbing a bite to eat in the food court and loitering with friends by the Foot Locker store.
So, this is a relatively long way to say that the medium of our social interaction changed from being commerce based to something entirely else. Consequently, the development of the internet economies in the West spliced this inherent relationship of commerce and socialization and resulted in a bifurcation of eCommerce and social networks into two different verticals.
By and large, digital commerce today is suspended in the physics of the ‘write-only’ Web1 Internet that birthed the likes of Amazon, eBay and many others. Social media networks matured in the next epoch of Web2, when the rise of ‘read-write’ dynamics enabled more user-generated content, zero marginal cost and profound network effects. With it, the surface areas of where we shopped and where we socialized became completely isolated from each other as these digital territories quickly created boundaries.
Thus, for true eCommerce unlock, a new commercial arena must be built that intrinsically layers in, and enables, social interaction. This will be both a demand and supply equation, with new business models and technologies set to innovate the two.
This post is the first in a two part series looking at social commerce, which also can be called multiplayer shopping. In Part 1, we will examine the supply side of this thesis, specifically how web3 primitives can unlock new mechanics for multiplayer retailing and ‘brand creation platforms’ by digitizing the franchise model.
Let’s dive in.
The Franchise Model
Certain supply dynamics of multiplayer retail — or multiplayer supply — already exist in a business agreement called a franchise1. A franchise is a joint venture between a franchisor and a franchisee. The franchisor is the original business which sells the right to use its name and idea to a franchisee, thus allowing the franchisee to sell a product or service under the franchisor’s brand. In exchange for acquiring a franchise, the franchisee usually pays the franchisor an initial start-up fee and annual licensing fees.
Yet, becoming a franchise is no easy feat; there is a demand hurdle. Getting to the scale where a franchise model becomes feasible requires massive upfront investments in building out a retail business, organizing a global supply chain, growing distribution, cementing differentiation, and last but not least, scale. In the low margin, highly competitive markets like retail and QSR, this is an incredibly difficult and capitally intensive endeavor.
But, once the business reaches a tipping point and achieves critical mass where it has built a unique brand that has franchise potential, new revenue streams and business models become unlocked.
Specifically, the franchise model allows businesses to monetize their brand equity and create new, high margin licensing products that provides leverage on its existing fixed costs. In the process, certain cost centers (like marketing spend) turn into revenue drivers (through trademark licensing). At this point, the business crosses the chasm of being a retail business to becoming a brand platform.
On the opposite end of the equation, while franchisees takes on the capital risks of building out stores, buying inventory, and so on, they benefit from building on top of the franchisor’s existing brand platform. There is no cold start problem.
For example, a new Taco Bell franchisee in Boston opens to existing demand and brand awareness and essentially leverages the marketing budget of the Taco Bell franchise to benefit from nationally distributed advertisements, whether on social media or during the Super Bowl, that are orders of magnitude more effective (in terms of reach and efficiency) than their individual P&L could warrant. Thus, the franchise acts as a brand platform that bootstraps demand; the franchisee simply plugs into new markets where demand exists but supply does not (or is undersupplied).
The franchise model is a positive sum flywheel — the franchisor can sell a high margin subscription product (annual licensing fee) and increase its retail distribution in new markets without the capital cost, which heightens brand awareness, which increases the value of their trademark. It is in the franchisor’s best interest to make the brand as widely available, and with the franchise model, every additional franchisee store has minimal marginal costs for the franchisor, which means that every new franchisee provides nothing but leverage on the existing fixed costs that have gone into building and maintaining a ‘franchise’ brand.
On the flip side, at a relatively nominal cost, the franchisee can benefit from the franchise’s existing brand equity without needing to endeavor in the high risk, tremendously capital intensive upfront investment of building out a scalable retail business and brand, which allows for cheaper customer acquisition in a highly competitive market. Thus, franchising allows consumers to become merchants and owners of brands in a relatively cheap manner and creates a true platform business model.
In the offline world, supply scarcity is the main constraint on growth. Franchises can distribute their brand (and acquire customers) at a national and international level via linear and digital advertising, but revenue — and consumption — still occurs at a local level. Thus to grow requires growing a franchise’s retail footprint, and the franchise model creates a low cost, high margin way for these franchises to do so.
But, there hasn’t been a natural extension of this business model in the digital realm. A brand’s distribution is no longer confined to a certain geography; the internet abstracts that to be the entire world. More, online sales are funneled via a single website, rather than a network of hundreds of stores. Thus growth no longer is limited by supply scarcity and geography, but by how you can best acquire and convert an abundance of demand.
This inversion is orthogonal to the traditional franchise model. Instead, a new model requires a better way of navigating demand abundance by making supply more dynamic.
Digitizing the Franchise Model with Web3 Primitives
This is the evolution of brand creation platforms. The franchise model allows for a franchise to increase its distribution by licensing a fungible brand. Web3 primitives allow for a franchise to adjust its brand depending on demand, making each franchisee less fungible and more niche to best serve specific sub-pockets of consumers.
I believe digitizing the franchise model and enabling multiplayer retail is a massive opportunity for web3 technologies to disrupt commerce. Let me explain how.
A Digital Franchise Model
What is a brand?
Kat Cole, the President and COO of Athletic Greens, defines brand as the following:
Brand is the promise that a consumer believes that entity makes to them through how it communicates itself.
To me, brands are like software. A brand is made up of a finite number of input variables (product form factor, color schemes, tone, personality, aspirations, price, ingredients/inputs) that are its source code. These values and aesthetics are programmed, but unlike software they are not deterministic. Each consumer transacts with a brand based on their own interpretation of the source code.
Thus, a brand’s inputs mean vastly different things to different communities. For example, my dad may purchase Nike Air Monarchs because they're trusty, simple and comfortable. I may purchase the shoes because 90s style is back in fashion (and it serves as a status mechanism) and the brand represents a sense of ironic coolness. A tennis player might purchase them simply because it's a great tennis shoe.
Here, the three consumers are purchasing the same product, but not necessarily the same 'brand'. They are derivatives of the brand, all slightly different. Or said another way, Nike's positioning for this shoe is not 100% for dads or for 90s ironic coolness or for tennis, and so it doesn't really have 100% product-market fit for any of these consumers. But, Nike does a good enough job for these three different consumers who are ok with spending $80 for the less than 100% product-market fit.
Thus, a brand and its products can mean different things to different people, and this difference can be especially strong when comparing the visions of people who run a brand to the perceptions of its various customers.
But similar to how the franchise agreement allowed offline brands to become platforms, web3 primitives have the potential to do the same for online brands. NFTs, smart contracts, tokens and more allow for consumers to reprogram the source code to produce their desired outputs, removing the delta between consumer surplus and spend, allowing brands to liquify and capture brand equity.
Specifically, Web3 tools allow for the creation of a new franchisee class that can tinker with brand’s inputs to create the products, landing pages, content, services, customer support, memes, etc. that approach product-market fit for their subgroup of consumers.
For example, Nike could receive RFPs from potential ‘franchisees’ of these derivative brands (say cool kid Air Monarch brand) who would submit their vision and how they plan to better serve a sub-market of consumers by adjusting the source code of the brand. If approved, Nike would grant this franchisee (for a one-off initial fee) an NFT that accredits this merchant as a verified Nike digital franchisee. The NFT would code the franchise agreement within a smart contract, stipulating certain agreements such as the restriction of the resale of the NFT without the franchisor’s (Nike) approval, an annual licensing fee and/or royalty on revenue, as well as performance incentives. For example, franchisees could be rewarded with Nike Coin (aka a form of Nike equity) or cryptocurrencies for reaching certain revenue and KPI milestones, and/or for accomplishing certain bounties such as specific marketing campaigns for new product launches, testing new channels or targeting a specific demo.
More, Nike could de-risk from certain polarizing campaigns that resonate with one community but alienate another. Take the Lil Nas X ‘Satan Shoe’ for example. Nike still benefits from the brand awareness that this campaign creates, but is marginally exposed from a PR perspective, while still receiving passive income from the sales.
Some Web3 companies are building different types of tooling relating to this thesis. Founded by Outdoor Voice’s Ty Haney, Try Your Best (TYB) reward users with collectibles that unlock exclusive products and private events in exchange for participating in customer feedback loops that help determine brand decisions like packaging. Elsewhere, Novel allows brands to bake loyalty, exclusivity and recurring revenue programs into NFTs that they can sell directly on their storefront (disclosure: I am an investor in Novel). While these examples are lighter-weight versions of the vision laid out above, they are directionally correct.
Thus, the best brands over time become brand creation platforms that can incentivize community-driven creation (via franchisees) that works toward 100% product-market fit (where consumer surplus = price) by forking the original brand to match supply and demand given the various different purchase criteria of its consumers.
In the abundance driven world of the Internet, the dynamics for multiplayer retail change. Instead of increasing the retail distribution of a fungible brand, brand platforms must provide the tooling to adjust the geometry of a brand for specific pockets of demand. Web3 tools can enable more composability via the creation of digital franchisees.
Like what we've seen in gaming, brands need to be composable and exchangeable at the smallest atomic unit, not just at a standardized product form factor (like a six pack of soda). Consequently, the future model must allow consumers to create value for themselves given the tools that brands can provide (the product being just one of them), rather than solely extrapolating value via a single point of consumption. The best brands, in my opinion, will become brand creation platforms similar to how Roblox has become a game creation platform.
Indeed, platforms like Roblox institutionalize a grassroots behavior called modding, which allows players to change some aspect of a game, which has been around in the gaming community since the 1980s. Modding has been a massive unlock for the gaming industry as it provides the model for evolving a game into a potential platform.
A study from two University of Haifa researchers in February 2017 called "Placing a Value on Community's Co-creation: A Study of Video Game 'Modding' Community. found that:
…when the firm supports the modding community, the average increase in sales per game (selling at 97,000 units) would be in the sum of roughly 15,000 units… Thus, the value proposition for supporting the modding community is a 15% increase in sales.
More, Nexus, the largest mod aggregator, further demonstrates the potential demand unlock that modding enables. As of April 19th, 2022, Nexus stats look like:
We host 367,792 files for 1,665 games from 146,964 authors serving 32,320,872 members with 5,670,259,587 downloads to date.
As you can see, 147,000 creators have served over 32 million users, shipping over 5.6 billion products to date on behalf of 1,600 franchises. That’s incredible.
Indeed, Web3 tools like NFTs, smart contracts and tokens can enable the type of demand unlock that modding has done for gaming. Modding, in many ways, is a good parallel — like online brands, online games were often play-only. While supply scarcity didn’t exist given the distribution of the internet, demand was under-met given the rigidness of the product. Modding specifically allows for game franchises to similarly benefit from leverage on the massive fixed development costs that go into publishing a game. But more importantly, it allows for the creation of new supply — not in the form of new distribution but in the creation of new products — that better meet demand.
I have quite an intimate relationship with the franchise model. My father is a serial entrepreneur and founder of a number of franchises (Tinderbox, Vino 100) and so franchising was the topic of many business discussions growing up.