What Are Network Effects and How to Use Them For SaaS Growth

What do Figma, Slack, and Notion have in common? They all depend on network effects to deliver customer value and grow!

In this article, we cover what network effects are and why they are important. We also look at a few examples of companies that leverage network effects to drive product growth.

Let’s dive in!

TL;DR

• The positive network effect is a situation when the product value grows when more users join.
• Examples of products that depend on the network effects for growth are social media sites like Facebook, messaging apps like WhatsApp, lift-sharing platforms like Uber, or marketplaces like eBay.
• Network effects drive product growth. More users make the product more valuable which enhances user satisfaction.
• Satisfied users promote the product through WOM and referral schemes, which further grows such networks and lowers customer acquisition costs (CAC).
• Users are also more likely to commit to established networks.
• As the network grows and produces more content, it gets more difficult for competitors to disrupt the business and for users to switch to other platforms. However, this can make companies complacent and hinder innovation.
• Other negative network effects are reduced usability because of congestion and strain on infrastructure and customer support.
• The direct network effect occurs when the value increases as more users join, like in social media networks.
• When the product value depends on interactions between multiple parties, like buyers and sellers on eBay, we talk about indirect network effects.
• Successful network effects businesses include Zapier, Figma, Slack, Notion, and G2.
• Zapier’s integrations enhance value, attracting more users and app developers.
• Figma catalyzed the network effect by enabling collaboration between designers and non-designers and community-generated plugins.
• Slack capitalizes on the personal network effect and people’s natural need to connect and belong.
• Notion uses the freemium model and community engagement to grow its user base.
• G2 incentivizes users and employs contextual ads to prompt them to submit reviews which increase both the customer and business value.
• Book the demo to see how Userpilot can help you drive user engagement and build your network.

What are network effects?

Network effects describe a situation when the value of the product changes as the number of users increases.

The term is normally used in the context of positive network effects. That’s when the product gets more valuable as the network grows.

Let’s take a social network like Facebook or an instant messaging platform like WhatsApp as an example. Their value depends on how many of your friends, family members, or colleagues use them.

However, there are also negative network effects. That’s the situation when the network size reduces the product value.

What are the benefits of the network effect?

The network effect is a self-propelling mechanism that drives product growth.

Higher network density, that is a larger user base, means the product value increases. That’s because users can create more connections and access more content generated by other users. Large networks are also more attractive for advertisers if that’s how you’re monetizing the product.

Established networks are also more trustworthy. Users don’t want to waste their precious time developing their personal networks if there’s a risk the product will fold unexpectedly.

And the more time they invest, the less likely they are to switch to competing networks. User-generated content is also very difficult to copy by disruptive competition, which makes the moat even deeper.

Overall, network effects increase customer lifetime value (LTV).

What’s more, when you achieve critical mass, network effects tend to drive new user acquisition, for example through word-of-mouth marketing.

If you have a messaging app you like, you want as many of your friends or relatives to use it so that you can keep in touch with them through that app. This reduces the customer acquisition cost (CAC).

What are the drawbacks of the network effect?

Sometimes, network effects can have a detrimental impact on product value. We call this the negative network effect.

How come?

Excessive network congestion could be one of the factors. When there are too many users churning out content in large quantities, it may be difficult to find what’s of interest or value to you.

Moreover, a large user base puts a strain on the product infrastructure, which could slow the network down and negatively impact the product experience. It also adds to the pressure on the support teams who have to deal with customer tickets and requests.

Finally, companies who’ve achieved the critical mass and an established position in the market may get too complacent and stop innovating. Even a complete shift in organizational culture and values the company stands for may not be enough to undermine its dominant market position.

The different types of network effects

Not all network effects are the same. We distinguish two main types of network effects: direct and indirect.

Direct network effects

The direct network effect is straightforward: as more users join the network, its value increases.

Social media networks like Facebook and TikTok are perfect examples. The more users join in the same network, the more connections they can make and more content becomes available.

Indirect network effects

We talk about the indirect network effect when the product depends on two or more parties to generate the value.

For example, the value of eBay depends on the number of buyers and sellers. When there are more sellers, the platform is more valuable for buyers, and when more buyers use the service, it attracts more sellers.

Ridesharing services like Uber and Lyft, or freelancer platforms like Upwork or Fiverr rely on similar dynamics between service providers and consumers.

Powerful network effects examples from SaaS companies

How do successful SaaS businesses manage to leverage network effects to drive product growth? Let’s look at a few examples.

Zapier grew online networks through integrations

Zapier is an automation tool that enables users to connect various web applications and automate workflows between them.

Zapier’s integration ecosystem is a good example of how indirect network effects work.

Basically, Zapier’s value comes from its ability to connect a wide range of apps and tools that people use. As more applications are integrated into the Zapier platform, its usefulness and value increase.

This encourages both users and application developers to join the ecosystem to benefit from the integrations available.

Figma increased new users through sequencing loops

Figma is a tool that has democratized design. While being an excellent tool for designers, it’s also a very intuitive and accessible solution for non-designers in organizations.

How does the network effect work?

In short, the designers find it easier to collaborate with non-designers using Figma, which drives the product’s popularity. At the same time, the non-designers, who can finally actively participate in the design process, encourage new designers they start working with to use Figma.

Figma is also developing an ecosystem around community-generated plugins. They increase designers’ productivity, and so Figma’s perceived value. This attracts new users who create more plugins, which increases value even further.

Slack leveraged the personal network effect

The personal network effect arises from our natural need to belong and connect with others.

Slack is one of many products that has successfully tapped into this basic human need to drive product growth.

How does it work?

As a messaging platform, Slack would be useless if you were its only user in your organization. That’s why when you sign up, the app prompts you to invite colleagues involved in the same initiative.

In this way, you make the tool more useful for yourself while expanding Slack’s user base.

Notion grew its network through its free plan

Notion, like many other B2B and B2C products, uses the freemium model to expand its user base.

The principle is simple: individual users on the free plan discover its value, spread the word, and the user base grows. Teams adopt it to streamline collaboration on projects, which accelerates its growth within organizations even more.

On top of this, Notion has also a very vibrant community where users can share ideas and support one another as well as a library of 5,000+ templates created by existing users.

As more users actively participate in the community and create new templates, Notion’s value grows.

G2 triggered contextual ads to grow its network

G2 is a review website. Its value depends on the number of reviews that users submit.

As more users contribute reviews and ratings, the platform becomes more valuable to potential buyers seeking insights and recommendations. The larger the user base providing reviews, the more diverse the information becomes.

To encourage users to leave reviews, G2 offers Amazon vouchers as an incentive and uses contextual messages to prompt users.

Conclusion

Network effects increase product value, lower customer acquisition costs, increase customer lifetime value, and drive product growth.

If you want to see how Userpilot can help you drive user engagement and grow your user base, book the demo!