Capacity Expansion in Service Platforms: Ownership, Commitment, and Flexibility

Abstract

Service platforms connect consumers to independent providers who typically deliver the service using their own assets (e.g., ride-hailing with suitable cars). Platforms expanding their services have trialled programs to attract prospective providers who do not yet possess the requisite assets. These programs diverge in terms of asset ownership and contract terms. Platform financing seeks to improve upon conventional bank loans, with new providers investing in assets using loans from the platform instead. Under employment and rental, by contrast, the platform invests in assets and offers them to providers via either long-term employment-like or short-term rental contracts. This paper develops a game-theoretical model to examine the viability and relative performance of these mechanisms. With bank financing as a benchmark, we find that each mechanism can be profitable, but suffers from potential pitfalls. For example, unlike comparable supply-chain finance schemes, platform financing often fails to benefit the platform in simple interest-only form and instead requires payments tied to providers' on-platform performance. Comparing the mechanisms highlights a trade-off between the platform committing to a mutually beneficial contract with the providers and exploiting their flexibility as independent service providers. As a result, the platform offers the semi-flexible financing option when investment costs and demand are low, commits to employment when demand increases, and otherwise offers the most flexible rental option. Further, we find that minimum-wage regulation could benefit both not only service providers but also a growing platform, especially under financing; and stronger network effect further benefits employment.

Keywords: platform economy, capacity investment, financing, employment, rental, holdup, free-riding