#09 Measuring Market Fragmentation with HHI and C4
At SNAK we are most excited about in investing in marketplaces in markets that have high fragmentation, as we believe this characteristic increases the value of using technology to more efficiently match supply and demand, creates a higher need for an intermediary to provide safety and trust between unknown parties, and allows for an independent party to provide objective comparisons of a broad range of products and services.
For startups, fragmented markets also provide a lower barrier to entry – it is easier to build supply or demand with many small players than with a few industry gatekeepers who are not incentivized to shift the power dynamic.
So how can founders or investors measure fragmentation for a given industry, and how is high / medium / low calibrated? Here are 2 metrics used to characterize industry fragmentation:
Herfindahl-Hirschman Index (HHI): Regulatory agencies like the US Department of Justice often use the HHI to evaluate potential mergers and assess their impact on market competition. This index measures market concentration by summing the squares of the market shares of all firms in the industry. An HHI below 1,000 indicates a competitive market; between 1,000 and 1,800 suggests moderate concentration; above 1,800 indicates high concentration. More info and example calculation here. This calculation requires a lot of data collection, and many firms may not disclose revenues, so is not super practical for startup founders.
C4 Ratio: The four-firm concentration ratio is a much more practical tool for founders or investors to assess how concentrated a market is based on the dominance of the top four firms. Quite simply, it is a metric that sums the collective market share of the top four firms. If the combined share is high, this points to significant market control by a few players. As a very rough rule of thumb, a four-firm ratio above 80 percent is commonly considered to be “high,” while a four-firm ratio of 50 to 80 percent is medium, and a ratio below 50 percent would be considered “low.” This is an easier metric to calculate because you just need 5 data points (revenues of 4 largest players + total market size).
As an illustration of the power of technology marketplaces to change the dynamic and create $B companies in fragmented industries, below is a chart from the Information Technology and Innovation Foundation that shows the top 20 industries with highest change in C4 ratio from 2002 to 2017.
Top 20 Industries with Highest percentage point increase in C4 ratio from 2002 to 2017
It’s interesting to note that the taxi service industry was a very attractive, highly fragmented market in 2002 at a 17.5% C4 ratio. By 2017, with the entry of Uber and Lyft, the market was at a C4 ratio of 77.2% (approaching the low fragmentation threshold of 80%) and was one of the largest changes in C4 ratio across industries.
Examples of highly fragmented industries include:
Construction: many small contractors operate within local markets. Each contractor may specialize in different types of construction projects (residential, commercial, etc.), leading to a diverse competitive landscape.
Agriculture: In agricultural markets like fruit and vegetable production, there are typically many small farmers contributing to overall supply without any single farmer controlling significant market share. This results in an HHI that reflects high fragmentation as individual farms operate independently.
Retail Food Services: The retail food industry often exhibits high fragmentation due to numerous small players competing in local markets. For instance, grocery stores and restaurants vary significantly in size and offerings across different regions. The HHI in this sector tends to be well below 1,500, reflecting intense competition among many independent and chain establishments.
At SNAK we like demystifying the “gut feel” that a lot of VCs cite for making decisions with numbers and analysis– in this case on what a “good” market looks like. We previously shared our marketplace scorecard here. If you are interested in getting more insights, subscribe here 👇
What we’re reading / listening to:
Marketplace Startup Fundraising 2025 - Colin Gardiner from Yonder VC partnered with Carta to publish a must-read report on fundraising trends for marketplace startups:
Investing in Startups Podcast - We sat down with our Ruck Delivery co-investor, Joe Magyer, to chat B2B Marketplaces. Listen to the podcast here: https://www.investinginstartups.com/post/betting-big-on-b2b-marketplaces-with-sonia-nagar
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