Posted on June 23, 2007
Filed Under Web 2.0 Kool Aid |
In a comment I posted on TechCrunch in April, I argued that a lot of the buzz around Web 2.0 has been driven by a number of myths. I feel that this comment may be one of my most important and want to address these myths again in a little more depth, this time on The Drama 2.0 Show.
Myth 1: You can build Web 2.0 businesses really, really cheap.
Products are often extremely cheap to develop. This is especially true in the Web 2.0 space. Even non-technical people can now purchase cheap, ready-made scripts which duplicate the functionality found on popular services like MySpace, YouTube and Digg. Products, however, only constitute one aspect of a business. There are many ways to define a “business” but a general definition that will suffice is: an organization that provides products and/or services with the goal of realizing profit from those products and/or services.
Much of the Web 2.0 hype and the claim that “this time the boom is different” is driven by the notion that it is cheap to build Web 2.0 businesses. Mark Zuckerberg built Facebook in his Harvard dorm room. Kevin Rose started Digg with a few thousand dollars. In Bubble 1.0, the costs of starting an Internet business were significantly higher. Many of the businesses being created were ecommerce plays, for instance, which obviously have significant capital requirements. Additionally, since Bubble 1.0, the maturation of the market (reduced bandwidth costs, etc.) has helped to reduce startup costs.
If you were fortunate enough to launch a Web 2.0 product before Bubble 2.0 started to form, you had the opportunity to leverage early-mover advantage. With that, building a popular Web 2.0 startup was a much cheaper proposition. The market was young and attracting attention was much easier and therefore less expensive. The problem today, however, is that along with lower barriers to entry comes fiercer competition. As noted, anybody with a few hundred dollars can reasonably, with the right skills or assistance, purchase and set up a clone of popular Web 2.0 application. The number of MySpace, YouTube and Digg copycats that have been launched and are being launched on a daily basis is staggering. Most of these copycats have never been heard of by a wide audience, and most never will be.
Reduced barriers to entry results in more competition, which results in higher barriers to success. When you have a product to sell, you need to distribute (i.e. sell or market) it. That costs money. An August 28, 2006 San Francisco Chronicle article reported that 134 Web 2.0 companies received $869 million in venture capital investment in the first quarter of 2006 according to PricewaterhouseCoopers. Numbers like this beg the question: if it’s so cheap to build Web 2.0 businesses, why is there a need for so much money? The answer can only be that it isn’t. Even if the cost of building Web 2.0 products is cheap, effectively distributing them in the marketplace is a significant challenge because of the competition. Arming yourself with significant capital (hopefully more than your competitors) is often seen by companies as a way to establish a competitive advantage. Thus, the costs of attempting to build a real business around a Web 2.0 product have required the significant investments that many Web 2.0 startups have received. Proponents of the notion that Web 2.0 businesses are cheap to build fail to distinguish the difference between the costs of building the product and building a viable company around a product.
Myth 2: Viral growth is easy to obtain.
Myth 1 has some its origins in the viral success of services like Facebook and YouTube. The concept that a product can be launched and with a few invitations to friends can be well on its way to mass popularity in very short period of time is extremely attractive to any company for good reason. One of the most difficult and costly challenges any business faces is marketing its product. Many Web 2.0 startups look at the viral growth achieved by the Web 2.0 elite and immediately assume that a growth strategy that relies primarily on viral growth is viable and reduces the barriers to success because traditional marketing costs can be significantly reduced or eliminated altogether. The truth is that the Facebooks and YouTubes of the world are the exception, not the rule. The number of exceptions will continue to decrease because of the rising competition amongst newcomers.
Startups that project rapid growth on the back of viral efforts are likely to be disappointed, and again, I would argue that the level of funding raised by Web 2.0 startups in aggregate, and the larger rounds that we are seeing for individual startups, is due in part to the fact that startups and venture capitalists, either consciously or unconsciously, recognize that it is going to take more to grow a Web 2.0 product. In fact, due to the lack of technological innovation being seen in Web 2.0, I believe that innovative growth strategies may represent the best hope for savvy startups.
Myth 3: Advertising is a viable business model.
It is, but there are caveats. Although billions of dollars are spent on online advertising, the amount is, contrary to popular Web 2.0 opinion, finite. Unless you have a massive audience and/or can provide highly-targeted advertising to lucrative demographics, don’t expect to expect a huge chunk of that online advertising spend to land in your hands. Most of the Web 2.0 services that generate significant advertising revenues (MySpace, Facebook, etc.) reportedly have extremely low advertising rates but they make up for it with volumes that most startups will not realistically attain. When YouTube, arguably the most talked-about Web 2.0 service in the world last year, only generated $15 million in revenues, it should give startups pause about their advertising revenue projections.
It’s also important to factor in the possibility that Web 2.0 services will turn out not to be the ideal advertising platforms many feel they are. I have spoken with individuals involved in advertising for large brands who have expressed disappointment with the results of advertising campaigns on Web 2.0 services. I personally don’t doubt that the effectiveness of advertising on Web 2.0 services can increase as new models and techniques are experimented with, but I also don’t think that one should discount the fact that users, because of the activities they look to engage in on Web 2.0 services, may not be receptive to advertising on these platforms, regardless of the fact that the demographic and behavioral data collected makes it possible to target advertisements at a very granular level. The bottom line is that a successful advertising campaign not only targets the right people, but targets them at the right time and location where they’re receptive to the advertisement.
Myth 4: There are lots of potential buyers for Web 2.0 companies.
Because the ability for Web 2.0 startups to tap into the public markets for liquidity has been almost non-existent, acquisition is the primary exit strategy of choice for most Web 2.0 startups. The handful of large acquisitions, with YouTube being the most prominent example, has fueled a mentality of “Let’s create a startup and flip it to a big company.” The problem is that the total number of Web 2.0 startups vastly exceeds the number of potential acquirers. This means that the majority of startups won’t be acquired, and this creates significant problems for startups which are unable to develop into viable businesses.
In addition to the fact that the odds of a profitable acquisition do not work in favor of startups, the challenge of achieving an exit through acquisition is further compounded by the increasing level of funding many Web 2.0 startups are receiving. Geni, for instance, raised funding at a $100 million valuation only 7 weeks after its launch. Even if companies like Geni become highly successful, the hefty valuations being placed on them by venture capitalists reduces the appeal of these startups as acquisition targets. Because of this, many of the potential acquirers are simply deciding to build their own Web 2.0 services (after all Web 2.0 products are cheap to build) or acquiring startups without hefty valuations earlier in their lifecycle. This, of course, means that there will likely be increasingly few major Web 2.0 acquisitions, but one can be sure that a blockbuster acquisition of Facebook or Bebo, for instance, would only fuel more irrationality by people who don’t recognize that Facebook and Bebo do not represent what most Web 2.0 startups will ever achieve.
Myth 5: Anybody can be a Web 2.0 success story.
Stephen Chen and Chad Hurley. Mark Zuckerburg. Kevin Rose. These young men have served as poster boys of the Web 2.0 hype. Nobody had ever heard of them before they started YouTube, Facebook and Digg and because of this, they have inspired a legion of entrepreneurs aiming to be the next Web 2.0 idols. The truth, however, is that their stories are the exception, not the rule.
Anybody can be a success story in any field, but typically the individuals who start successful companies share a common trait: experience. This does not mean that you have to be 40 years old to start a successful company, but the growing number of “programs” like YCombinator and TechStars are promoting to young entrepreneurs what I believe to be an unrealistic notion: you can come of out college with little to no real-world experience, take $15,000 in funding and be well on your way to making millions. Taking $15,000 in funding and attempting to start your first company is not in and of itself a bad idea for a recent college graduate, but the assumptions, myths and expectations that often drive such a decision do no justice to that person’s chances. The handful of Web 2.0 darling success stories have made it easy for us to forget that the experience, skills, knowledge and relationships of a management team often serve as the primary drivers of success for a startup.
Print This Post