I think too many people have fallen into the trap of thinking "If we build it, they will come (with money)."
This simply isn't the case. You must build something valuable, and capitalize on the value. Unfortunately, traffic isn't quite as valuable anymore.
Think about it, there are a lot more startups now, each with their own eyeballs. The supply of eyeballs has gone way up, which in turn means that with a static demand the value of the traffic has gone down.
Many startups begin with the thinking "We'll build something a lot of people like, and sell advertising from all of this traffic we'll receive." As I've just explained, the value of traffic is much lower with the increased supply. Startups capitalizing on traffic are entering a very competitive market.
Sure, a few companies will gain a massive amount of traffic and do very well (think digg, reddit, etc...), but the majority will need to find another way to be profitable.
Why would demand be static? Do you really think that demand for marketing doesn't increase? That would require having only a fixed number of people wanting to sell, and for them to only be willing to sell to a fixed number of customers.
The reason I believe it is valid to assume a static demand for demonstrative purposes is because I believe that the supply has shifted much more significantly than the demand has over the past 10 years or so, to the point that the change in demand is negligible.
This is just from first-hand observation. I don't have any evidence or reports to show this. It's only my hypothesis. If there are any reports showing a different supply/demand relationship please let me know.
I think it's much harder to gain traction than it is to find an appropriate business model, and thus it's far more important to focus on traction first and then nail down the business model once you know you have a product that people find engaging.
Think about it this way: you can have the smartest business model in the world that maximizes the value of your users, but if no one uses your service then you'll make zero money and be totally irrelevant. By contrast, if you have a a service that people love and becomes a part of their daily usage, but you don't have a business model yet, this is a much easier problem to solve.
If I started a service which gave away free cases of beer, I'd have insane 'traction' with a product hundreds of millions of people would find engaging. Like Pets.com, WebVan and the other "we'll make it up on volume" disasters, my service would be loved by everyone but it wouldn't be a good business.
It seems the lessons of the first dot.com bubble have already been forgotten. A business needs to have a clear path to profitability or else it's going to be left without a seat when the music finally stops; and the music always stops.
The lesson of the Bubble is not that you have to know right away how to make money from users, but that you shouldn't pay a lot to acquire them. If an additional user costs you nothing more than a few cents a month of server and bandwidth, you can safely just grow.
Google didn't have their business model figured out when they started, and they seem to have done ok.
It's a black swan in the size it grew to, but not in the fact that the founders didn't have the business model figured out when they started. That's more common than not, if you look at recent web startups.
Just about any of the social networks that were "the next big thing" except for Facebook and Myspace. Friendster was the first social network I joined, was massively popular, and now seems pretty moribund.
They didn't die of not figuring out a business model, though. They died of ceasing to be popular. If anything these examples support my case for the primacy of getting lots of users.
a lot of aged web companies seem moribund. You could say the same thing about geocities. To tweak PGs question a bit, can you think of any sites that got massively popular and didn't have the opportunity to make a ton of money?
I see your point. This is the classic business mindset.
I would venture to say though that the classic rules can be broken for other considerations because the Internet is a new medium.
I will get to other considerations in a minute but the main thing to understand is that the Internet breaks the old rules by lowering distribution costs.
It makes sense to delay monetization if you have a compelling user proposition that can be scaled quickly through word of mouth(ebay,youtube,flickr) or by partnering with an 18 wheeler (google,paypal,skype).
The assumption here is that if you build a large user base it takes a very small number of paying users to make money.
Its easy to see that in each case there is a real value proposition. In fact none of these applications would exist except on the Internet.
Although some rules have changed, the old rules still apply i.e. building something with a real value proposition and then distributing it without breaking the bank.
Those that failed did not create real value in the marketplace not because of monetization.
Right, but nobody said that it does. The point is rather that if nobody notices what you're doing, you don't even get to the point of dying because of a bad business model.
somehow this has splintered into an "business model vs. traction" agreement - in fact you need both. It will not kill a programmer to spend some time running a few models on how they can actually monetize the service, just as it is not beyond the scope of any biz/marketing person to understand that building something users want is job #1.
where many people stumble is thinking in one dimension terms, like assuming Adsense is a business model (see recent posts by Josh Koppelman and Jeremy Lui) on just how big you need to be for this to be truly viable.
What I liked in the original article is that it offered a few, less obvious options for monetization.
Some of the articles' suggestions were good ones. And yes, you should always have some ideas for how to monetize your business. However, one key problem is that if you try to implement a monetization strategy before you build a user base and really understand who shows up at your site, your monetization could be completely wrong.
Consider the following possibilities: your user base turns out to be very broad-based and large, your user base turns out to be smaller, but a significant percentage of them is from a particular demographic or vertical, or your product turns out to be most interesting to other businesses or other websites that want to integrate what you built into their own businesses. Each of these scenarios implies a different approach to monetization.
Given the way your understanding of a market can change as you actually meet the real people who use your site, a change in targeted user base can happen to a lot of different businesses. And if you spend too much time up front working on revenue, you may end up throwing all that work away when you confront the actual opportunities that present themselves.
For some businesses, you may have a precise understanding of who your customers are going to be in advance, and then that turns out to be exactly who they are. If that works out for you, cool. But my guess is that that's not the most common scenario, especially for a website.
I agree on the black swan analogy. I think you have to be careful of survivorship bias, reasoning backward from a handful of highly successful survivors. Among the startups we see at the Bootstrapper Breakfasts very few are able to prospect for oil and find uranium in their backyard. The ones with a simple plan to build a compelling product, at a price, for a particular set of customers at least have something to tinker with when they start to miss their own expectations.
There's a significant difference there. Beer costs money to replicate, programs do not. The marginal cost of adding a new user to the Free-Beer program is the price of a case of beer. The marginal cost of adding a new user to your startup's community is a minor bandwidth charge. I'm not completely sure but I'm willing to bet that if you make a good enough service, people will come. With such a small marginal cost per user, you can afford to grow a userbase before you start incurring serious charge, and once you've reached a point where bandwidth costs are actually meaningful, you can almost definitely find a way to make money off of it.
As another user said, the companies listed so far failed for auxiliary reasons. One of them to be wary of is overexpanding, which is basically what Webvan did. The trick is to not do a massive land-grab unless you absolutely have to; Read this- http://www.joelonsoftware.com/articles/fog0000000056.html
If your cost per user is less than the incremental revenue each user brings you, it doesn't matter how little those users cost: You're still following the "we'll make it up on volume" battle cry in the wrong direction.
Bandwidth and server costs are still costs. Whether you split those costs among four customers or four million, you still need to recoup them and show a profit to create a sustainable business.
If you don't have any secondary costs this is true.
A lot of web companies still need to "pay the rent" or other variable costs. Even without that, don't forget that revenue gives you a huge leg up when searching for funding.
It's often hard to convince people to pay for something that was previously free. So you have fewer options if you start out without a business plan.
Additionally, a revenue scheme isn't just something that you tack on later. Your options are narrowed further if your technology plan is implemented before you think about sustaining it.
There are so many examples of popular free services that could not make the jump and had to shut down: Friendster, Napster, PubSub, Lycos, AltaVista come to mind immediately, but there are many more examples.
And if you count revenue-less firms that got acquired (and were saved from having to figure it out later), the list is even longer.
Many of those shut down from causes other than lack of money, though. Lycos and Altavista were killed because Google came along with a better product. Friendster collapsed under the weight of its own scalability problems. Napster was put out of business by the RIAA lawsuit. I'd never heard of PubSub - it looks they did run out of cash, but you could argue that they didn't have traction anyway.
Many of the replacements also started as free services and did just fine. Google went for 4 years before it discovered a revenue model. FaceBook and MySpace are doing just fine (profitable, even) as free services. Kazaa managed to turn a profit until it too was shut down by the RIAA.
The only companies I can think of that managed to get traction and still failed due to lack of revenue were those that deliberately priced their product below cost and had no other differentiators, eg. AllAdvantage.com, WebVan, Kozmo, Pets.com, Value America. This is economically very different from the current crop of web services, though: most Web2.0 sites get revenue over their variable costs (even a $1 CPM still leads to 80% margins over the cost of hosting & bandwidth for any non-video site), and so they can make up their fixed costs in volume. The Web1.0 E-commerce sites were pricing their product below variable costs, so they ended up losing money when they tried to make it up in volume.
I'm not sure about all your points, but think of it this way: companies with revenues can overcome all kinds of technical and managerial gaffes (I'm looking at you, Microsoft).
OTOH, you can produce a popular, well-executed, low cost per user, etc. free service and still fail.
The inverse is true too: companies with popular, well-executed, low cost per user free services can overcome all kinds of technical and managerial gaffes (I'm looking at you, MySpace & LiveJournal & PlentyOfFish).
OTOH, you can produce a company with revenues and still fail. (Webvan, Kozmo, Value America, etc.)
Excellent read. I think there is something in the air or water in the bay area that has been poisoning people into making startups that have very little chance of ever actually making any money.
Having a good business model does not mean you have to write out a 100 page business plan and have miles of spreadsheets. Just figure out a way to make money. It is even better if you design your startup to both get money AND user traction.
Tossing adsense onto your main page does not normally cut it.
With my startup, I'm using a low cost subscription based model for an online poker site, plus I am upselling microphones/headsets for the voice chat functionality that is being added to the application. The software is still in beta, but is actually working. I also have years of experience in analyzing, getting, and converting traffic.
FTA: "If there is one thing more valuable than eyeballs it is data. If your system collects information that you can reasonably package into trend data, you have a great source of additional income."
Am I the only one who finds this suggestion an apalling way to go about making money? It seems that if your startup is doing this, it deserves to go out of business.
There are a large number of ways to utilize data from your web app to make money. It doesn't mean that you are selling user's account names, passwords, emails, or any identifying information. Trend data is very valuable in certain markets and there is no impact on the actual user in selling it.
Another way to sell the "data" is to use the information you know about your users and sell not only trends, but targeted advertisements based on your user data.
Think about Myspace and Facebook. They have a ton of information about their users (and a statistically relevant amount of info about the general population as well). The magic is that they can sell ads to men between the ages of 18-21 who are in a state college and earn less than $30,000 per year. Not many companies have access to that amount of information about their users.
This simply isn't the case. You must build something valuable, and capitalize on the value. Unfortunately, traffic isn't quite as valuable anymore.
Think about it, there are a lot more startups now, each with their own eyeballs. The supply of eyeballs has gone way up, which in turn means that with a static demand the value of the traffic has gone down.
Many startups begin with the thinking "We'll build something a lot of people like, and sell advertising from all of this traffic we'll receive." As I've just explained, the value of traffic is much lower with the increased supply. Startups capitalizing on traffic are entering a very competitive market.
Sure, a few companies will gain a massive amount of traffic and do very well (think digg, reddit, etc...), but the majority will need to find another way to be profitable.