Monday, September 15, 2008

Web Meets World (a.k.a. Web Meets Money)

Today Lehman is filing for Chapter 11 bankruptcy protection, and Merrill Lynch is being bought for chicken feed by Bank of America.

The Wall Street sky is falling. but what does that mean to tech companies, and particularly to startups?

The last five or six years have been all about community, "social media" and other related types of communications. That era has ended and the next phase of the Web will be about *real* productivity. That means products that make you more efficient, and more effective. It means software that saves you money or makes you money. And yes, we are really going to have to start paying for the good stuff.

One theme that has been emerging is being referred to as "web meets world". It's an idea that has been discussed by Brad Burnham from Union Square Ventures, and also the folks at the Web 2.0 Summit. The concept is that the web needs to actually help you do things in the real world, and not just meet other folks on the web. I think this is all true but it is really just a fancy abstraction for helping people do things that matter, and things that they will pay for. As an example, Union Square just invested in Meetup -- a terrific investment. Meetup makes real money charging people for helping connect them to other people. They are providing real value and so people pay real money.

I find this "web meets world" concept particularly interesting because of a controversial piece I wrote back in April called "Free Is Killing Us, Blame The VCs." The core of my thesis in that piece is not that free is inherently bad, but that too much free was distorting the value of the market because the free is only supported by VC money and not real value being delivered to users.

As a result, I opined, it was way too hard to start a small business and to grow it because you need to "get to scale" since everything is expected to be free and monetized by advertising, which requires lots of users. Perhaps the idea people found most objectionable was when I said the following:

In today’s “free” world, in most online business categories, it is inherently impossible to start a small self-sustaining business and to grow it. This is because in the digital world, advertising, the only real revenue stream, cannot support a small digital business. If businesses were based on the idea that people paid for services then small companies could succeed at a small scale and grow. But it is very hard to charge when your competition is free.

People really objected to the idea that "in most online business categories, it is inherently impossible to start a small self-sustaining business and to grow it." And of course there is room for debate here. But what is not debatable is that by and large, tech startups engaged in offering totally free services ( I am not talking about freemium here) are not making money, and they are not getting acquired. Its fine not to get acquired, but you can't do that very long if you're not making money. And now that "free" VC capital is drying up, sustaining such businesses will be really tough.

Interestingly, at the time, Brad, among many others, took me to task for having a dated view of the online world, and for not understanding how it really works.

But in my view, Brad's stated new thesis is exactly in line with my writing at the time. "web meets world" really might be better phrased "web meets money." There will be fewer and fewer companies getting funded by offering services that help online folks interact with other online folks, because cool as it is, people won't pay for it, and the bottom is going to fall out. Brad and Union Square's new investment thesis is the canary in the coalmine for that strategy.

Brad's rebuttal to my April piece talks a lot about new business models that are going to emerge that I am just missing. But five months later, I see no evidence of it, and "web meets world" to me, suggests that in their heart of hearts, they don't either.

In fact, I think companies like 37 Signals have had it right all along. They preach charging people for services, and staying small, and adding real productive value. Scale is irrelevant in this model because the software ads value to the individual without the network effect. In this model, scale is a benefit, not a requirement. I am not saying there will not be successful advertising based companies, but I am saying they will have to solve really serious issues like improving the value equation of online banner ads, in order to be successful.

As I see it, this is a fantastic shift in the marketplace, because it means if you have a company that adds real value, you are less likely to get thrown off course by a flood of capital creating unsustainable competition. I am very happy the venture markets are making this shift.

9 comments:

  1. Hopefully this string of bad news will be the last on Wall Street and will cool down VC's. I believe web entrepeneurs understand that the free model is not feasible anymore as a stand alone business model.

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  2. I see so you failed at convincing people of this in your previous posts and thought you'd try and roll it all out again now that there's some "bad news" to help make people think again about your cogent argument...?

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  3. I saw this article linked on twitter by @BeenVerified. I think you pretty much summed up my predictions... and I think the model of charging for services will work too as long as the prices are kept low enough to not scare people away. The iPhone App Store is a perfect demonstration of what people are willing to pay.

    I don't think that the era of Social Media and Social Networking is dead though. On the contrary, I think it's only begun and if you look at current trends, it looks like it is definitely evolving. Like you said - people want to meet other real world people and not focus on online people as much. As Generation Y moves into higher paying jobs, they will have more disposable income to pay for these types of services and they will be willing to pay for it especially as they realize the value of their identity.

    Another thing you nailed - 37Signals has been right all along. David Hansson has been dragged through the dirt by some of the larger blogs for preaching that people should charge for their products. They claim his advice has supposedly been a direct cause for small businesses to fail. He is right though and 37Signals is proof... if you have a good product and you charge money for it, people will pay for it.

    It will be very interesting to see how this next year plays out. Companies are learning to build desirability into their products and hopefully the market takes notice and starts spending money on it.

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  4. You'll be able to charge, but the idea will need to be VERY unique and difficult to imitate. One piece of the equation is COSTS associated with creating a web company has come down dramatically. Google could easily subsidize many web projects for many years. Looking at the big picture, it's very easy for any of the major players to support these web projects. That is what start-ups are competing with and will continue to compete with for years to come. The barriers to entry are so low...VC's can't give away their money.

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  5. the *point*man,

    I agree that fewer companies will have the goods to compete in the new world.

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  6. What if your service is free to users (another webby people-interacting-with-people type), but the service is really a different type of vehicle for business to "advertise" to them?

    Does a service that is free to users but drives traffic/people to businesses/advertisers fall into the "web meets world" category?

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  7. Adding real value to users. What a concept. I think sometimes startups get so obsessed with building their company and getting rich that they forget their whole raison d'etre: adding to value to users.

    You are right that the network effect becomes irrelevant if you actually deliver value to users. However, getting your prices just right seems to be both an art and science.

    For my startup, I am creating systems for testing absolutely everything using A/B and multivariate experimental designs to get things just right.

    Thank you for adding value to my evening.

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  8. I agree, Hank.

    It's exactly why the company I started with my associate needed to be placed on hold.

    Advertisement money is not enough to sustain a small company, which has low traffic because of it.

    We will see what happens from now on...

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  9. How about back to basics -- providing value instead of manufacturing the appearance of it?

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