Why most Web2 businesses are doomed

The contention is that:
1.    Most web2 business models rely on advertising
2.    The advertising market is barmy at the moment; agencies, buyers & brand managers don’t quite know what to do.
3.    Hundreds of web2.0 companies are essentially making a wide range of very different bets on the type of web property will command top dollar from advertisers.
4.    Not many will get it right.

I first said something along these lines at the Essential Web conference a few months ago, and I have been getting a hard time from some quarters so want to explain. 

Firstly I will talk about exits for these web properties and then about their business models:

Exits
Since joining Advent I have been asking a lot of people their view on who corporates will be acquiring and IPOs be valuing highly in 3 – 5 years.

Right now it is obvious that the hot area for investment and realizations is users and communities (Last.fm* on an exit P/R of 56 proves that. Plus Fred proves it on the back off a fag packet here ).

These valuations are predicated on our old friend “first mover advantage”: Could News International develop their own job-site?  They could, but why not just buy someone already doing it? It saves the time, risk, outlay and focus (like this). Admittedly there is also a fair degree of panic on the part of some media companies that they don’t have a large or strong enough online audience.

Will web properties still be madly buying like this in 3 years?  I don’t think so.

By that point, it is all about monetization.  This is not to say they’ll be straight EBITDA valuations but exits (both M&A and IPOs) will be based on studies of the methods and metrics of monetization.

Models
And so to start ups.  When I look at some of the advertising-based monetization models from some start ups I meet, I get very nervous. For example, will you really be able to hit the $40 CPM 2 years after launch on remnant inventory? Will you really be able to gross £135 for every warmish lead you give to that high street solicitor?

Other than this granular view, there is also a more strategic view. Consider this:

1)    There is a MASSIVE increase in ad space coming online (from start-ups, through the new dominants (like Facebook) through to the old school giants like FT.com).
2)    There is only a MILD up-tick in online ad spending.

At a basic level the law of supply and demand says that price will go down.
(There is a further possibility of consumer spending falling off a cliff, but with the current market poised where it is, who can call this one?)

The end for ad-based web models?

Not at all. I’m as bullish as ever on making investment into ad-driven web models.

I just think that most of the businesses setting up to today have got it wrong.

What I’m really excited about seeing is how the ad market is becoming more sophisticated and how some start-ups are taking advantage of these new models.  All of this is based on some research we’ve been doing in-house and over loads of coffees and breakfasts (I am a stone heavier since April).

We have found a number of key ideas that seem to be moving the world of online and offline marketing.  Brace yourselves for a stack of posts over the coming weeks with my conclusions...

Comments

[PaulSweeney]

your audience awaits...

[Philip Wilkinson]

Interesting thoughts there Paul. It's true there is only so much advertising to go around so the real trick is to get the agencies to stop spending money wildly on run of site campaigns and actually tightly target their client campaigns to get some real returns.

I think we might even see a resurgence in CPA advertising (action or acquisition).

Advertising aside - I'd be interested to hear your thoughts on other revenue streams startups could pursue?

[Dan Field]

Have we come to expect too much for free?

Have the vast sums of money VC’s have pumped into consumer-orientated services compounded the problem?

I was thinking about this the other day… there is now a culture where Internet users expect most things for free. They want to use great services like FlickR, Twitter, Facebook, Last.fm etc. But not if they have to pay for them…

There are now so many Internet startups providing excellent services but then struggle when they come to monetize them… but then some are funded with millions of dollars – is the expectation that someone will solve the funded by advertising model?

I’m not so sure it’s going to pan out like that. For a start online advertising needs to change, drastically.

I look forward to reading your conclusions over the coming weeks!

[James Penman]

For me, successful start ups using the ad based model need to build advertising into the core function of the site. Moveme.com is a good example for a start up. The advertising is integral to the site's function. Google is an excellent example for an established company. The advertising helps the user find what they want. In both, the advertising (whether is be CPC or CPA) is built into the core function of the site.

Just hoping that people will click on a banner or a text ad or a video ad or (even worse) expecting an advertiser to shell out for branding isn't going to work unless you own a freak site that is experiencing freakish growth.

Just as users shape sites through the content they generate, advertising needs to follow. Advertising has to be central to the function and content of the site.

[Manoj Ranaweera]

Very insightful post. Yes, if we look at www.edocr.com our aim is to get to revenue generating position as quickly as possible and not necessarily to build high traffic. Both are interlinked in some respect. What we are trying to attract is marketing dollars, which is not necessarily the advertising dollars, but at the same time we have number of other revenue opportunities which ensures we do not rely on marketing and advertising dollars. It is pretty hard to guestimate what the split would be at this stage, bearing in mind we are still in public Alpha.

[Peter]

nice post.