Uh Oh. The Web 2.0 Sky is Falling!
The Financial Times just put out an article with the title “Web 2.0 Fails to Produce Cash“. The crux of the piece is contained in this quote:
The shortage of revenue among social networks, blogs and other “social media” sites that put user-generated content and communications at their core has persisted despite more than four years of experimentation aimed at turning such sites into money-makers. Together with the US economic downturn and a shortage of initial public offerings, the failure has damped the mood in internet start-up circles.
Don Dodge takes the analysis a step further adding two noteworthy points:
Bubble Cycle - Bubbles go through predictable cycles. Bubbles emerge from the ashes of despair. It takes a while to gain momentum but eventually greed overtakes fear and we are off on another bubble adventure. Stage one of a bubble is when most smart money declares we are NOT in a bubble…it is different this time. Stage Two is more dangerous. Many people agree that we are in a bubble, but it will last another year or two, and there is still money to be made. The third stage is when the bubble has burst but most people are in denial and think it is a temporary set back. The fourth stage is when everyone agrees the bubble has burst and life will never be the same. My guess is that we are now well into Stage Two of the bubble cycle.
and…
Advertising Revenue Math - How much traffic is needed to generate $1M in ad revenue? It all depends on how well you can target your audience and how much you can charge for CPM rates. For social network sites let’s assume an average CPM of $0.40. You would need 2.5 Billion page views per month to earn $1M in ad revenues. That is 2,500,000,000 page views…how many sites generate that traffic?
Now Don’s a smart guy, but how on earth does any of this jive with Tim O’Reilly’s post on the Internet Operating System?
It doesn’t. Anyone talking about a “Web 2.0 bubble” is being comically myopic. This is the first inning of a big ball game here. While it’s fine to wonder aloud about huge valuations for companies that, despite building out large user bases, have no semblance of a business model (i.e. Slide, Twitter), it’s not otherwise productive to lump the rest of “web 2.0″ into a group that came, couldn’t figure out how to make money, and will be shortly exiting.
Don’s second point about advertising revenue math points out the fallacy. Don is correct in his math that at a $0.40 CPM that you would need 2.5B page views to get to $1M per month. But what happens at $4 CPMs? Or $40 CPMs?
Of course social networks, whose target markets include….everyone, can’t effectively monetize via advertising. Take the context of the Internet Operating System, where for each problem, or vertical market, there will be a service that best serves it’s needs, $4 CPMs are easily achievable and $40 CPMs are possible.
LinkedIn is a perfect example of a Web 2.0 business model that leverages advertising. LinkedIn targets a specific audience (professionals) that can be effectively monetized via advertising. Then leveraging the network effect, they build out capabilities to repackage the data and services for additional revenue. High CPMs plus some services can make for a billion dollar company.
Clearly LinkedIn is an exception so far, but this rule could hold true for any Web 2.0 company targeting a specific market (not the part about $1B, but the model). The irony is, most of the companies going forward with the “give it away” business models are the ones going after markets that have the $0.40 CPMs. There are lots and lots of vertical markets that need web 2.0 solutions that could produce significant returns for venture investors even at high valuations early in the process.
And this most salient point was quietly buried at the very end of the article.
“The capabilities that are coming with Web 2.0 are very profound,” Thomson Reuters exec Devin Wenig told FT. “The Valley is usually right, and it’s usually early.”
Edit: John Furrier makes a similar argument: Smaller, targeted audiences are worth more.