Wednesday, August 22, 2007

Swimming against the business model tide

About five years ago, I was brought as a consultant to help turn around Live365, an Internet radio station aggregator. The gig didn’t last long, but I did come up with a couple of teaching cases.

Live365 was founded in the go-go 1990s, and with a 1999 VC infusion took the standard dot-com business model: get as many eyeballs as you can, and then monetize those eyeballs by selling banner ads. The problem was, after the dot-com crash, the online ad market had cratered and most companies couldn’t give them away. With very loyal broadcasters and a unique product for listeners, company made a transition to a primarily fee-based model and (AFAIK) is now cash flow positive.

Thus, it was more than a little ironic for me to read in Tuesday’s WSJ about the VC reaction to the latest round of web startups. Reporter Rebecca Buckman spelled it out:

Tech entrepreneur Glenn Kelman's online real-estate brokerage, Redfin Corp., allows consumers to buy or sell homes online and takes a cut of each real-estate transaction it brokers.

To Mr. Kelman, it’s a sensible business model. But when he sought backing from venture capitalists this past spring, he found the process much tougher than he had expected.

During his meetings with Silicon Valley financiers, many kept urging the Seattle company to start selling advertisements on its Web site instead of making money from commissions, he says.

“Today, there’s nothing more fashionable than having an ads-driven model,” says Mr. Kelman, 36 years old. Content to be unfashionable, he stuck to his guns and ultimately raised $12 million.
Dig a little deeper, and the VC concerns are not just the revenue model: charging money for services requires people to deliver them, and thus VCs worry that such models don’t scale as well. As blogger David Kaplan notes, Redfin may not make the best poster child for VC myopia, since the company has other issues.

Still, the idea that all Internet startups need to use Google’s business model is absurd. As Yogi Berra would say, this seems like déjà vu all over again, with companies trying to imitate the unique market position of the market leader. In the 1980s, every mainframe company wanted to be IBM; in the 1990s, every software company wanted to be Microsoft. Today, there’s still only one IBM, Microsoft and Google. As the earliest Marx brother said, History repeats itself, first as tragedy, second as farce.

With any of my hats on — teacher, researcher, consultant or entrepreneur — I can’t understand why anyone would embrace the one-size-fits-all business model idea. Where would Amazon or Google or eBay or Skype be if they had only used established business models? My conjecture is that the Internet encouraged business model experimentation, because delivering value was often decoupled from the physical limits of retail locations, travel and inventory.

One of the people who’s done more than anyone to advance the study of business models is Henry Chesbrough, both with his 2002 paper on Xerox spinoffs, and his three books on open innovation. In his 2003 book, the last section of Chapter 9 “The Value of a Multiplicity of Business Models for Innovation.” That says it all.

Later this year, I hope to have some evidence to support my assertions. Right now I’m supervising a master’s thesis project at SJSU, where German Benitez and Eduardo Sanchez are looking at social media business models. They’re still working on the hypotheses, but in the sample so far there’s considerable variation in business models. The companies may not be old enough to get success measures (even survival), but eyeballing the data suggests that different value propositions require different revenue models.

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1 comment:

Seth said...

Maybe the VCs (in an increasingly volatile investing environment) are just following an older, proven(?) (“Show me the money”) business model.


Wharton’s David Hsu thinks the Web 2.0 companies may have changed the VC formula “…which used to count technology differentiation as a key requirement for web companies … [and that] technology has become a commodity” (http://knowledge.wharton.upenn.edu/article.cfm?articleid=1787#). A Lightspeed Ventures VC looks for: “three items when sizing up new companies: viral growth, potential to sell advertising and transaction revenue...The differentiator is no longer technology – it’s more like parts of a triangle.”

Roger McNamee went out on a limb (in the same article): “I haven’t any ideas which business models will emerge, but I’m confident it will be big.”

Maybe it’s simply about making a “safe” bet.