Profitable Internet Business Models


brickandmortar

Once, San Francisco was the home of a startup that, well-funded initially, employed a bunch of engineers to realize designs of products submitted on-line.  Besides the ubiquitous, well-designed website, it staffed itself with an army of personnel to realize its plan. A couple of years later, it shut down without much fanfare.  When the founder was asked about why this startup failed in comparison to other website startups, albeit successful, that simply hooked up the engineers with designers, he made a memorable reply: “that is only a website!”  A true and succinct observation of what kind of Internet business models truly prosper in Silicon Valley.

Let’s pick the current juggernaut, Uber.  It is a ecommerce “website” that processes credit cards and other payment options (e.g. Paypal) from clients and pays them the balance, after taking about 20% (Wow!) fees for every dollar charged.  This basic, successful Internet transportation model becomes a virtual, ecommerce conduit between guests and hosts on a website and process payments. There is some programming: simple data processing that calculates arrival time by taking distance between two points, divided by average speed.  No complicated algorithms.  We know that Uber’s geolocation services are generated from its API with the cellphone companies – freeing it from building radio towers and satellite services and hiring countless of engineers to manage the infrastructure. We also know that its mapping system is a license from Google or other geographic mapping system.  Everything is digital, its API with the telephones carriers is free, and the website skims a cut to facilitate information between users and the drivers by the design and management of a functioning ecommerce website.  In simple terms, that is Uber. Not a technological marvel.

Another ecommerce model relies on the peer-to-peer model, in this case, for content creation.  The more content created, the more eyeballs are looking at the websites.  In the case of Yelp, we observed that peer-to-peer reviewers added content without Yelp paying not one dime to peer-to-peer contributors.  In many cases the advertised businesses pay a small fee to be inserted in the website’s database. Had Yelp followed the traditional example of employing experienced and knowledgeable critics, much like cuisine or travel magazines, then Yelp would not be anywhere as successful as an ecommerce website.  Yelp is a simple ecommerce model that becomes an oft visited site for people to view services assisted with the free geolocation information from telecommunication carriers. Yelp becomes today’s substitute for the Yellow Pages (for the younger generation, telco carriers once published a fat book listing businesses by services with ads, addresses and phone numbers), articles authored by restaurant critics, and the GPS.

When did this peer-to-peer contribution model being managed by a website begin? Youtube comes to mind. Users uploaded digital videos, of whatever quality, unto a simple ecommerce website.  Videos would be stored in a data center, which, in today’s dollars, costs somewhere about several hundred dollars per Terabyte. Billions of video minutes accumulated every hour. Then viewers would selectively choose the content. And here is where the “programming” skills would apply, however simple.  The viewers could be informed of the content, viewers could be screened by the contributor, and the site would keep count of the volume of viewers. What a great business model! Youtube founders never created any Content.  Youtube just designed the website that funneled content between contributors and viewers. The Youtube founders did not pay a dime for the video production from the likes of any Hollywood entertainment company, which normally hires video editors, writers, audio experts, directors, union production personnel, and so forth. Google bought this simple website model for billions even though Youtube never charged a dime to viewers or contributors to this peer to peer content accumulation website.  Google bought Youtube with the belief that with so many eyeballs viewing the website, it could build an advertising model based on viewer profiles – Google’s forte.

And this example leads to the other juggernaut, Google.   But let’s look at AOL first.  AOL created a portal to get into the Worldwide Web and added a “community of interest” component for monthly fee.  Simple but imperfect. Simple since AOL charged a monthly fee for access to the Internet.  AOL had a good idea, but failed to perfect it.  Youtube revealed that people are attracted by “free” access to the Internet.  But how to make money from free services?  Google answered that. Google came in with this new approach: search for information for free with whatever tool to access the Internet, profile the users searching, target them for advertising, and charge the advertisers pennies on the dollar.  With huge economy of scale, Google creates huge revenues by accumulating billions of users on its search engine with pennies. ($26.01 bill. Gross Revenues by Q2 2017.)

The other juggernaut, Facebook, is a hybrid of Youtube and Google: Users contribute content for free (peer-to-peer model).  FB uses the content exchanges to profile the users and then target advertisers on the computer screen or smartphones. With over 1.5 billion FB users, it also charges minimal fees to advertisers to generate very profitable revenues.

Why am I addressing these models?  In strategic analysis, the strategist must compare successful companies vs. failures.  I previously worked with a startup that attempted to distribute self produced videos throughout the Internet to inform users about tools to repair products or play guitars or sail a boat. The founder suggested to hire professional videographers to produce the content. I objected vehemently.  Why? Youtube doesn’t spend a penny and has such videos already, whatever quality.  Yet, Youtube was bought for billions. Users are not willing to pay a dime for that content at this level. Moreover, to produce quality content would cost a fortune and would make the whole venture unprofitable. The company would need to hire talent managers, editors, and more – essentially becoming Hollywood studio such as Paramount.  Did Youtube do that?

Not one successful Internet company undertook that strategy to employ an army of personnel to produce content.  That is not a profitable venture for Silicon Valley models. Instead, they invest in data centers to produce reliable websites and transactions, and programmers. Jack Dorsey, the Twitter co-founder, once commented that SV internet models know how to build successful companies by understanding the Internet ecosystem.  He was right. Free and Freemium models generate eyeballs. And then the website charges advertisers or businesses for accessing those eyeballs. Brick and mortar approach doesn’t work.

Food delivery companies, which require huge staffs, are funded alright but then fall flat on their faces whenever they scale rapidly. Look at the recent Blue Apron.  A lot of network advertising, but not enough economy of scale to be a profitable model. Note that when Google and FB did grow, their economies of scale improved.  Not so for labor intensive businesses such as food delivery.  It was worse since the founders did not realize the extensive infrastructure and operations to invest and manage when scaling up.  And so followed that San Francisco company that hired those engineers I described in my introduction.  Truly successful internet companies are simply “websites” with some bells and whistles attached.

Advertisements

About Juan Ramón Zarco, SVVGP 胡安•雷蒙•扎尔科

Juan Ramon Zarco, 胡安•雷蒙•扎尔科, Silicon Valley Ventures Growth Partners llp, Hygieia Healthcare Technologies Company, AllRest Technologies LLC, Crimson Growth Partners LLP, jrzarco2001@yahoo.com, is an experienced as CxO, General Counsel and Secretary to public and private companies with global operations. Established track record of producing practical, revenue-focused solutions. As Counselor and Secretary, demonstrating vision, integrity, and sound business judgment, to CxOs. Managed complex, strategic transactions, M&A, contracts support, PE Financing, IPO, SEC compliance, Corporate/HR governance, IP licensing, Budgeting, Staff, outside counsel management, International market access strategies, Domestic & foreign government relations and advocacy. Creative in designing and implementing market access strategies. Practices law beyond conventional model with low-overhead and project-based fees. Effective at managing departments, formulating marketing strategies, balancing budgets, and implementing cost-saving measures. Extensive in-house and private practice experience, advising clients on commercial, corporate, international business, and technology law and policy. http://www.docstoc.com/video/89135472/make-your-business-an-international-presence; http://www.youtube.com/watch?v=fx5gijf3yoc For Sprint, he managed iDen international development in Southeast Asia, Middle East, and Africa, and contractual issues with Verizon. In Private Equity, he worked with Pegasus in vetting international investment deals and interim President for portfolio companies, such as Data Foundation, a data storage company, handling marketing, strategy, fund raising, and accounting. Before Pegasus, Mr. Zarco, as CLO and V.P. of Corporate Development, played a principal role in the structuring, international expansions for 2 telecom companies, U.S. Cable Group and Viatel, Inc. in financing and M&A deals exceeding $200 million. Mr. Zarco earned a J.D. from NYU Law School, M.B.A. from Cornell, and B.A. from Williams College; is fluent in Spanish, Portuguese, French, and German, with working knowledge of Russian, Arabic and Japanese.
This entry was posted in Capital and Management, competition, Management and Capital, Marketing, Strategy, Technology, Valuation. Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s