Internet Strategy (1/3): Business Models
Alright, one more post in this little series that bloomed from the Microsoft-Yahoo proposition. While these posts don’t directly deal with stocks, maybe they will help with how you view internet companies and investments in them. Today, I’ll start with the first post of three that I intend to write. I’m no business guru, but these are my general feelings about the state of the internet and how companies look to compete in this market sphere.
Three Types of Internet Companies
There are three fundamental types of internet businesses – content providers, merchandisers, service providers.
Content providers are internet businesses which depend on their ability to attract visitors via content. Blogs, ESPN.com, online newspapers, and video website all fall into this category. Content based websites are the target of whatever describes as “new media.” They are valuable in their ability to reach broad demographics and provide targeted access to these demographics.
Along with content providers, merchandisers form the two founding groups of the internet. When the first internet boom came around, it was these two types of companies which garnered more attention than any others. Truth be told, online merchandisers and their brick-and-mortar counterparts are very similar. In the end they must sell and ship tangible products. They deal with inventory and profit margins in much the same way. They, however, have much broader access to consumers from all over the world, but in turn give up control over their consumers resulting in very high price elasticity.
Service providers, here, do not represent internet service providers like Time Warner Cable or Verizon Fios. While these do represent a subset of companies which make their money as a result of the internet’s existence, I mean service providers which operate wholly on the internet. They provide web-based services which can range from e-mail or file hosting to software solutions like word processing, spreadsheets, or time management.
You may be wondering why I have left our search and social networking as internet businesses. This is not because I believe that they are not viable business strategies or because I thought a list of “three” was more powerful. Truth be told, while search may be far and away the most lucrative internet business right now, it is really just the most highly developed type of service business model. The company provides search engine algorithms and computing services as a means of attracting clients.
Social networking, too, can be quasi-categorized within the three foundational business types I outlined. Most social networks are designed around a foundational principle either within content provision or service. To me, the social networking aspect is more a tool to better capture and understand one’s consumers. In some sense, I guess you could describe the social networking framework as a business strategy more than a business type. For example, the social network layered on top of the YouTube content model is designed to facilitate feedback and propagation of popular videos. Social networking also allows for better leverage of the the client base. For example, Facebook initially started as a service provider – a simple people-to-people directory – it then used the social networking framework in attempts to build a user-generated content business as well as some forrays into merchandising.
Viability of Internet Businesses
The funny thing about the internet is that internet business success has always been measured more in its ability to reach consumers more than in its ability to monetize them. Despite this, no matter how good the product or service provided and no matter how many people enjoy using it, profitability eventually determines success. The first internet boom failed as a result of the inability of firms to find a way to leverage their newfound reach into the consumer market. While expectations have changed a bit since the bubble burst, this remains an issue which still plagues many new internet startups.
Improved internet availability, user willingness to execute monetary transactions over the internet, and ability to target specific consumer groups has allowed some market leaders like Google, Amazon, and eBay to establish highly profitable operations and given hope to many new internet ventures.
What is lost when looking at these three businesses is that, outside of Google, none of these companies have survived as a result of monetizing “eyeballs.” eBay and Amazon make money through individual transactions. Google has found a profit engine in its advertising model but probably has scale to thank for its success more than anything else. Google manages to secure nearly 50% of internet advertising revenue as a result of its highly successful AdSense network, but continues to acknowledge struggles to monetize social networks like MySpace and YouTube. What can this say to those new ventures hoping to make it on their own?
Continue reading the Internet Strategy post series:
- Part 2 – Internet monetization strategies
- Part 3 – Case studies on Google, Yahoo and Microsoft
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