Evolution in Action, Internet-Style

We’ve witnessed a lot of Internet start-ups crash and burn this past year. Many of these companies were built on terrific concepts and could have generated an overwhelming market demand if only a few things had turned out differently. A classic scenario is the dot-com that effortlessly obtained its initial round of financing prior to the market slide and counted on securing second and third rounds just as easily. But then investors tightened up financing after re-evaluating their initial investments (or donations!). There was a terrific cover of The Industry Standard around this time showing the “Easy Money Bank” with a “closed” sign on it that perfectly depicts this situation.

Another developing trend is that apparently, it will be extremely difficult for a site to succeed with an exclusive ad-based revenue model. Many sites assumed that they could just provide content and sell ad space accordingly. But most find it difficult to sell the bulk of their ad inventory. Due to the rapidly growing number of web sites available to advertisers, more publishers will continue competing for paid advertisers, and ad prices (in most cases) will decline across the web. The World Wide Web site population will double over the next 18 months, and pricing will become more competitive and standardized as the industry matures.

So what does this mean for media buying? Good news, most likely. With more advertising options and more people competing for budgets, media prices will drop, and publishers will likely accommodate buyers better through bonus deliveries, lower minimum spend levels, and optimizing ad campaigns.

Entering the fourth quarter of 2000, we are already seeing more available ad inventory than we did a year ago, and vendors seem more flexible on their pricing and placements (although targeted search engine placements are apparently the exception). This is a great time to work in media, but last year was the year to sell interactive media. Pricing was less flexible, inventory was tight, and everyone made money — a lot of money. It appears as though the buyer might have the upper hand this year. Prices are now beginning to inflate, but it doesn’t appear as though they will increase to the extent they did a year ago.

Some sites have also realized that they require two or more revenue streams. Many of the pioneering content sites developed into full portals with extensive shopping channels. By the same token, it isn’t too uncommon to see e-commerce sites running ads as a second revenue stream. Many professionals believe that this second revenue stream might be detrimental as visitors come to e-commerce sites to browse or buy; you don’t want your potential buyers to lose sight of why they are there and click away on another advertiser’s offer.

Another significant reason for so many early failures is the huge degree of inexperience among individuals operating these companies. Not to belittle the fact that many have been terrific visionaries developing unique products and services, but dot-com CEOs to date have typically been young and inexperienced in running large organizations. It was uncharacteristic for investors to offer so much money so willingly to inexperienced entrepreneurs. Very often, we see very creative, young entrepreneurs (often new millionaires) who lack the financial expertise to deal successfully with incubation companies, advanced cash-flow modeling, company valuations, and acquisitions. The learning curve can be overwhelming because gaining financial expertise is challenging to even the most experienced.

The downfall really only stands out because there have been an exaggerated number of start-ups at once, many having received financing they shouldn’t have. The proportion of dot-com businesses that fail is much higher than traditional brick-and-mortar companies, but these figures will get closer in the long run. There are very few industries that have grown at the pace of the Internet, and the learning curve will flatten out over the next few years as investors gain experience in their valuations and continue to back only companies with a high likelihood for success.

Entrepreneurs have also attempted to translate almost every existing business to an online property. The fact remains that although e-business will grow and replace a lot of our daily functions, from the way we research to how we shop and plan our days, there will still be businesses that do not connect with the Internet effectively.

Many service industries (from a B2C perspective) make easier transitions to the web than those that offer physical goods. Industries that have moved successfully onto the web include financial services (banking and trading), gaming, and travel services (up to 75 percent of travel agents will be redundant by 2005). Job boards also fall into this category, although the financial stability of some is uncertain. B2B e-commerce also continues to thrive, especially with standardized products. For example, steel is one of the most commonly sold products online.

There is a great company in Toronto called GroceryGateway.com that will deliver your grocery orders right to your kitchen for a mere Can$6 (a fee most are willing to pay, considering parking or a taxi would likely cost at least this amount). This service has generated huge demand with relatively little advertising thus far. However, I just saw a documentary that showed how the company must increase its regular customer base 12-fold within one year to stay alive. This is a perfect example of a service with potentially unlimited demand. However, a few companies might have to fail before one is able to break even and then turn a profit.

Essentially, what makes an Internet start-up attractive to investors is not that the Internet is a marketable product. The attraction lies in the fact that the Internet is a new (and often better) medium through which to deliver existing information, products, and services.

The market is recovering and new Internet start-ups will continue to appear. A smaller proportion of them will receive funding, which will translate to improving success ratios.

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