In our latest piece on 2008 review / 2009 preview, we look at the world of Venture Capital (VC). Just when VCs thought they were seeing the light at the end of the tunnel, it turns out there’s an oncoming train that is getting louder, closer and set to derail VCs for good.
Today it’s widely known that plummeting real estate and equity prices are making it hard for investors to keep plowing money into VCs. We covered this in October 2008 to explain the impending panic that was to set with many VCs. It is our belief now that 2009 will highlight this sentiment as IPOs get shelved.
According to Paid Content, the few IPOs that VCs were hoping for are actually not going to happen:
Two of the rare digital media IPOs planned have done something not that rare these days: withdrawing their IPOs. NameMedia, the domain name media company headed by Kelly Conlin, previously CEO of Primedia and IDG, and Eyeblaster, the online rich ad format company, have both filed notices with SEC to withdraw their planned IPOs. Both cites the usual, “market conditions”.
NameMedia filed its S-1 in November last year, with an intent to raise about $172 million. The Waltham, MA-based company offers two main services, monetizing unused domains and facilitating domain name sales.
Meanwhile, Eyeblaster, the NYC and Israel based company, filed for a $115 million IPO in March this year.
Other digital media related companies that have withdrawn their IPOs recently include LocalMatters, Synacor, and Focus Media (which sold part of its company this week to Sina). When will CurrentTV, the only media related IPO pending that I know of, withdraw?
You tell me, but at this rate, my money is on “very soon”. The timing of a piece in Forbes magazine could not be better:
Three years ago Venture Capitalist Timothy Draper graced the cover of a financial-industry trade magazine wearing a wide grin and a Captain America costume. Draper, the tagline said, had joined the “League of Extraordinary VCs” for his smart investments in Chinese search service Baidu and free PC phone service Skype. Both picks earned Draper’s firm, Draper Fisher Jurvetson, and one of its affiliates millions in profits.
(…)
Lots of DFJ’s investors, though, are still waiting for their payoff. Many of the big universities, foundations and rich individuals who parked money in the firm’s flagship funds have yet to see a dime of profit from Baidu or Skype. Those homerun investments were made from a DFJ affiliate called Eplanet Ventures, in which only some of DFJ’s investors participated. (DFJ declines to say how many.)
The investors in other big DFJ funds raised around the same time as Eplanet have come up empty. The return on the DFJ’s $640 million Fund VII, raised in 2000, is a sickly –2% as of Sept. 30 (and) has paid back only $115 million to its investors, even though the fund is entering the ninth year of its ten-year life and should be realizing more gains. Many investments have been marked down significantly. Investors would have been better off buying the S&P 500 index, which is down 0.4% annually in the same period.
The venture capital industry is staring at the most vicious shakeout in its history. Returns are pathetic for most funds, the public offering pipeline on which venture depends for its exit strategy is clamped shut.
(…)
The median annual return for all venture funds raised in 2000, the peak of the dot-com craziness, is –1%, according to research firm Cambridge Associates.
(…)
Where Draper won’t find much sympathy is with the pension funds, foundations and well-heeled investors who make up the base of venture firms’ investors.
(…)
The venture firms earn between 2% and 2.5% of their capital under management and retain 20% to 30% of any profits.
(…)It has been 11 years since the venture industry has returned more cash than it has plowed into investments, according to the National Venture Capital Association. The industry is now managing $257 billion, up from $64 billion in 1997.
“There are way too many people in the business,” says Kenneth Goldman, the chief financial officer of VC-backed Internet security company Fortinet and an investor in other venture capital funds. A shakeout in the industry has been a long time coming but could finally be at hand.
Joshua Lerner, a professor at Harvard Business School, recently analyzed returns, net of fees, for 1,252 U.S. venture funds going back to 1976. The median return for top-quartile firms was 28%. That included the huge profits of the tech boom, which aren’t likely to recur. The median return for all venture funds was just under 5%, or worse than what Treasury bonds would have given you.
(…)
Illiquid investments like venture-backed startups don’t look so hot. VCs “have been living off fumes for a long time now,” says one prominent Silicon Valley investor. “If you have any money, the last thing you’re going to do is put it into an asset class that hasn’t generated a return for ten years.”Research firm Private Equity Intelligence unearthed other dismal figures:
- Menlo Ventures’ 1999 fund had a –13% annual return as of the end of 2007
(…)
- The data also show that Mayfield’s 2000 fund is off an annualized 7.4% over the same period.
- Sevin Rosen Funds in Dallas is in even worse shape: Its 1999 fund had lost an annualized 23.4% as of March 2007, and a fund raised one year later in 2000 was down at 17.6% per year as of the end of 2007. Partner John Jaggers says the 1999 fund had improved slightly, with a compound annual return of –17%.
Some investors are belatedly voting with their feet, shifting future allocations within their private equity portfolio out of venture capital or dumping existing stakes in venture portfolios entirely. In February the $129 billion California State Teachers’ Retirement System changed its allocation goal and now aims to invest only 0.5% of its total portfolio in venture capital, down from 1.3% previously.
(…)
Is it possible that VC firms are in it for the annual fees as much as for the 20% to 30% carry? They raised $36 billion in 2007. At the standard management fee of 2%, that yields $720 million a year even if there are no gains.
(…)
DFJ’s $375 million Fund VI from 1999 posted a 2% annual return as of September and has returned only $135 million to investors. They got cash from the successful initial offerings of companies like Athenahealth and EnerNOC, but overall those wins and other exits haven’t been enough to make investors whole, at least so far. DFJ has opened four main funds since 1999 (VI through IX), raising $2.1 billion. By the year 2007, when all those funds were running concurrently, DFJ could have grossed as much as $41 million a year in fee income for the firm and its ten managing partners, plus other investing staff. “It doesn’t cost $41 million a year to keep the lights on,” says Paul Kedrosky, a former venture capitalist who is now a senior fellow with the Ewing Marion Kauffman Foundation, which studies entrepreneurship.
(…)When the VC industry was riding high on such successes as YouTube and Skype, it could afford to be picky about its investors. Nowadays the new money is harder to come by. Veteran firms such as Mobius Venture Capital and Worldview Technology Partners are bowing out. The Carlyle Group just announced it is closing its Silicon Valley office.
“The industry today is still structured for big exit deals, and it’s not getting them,” says Douvos. He calls recent VC returns “terrible” and says he has jettisoned some of his fund’s traditional venture partners who are raising big, later-stage and international funds, which he doesn’t think will do particularly well.
(…)If other big-name investors also start dumping venture investments to rebalance portfolios, “it’s going to be hard for people to raise big funds” in the future, says Scott C. Malpass, the chief investment officer for Notre Dame’s $7.1 billion endowment. Investors “are not going to be able to put a lot of new money to work.” Some in Silicon Valley say the number of venture firms, 741 at last count, could shrink by the hundreds before things pick up.
Some disillusionment with venture capital has already begun to set in. In 2006 the giant Calpers California public-employee pension fund started selling off $2.1 billion in private equity holdings, including VC investments. “We’ve seen distributions coming back to the [investors] basically drop off a cliff,” Calpers Private Equity Chief Leon Shahinian said at a November VC conference in San Francisco. “I think, in terms of fundraising for VC funds, it is going to be a challenging environment.”
(…)
[B]ehind closed doors, association board members heard a dire warning from two tech investment bankers about the state of the new-issues market. “There’s not a market for anything today,” said Paul Deninger, one of those bankers, in an interview later. Deninger, vice chairman of Jefferies & Co., said initial offerings won’t bounce back without an easing of regulations on public companies and structural changes in the VC industry.
Read more.
The title of this post could be “you don’t know who’s swimming naked until the tide goes down,” well - the tide is going down… and a lot of VCs are turning out to be suckers, not worthy of… VC money. Why is the industry so broken? Well, let me count the ways:
It all starts with the draconian terms that VCs push onto entrepreneurs, that in fact rob them of real ownership and give them little incentive to stick through thick and thin.
VCs force entrepreneurs to take a short term approach with a cliche “we all go home or nobody goes home” mentality that they themselves don’t adhere to, as the Draper example atop outlines.
The VC model might have worked when high technology and the Web was really something new and niche, but these spaces are hardly new or unique, they are staples of the broader economy and the fickle and me-too behavior of VCs does not help, which sees them invest in the latest, hottest trend even if there is really little value to anyone outside of the Valley’s zip codes. Take the UGC trend that backfired, for example. VCs - who lack advertising and publishing experience - suddenly tried to pass off as new media experts and flopped in a big way. Hubris and arrogance does not begin to describe it. In fact, even in the downturn, VCs are quick to blame everything (the economy) and put their heads in the sand rather than look in the mirror or in the rear view to assess what they did wrong.
Most of my observations and conclusions are on the consumer Web space, naturally, but some of the conclusions apply across the board.VCs also talk a lot about long term, but their actions are actually driven by short term tendencies. For example, with oil flirting $150 per barrel, clean energy was the hottest new sector. But with oil falling below $50, I do wonder, will VCs maintain that appetite or will they lose their energy for… clean energy.
Of course, now that the good times are over and spending more money than you make is unwise, the nastier VCs are unable to hide their toxic ways as it’s every man for himself.
And if you sense any resentment or gloating, you are indeed correct. The two reasons why we’re still in business, without a doubt, were:
1) my refusal to accept those draconian and unfair investment terms and
2) the VCs hard-headed refusal to believe in content.
So yes, I am enjoying this storyline quite a bit and could not have scripted a better one.
My prediction for 2009 is simple:
- Don’t get me wrong, at some point all companies need additional funding, but ata) early stages, startups can and should turn to friends/family and banks (via operating credit lines and credit cards). Oddly enough, recevntly VCs’ behavior was more bank-like than risk-taking, anyway.
b) advanced, profitable/growth stages, then you can turn to VCs or Private Equity, because let’s face it, only then do you get a fair deal…
- VCs are the new record labels (better than what I used to call them): sure, without their money oftentimes bands would have never been able to record an album and become popular… but the Web has indeed changed things, and you don’t really need a label… or a VC. With those shackles removed, the end game for VCs is nigh.
- Had the economy not imploded, I would have seen angels squeezing VCs from the bottom and private equity crushing them from the top.
- But, with the economy melting away, most VCs will render themselves ever more irrelevant… and a few will even force startups to shut down so that they can use some of the leftover funds to repay ever-more-impatient investors.
Digg this Blog
Share on Facebook
WatchMojo on Twitter
WatchMojo on YouTube
Add to Favorites
WatchMojo NewsletterThe Grinch Who Stole Q1
Tech Crunch has been making the rounds and the projections for Q1 2009 online advertising are bleak:
Display advertising revenue is going to fall of a cliff in January according to a number of content sites I’ve spoken with who rely on advertising for revenue. “Sales through December were mostly strong as advertisers used up their marketing budgets,” said one sales exec. But, he added, “there are few buyers for this next fiscal quarter, and those few that are buying are looking for steep discounts.”
Just how bad will it be? I’ve heard estimates of 30%-80% revenue drops over the next three months from companies that serve a variety of content (games sites, tech news, celebrity news, political news, etc.). The median pessimism point is around 50%. The people I’ve spoken with work at large public companies and small one-person blog shops. Absolutely no one I spoke with said they expect an up quarter.
Negativity Begets Negativity
At some point (and we’ve passed that point, folks), the bad news becomes a multiplier effect for more bad news:
- a media buyer sees this kind of article, uses it to lowball a publisher,
- the publisher sees little bright news, so they give in,
- the rates fall downwards, the bookings become rarer and rarer,
- next thing you know, indeed, we’re in a down quarter.
D stands for Deflation…
The web economy and online advertising sectors represent tiny pieces of the bigger picture. The buzz word in 2009 will go from subprime to deflation… so if we operate in a climate (or think that we do) of falling prices, then I wonder why we’re shocked to realize that ad rates and overall ad revenue might fall. I think at the macro level (all marketing) this might - and will - happen. From AdAge, via MediaMemo:
… and Display Advertising!
But as we outlined in our 2009: The Year in Online Advertising, yes, display will be weak, but I think publishers are buying into the glass-is-half-empty outlook because of bearish reporting. The truth is, my gut says things will go down a bit differently:
- marketers will push for video ads (and rich media ads in general) in display advertising real estate,
- the definition for video advertising will move away from purely instream ads (pre-rolls or overlays, for example) to include in-banner video ads,
and by mid-year, the actual display advertising figures will be fine (when you include the video / rich media units).
I do agree that traditional display ads will be weak… mainly due to a horrible Q1.
Let’s be honest: CPA and CPC are for suckers
While many are using the downturn to suggest that performance-based advertising units will see a boom, I’d like to point out a truth that most publishers fear admitting: CPA and CPC ads don’t really work for publishers, so even in horrible CPM times, I don’t think you will see a boom in performance priced ads in a downturn. For more on the entire CPC, CPA and CPM and other online ad terms, click here.
CPA and CPC revenue does not pay the bills, and quality publishers generally reject giving up prime real estate to CPC and CPA inventory.
But don’t take this from me, just follow the market: why else do you think Doubleclick, Blue Lithium, aQuantive and Right Media all got bought out (they all pay out largely in CPM terms even if on the back end they arbitrage inventory on a performance basis) whereas Valueclick remains standing, with no one to partner up with. At its peak, Valueclick was worth $3B with talks that it could fetch more. Even before the market meltdown, it was trading at $1B. Today, in the post media meltdown market, it is trading at $562M in market cap, with an enterprise value of $460M. The point being: in my experience dealing with of all the ad networks, from the publisher’s perspective, Valueclick was the most exposed to CPC and CPA and thus, most expendable.
Now this is all just my gut, but my gut has been right before: here’s one example of CBS buying CNET.
All Things Are Relative: At Least We’re Not in Radio, TV or Print!
If online advertising sentiment is this bad, even if the outcome is half as bad, then imagine what the radio, TV or print outlook is right now. Can you really imagine a media buyer paying $1M - let alone $50M, as Dell balked at - to be in print? What about radio or TV, which represent a black box in advertising where you don’t get to even track or target anything?
Newspapers like NYT and Tribune are - or are at risk to - defaulting right and left. TV companies like CBS are seeing declines in revenues. Radio companies are not faring better.
The point I am making is: there is a bull market somewhere at all times - even these times - and that market is online. It’s time to balance the reporting, too. I find it appalling (alright, strong word) that a site like Tech Crunch inflated the bubble on the way up, and is now ringing the bells of doom in the downturn… but that is publishing… and Tech Crunch does it well.
Who does the doomsday scenario thing best? Henry Blodget. Reading his Alley Insider, you’d think he and his talented staff of writers were typing on a ledge somewhere, choosing between the Publish button and jumping out of the window. For a great piece on his comeback, read this Wired piece. Mind you, in all honesty, I am technically guilty of this as well, the title of this piece should be “Will Online Ads Fall by 50%”, and not “What Happens if Online Ad Revenue Falls by 50% in Q1?” - but when I started writing it, I was thinking more of the impact on print… but then I started to ask myself, can this even really happen?
Well, maybe. At the end of the day, we just saw a major evaporation of wealth throughout 2008 in the housing, financial and automotive sector, to think that online advertising will go on unscathed is foolish, but to alternatively expect a 50% decline in what is the only bright spot in all of marketing is equally foolish.
YouTube vs. Hulu? That is the question record labels are asking themselves as they look for options to tackle declining offline sales and piracy.
Actually, there is a third option, which is building their own Hulu-style site. Hulu is a NBC and News Corp.-backed joint venture.
Ultimately, the conundrum for the labels is “which option will drive higher revenues?”
Somewhere in all of this we should mention that News Corp. has recently launched MySpace Music, which has a legitimate chance of being a major player in music; it already is, of course.
The Specific Reality Facing Music Labels
Music labels are going about this latest fork in the road in the wrong manner, as always. Hulu vs. YouTube vs. Proprietary Site is the wrong question to ask, which in turn will yield the wrong answer. We’ve already covered why from a business model perspective the two properties are different, but even from a partnership perspective, they are vastly different. WatchMojo.com distributes content to both companies, by the way. With a new media company, individual distribution channels can over time generate incremental revenues that, when taken as a whole across all distribution partners, can represent a meaningful revenue stream.
But honestly, neither site will drive enough revenues for the record labels. Let me explain. Music executives have seen billions of dollars in sales evaporate in the face of piracy. As such, nothing online can represent a meaningful alternative to the analog dollars they’ve lost. Not ringtones, not digital downloads, nothing. Of course, digital media is a more profitable distribution strategy, so if the music companies cut costs, they can remain wildly profitable. That they have chosen to stick to their old ways with their cost structures is consistent with their desire to stick to outdated distribution models.
The reality is that music piracy means that if someone really wants to find a particular tune, they can do so quite easily. Napster made it easy, YouTube makes it easier (even if of course, they don’t encourage it). So for music companies, they have to find a way to make it as easy to be found and make their offerings of higher quality. The only way to win and remain relevant is by doing both. Then by doing both, does the revenue factor become relevant.
Over time, yes, if the labels aggressively and frequently publish online, then they can generate meaningful revenues, especially if they then hire sales teams to sell the inventory and get creative with ad packages. But to add a 100 or even 1,000 clips from their respective catalogs and then expect a million dollar check is a recipe for failure.
Option 1: YouTube
Labels have to be on YouTube because YouTube has such a huge audience that it literally will be their loss if they’re not on it.
Option 2: Hulu
Do they have to be on Hulu? Not yet, because Hulu is basically become a TV show hub.
Awareness, Relevance and Revenue
We distribute our content to both, but I personally don’t think anyone goes to Hulu for made-for-Web programming such as ours, so the hundreds of thousands of streams that we generate on Hulu are bonus; whereas the millions of streams we generate on YouTube become part of our overall business strategy.
I think if labels want to unleas the value of their catalogs, they need to be online, so they should look at being in more places than less. But this might not translate into revenues, which means they won’t stick to it over time.
Missed Opportunities
The music labels have essentially missed every major opportunity since the 1980s, starting with MTV. To read more on why MTV was in fact a missed opportunity, read this.
But they then botched Napster, digital music in general and even how they (and Viacom) are using MTV.com. After years of taking the MTV brand away from music (by playing anything but music), we are now seeing MTV.com trying to add music videos… but the convulated copyrights and distorted licensing deals means that in nations where the advertising growth rates will surpass that of the US, there is a good chance users see this:
Which is, by the way, what most people still see on Hulu… explaining why despite the top notch programming, YouTube remains king of the hill.
Strange Bedfellows
I personally think that FOX and NBC will eventually spar over Hulu (they own the venture 50-50%) because while FOX has to decide if it wants to push MySpace TV (and increasingly MySpace Music) over Hulu, NBC has been loading the site with content from SNL and other shows. But ultimately, I will go against the grain and say that Hulu will hit a wall because the business model for a “rerun hub” is limited, and TV companies - while desperate - are not stupid enough to totally embrace online because I am not even sure of the online pennies that await them are over time going to become dollars, let alone replace the analog dollars they are losing.
Option 3: Build it and they will come?
So this leaves option 3, creating their own Hulu-style site.
Well, back in the day, Bertelsmann decided to tame Napster by investing in it and bringing it over to the dark side. Instead of aligning themselves with the leading online file sharing network, the other record labels tagged team against Bertelsmann and killed Napster. By doing so, they let Gnutella and KaZaa grow and those non-centralized P2P networks made Napster look like a RIAA project.
The point being: the labels disdain of consumers is only rivaled by the disdain and distrust they have for one another…
I think media companies are the same way. As the Web develops and becomes more regulated, the media companies’ foes go from these “rogue properties” to one another.
NBC and News Corp. deserve a lot of credit for putting aside their differences and bringing in Jason Kilar to run the company without necessarily operating under the thumb of either company’s senior management.
But over time, I expect that to change, because traditional media firms are getting increasingly desperate in the face of the severe market meltdown they faced in 2008 and the “acceleration of the deceleration” of their traditional revenue streams in 2009.
To quote Al Pacino’s character in Any Given Sunday, as you get closer to the end zone, every inch becomes harder to gain. For the media companies, it might become easier to start pushing one another out of bounds instead of trying to get ahead of the new media reality avalanche that is catching up to their business models.
Here I am, logging on to CNN.com to see what is going on around the news, and I see an ad from Chrysler on the site thanking America.
Now, a few things come to mind: CNN might not offer geo-targeted ad serving, but I am in Canada, so getting a “Thank You America” display ad is odd, to begin with.
Then it hits me: oh, I see, this is Chrysler thanking American taxpayers for the money Washington DC is giving the Big Three that as consumers they preferred to give their European and Asian competitors… I see.
Thank You for Investing in Chrysler - America’s Car Company
Chrysler is committed to:
* Providing cars and trucks you want to buy, enjoy driving, and will want to buy again.
* Delivering products with the best quality and value in our Company’s history.
* Improving fuel economy to support America’s energy security and environmental sustainability.The United States is home to 74% of our employees and over 3300 dealers in communities across this country. Of every dollar we spend, 78% is spent here at home. On behalf of the 1 million people who depend on Chrysler for their livelihoods, thank you for investing in Chrysler, and America.
Bob Nardelli
Chairman and CEO , Chrysler LLC
This being said, I wonder: while it’s good to feel appreciated, do you really want to see taxpayer money being spent on thanking taxpayers? After all, I don’t think most taxpayers really wanted the automotive bailout happen, but the carmakers essentially played the fear card and reminded everyone of the multiplier effect and how bad things could get.
I do wonder: if you are an American taxpayer and you see this ad, how do you feel?
Yes, Christmas and all that turkey derailed our 2008 review / 2009 preview series, so yesterday’s scheduled piece on Venture Capital will be published later than sooner. But speaking of venture capitalists, this morning I was reading Fred Wilson’s piece called Bits of Destruction, in which he argues that while the causes of the economic meltdown “have more to do with risky lending and owning securities that are toxic than anything else” he argues that the consequence will be the death of many doomed industries whose days are numbered due to the Information Revolution.
It is a fascinating argument, but an incorrect, or rather, incomplete one. The truth is, what we are seeing is mainly the destruction of American industries and companies. After all, while Toyota did post its first loss in decades, the company is anything but doomed. Toyota’s problems are short term and very different than the ills facing GM, Ford and Chrysler. While some European financial banks have suffered losses, few are doomed and none look like Citigroup or JP Morgan.
In other words, I am not even sure if all of the industries that Mr. Wilson thinks are doomed are in fact doomed. So what we are now seeing is not a wanton destruction of companies around the world, but a systematic dismantling of American industries, institutions and companies: housing, financial, automotive and potentially now also technology and many others. Ultimately, these are interdependent industries that all tumbled like a house of cards after a largely household-related bubble burst.
But to answer the question “why” the answer is plain and simple: the war.
Vladimir Lenin argued that war serves as an accelerator of history. In 1917, he wrote:
“this required a great, mighty and all-powerful “stage manager”, capable, on the one hand, of vastly accelerating the course of world history, and, on the other, of engendering world-wide crises of unparalleled intensity—economic, political, national and international. Apart from an extraordinary acceleration of world history, it was also necessary that history make particularly abrupt turns, in order that at one such turn the filthy and blood-stained cart of the Romanov monarchy should be overturned at one stroke.
This all-powerful “stage manager”, this mighty accelerator was the imperialist world war.”
In fact, the 21st century was to be a century that saw America start to share power with Russia, China and India. But during George W. Bush’s reign, the US imploded due to a foreign policy which can be described at best as greedy and arrogant and at worst criminal.
Regardless of your thoughts on the war, the simple result of combined
a) increased spending on the war and
b) tax cuts for the wealthy
resulted in loose money, easy credit which then in turn led to the housing bubble.
To this day, mainstream media starts the story on Chapter 2: the Housing bubble, easily forgetting that Chapter 1 of this history is in fact this illegal and immoral war that is costing Iraqi civilian and US soldiers’ lives for no reason. We can say all that we want about greed on Wall Street and what not, but the real cause goes back to Washington DC for setting such a poor example for everyone else to follow.
Prediction: In one’s year time, many of the global industries and companies will tower over their American counterparts, who will have either shut down or been sold to foreign institutions and become subsidiaries. After all, the US Currency has yet to decline the way most economists predict that it will, and many companies’ projected earnings have yet to be downgraded to really reflect the future. Once these two things happen, the impact on company valuations will be severe and foreign companies will trade at a premium.
Is is just me or is the supposedly-immune technology sector next to ask for a bailout?
It sounds crazy, but I think that the meltdown we’re saying can easily exasperate the issues that were due to hit technology:
- After all, we all love open source software, for example, but all of it surely bit into sales. Since you came across AVG, when was the last time you paid McAfee for anti-virus? Or better yet, while my old company had to fork over tens/hundreds of thousands for a CMS, my new one managed to get its hands on a wide array of free open source ones.
- Can too much Moore’s Law be a bad thing? As consumers, obviously not… but over time, this hits margins. A powerful Dell laptop now costs about $500. How sustainable a model is that?
- Hardware and servers in general have become quite cheap that maintaining a high-paying workforce seemed unsustainable for some time to come.
Right now, the mere notion that Silicon Valley would ever ask the government for economic assistance seems crazy, but crazier things have happened. Such as what?
Well, despite the fact that US consumers decided to forego paying US car companies as consumers, the government will step in and force them to pay them indirectly as taxpayers. That is definitely crazy.
The latest in our end of year 2008 review/2009 preview, today we look at social media.
Yes, social media has changed publishing, but no, social media - and social networking in particular - will not change advertising all that much. What it has done, without a doubt, is make marketing much much more challenging.
To realize why, you need not look ahead but think back.
Social networking has been around from practically day one and the 2.0 version of it simplt reiterated the hits and misses of the genre:
- Geocities came back as MySpace,
- Broadcast.com came back as YouTube,
- Classmates.com came back as Facebook, and so on.
But while all of these companies had successful exits, the hundreds of clones they hatched will suffer a less successful outcome.
Ultimately, we see social media play out in a handful ways:
1- Numerous companies raised a lot of money betting on User Generated Content (UGC), expecting the so-called wisdom of the crowds to change the rules of engagement in media. Indeed, social media (of which UGC is a subset) has changed the dynamics of publishing, but advertising will remain largely immune as marketers won’t come near it. For the full post clik here.
In fact, the only real impact UGC shall have on advertising is depress advertising rates as an influx of ad inventory floods the marketplace. However, a solid 5 years into the UGC “revolution”, it’s clear that advertisers are not impressed.
eMarketer just reduced the forecasts for social advertising: The company is projecting that by 2011, advertisers will spend $4.3B worldwide on social networks; it had previously guessed the number would be $4.7B. It also took down its US 2008 estimate to $1.4B from $1.8B. You won’t see that in any investor decks, I’ll tell you that.
And speaking of investors: they exasperated matters by flooding “Yet Another Social Network” (YASN). With little proprietary technology and even less content to speak of, the barriers to entry were scant, and today, with revenue projections not being hit, the vast majority of social media companies are finishing 2008 with their back to the corner, and potentially being out of business by next year’s end.
2- Social media is ultimately just another form of communications, and like email, chat and message board communication, this will not be embraced by advertisers. So while companies like Hotmail and ICQ sold for a tidy sum (we actually put both sales on our Top 10 Best Web M&A list), we don’t think it justifies the exorbitant sums of VC money raised for the space. Why? Because the VC space all baked in Google-esque revenue growth rates and by now it is clear that if social networking sites are to survive and succeed, they will need revenue streams other than advertising ones. However, I do not think these would be considerable enough to please VCs, who let’s face it, have already realized the err of their ways and now laugh at UGC and social networking… as if they knew that it was a farce all along.
3 -Go Big, or Go Niche
In fact, it’s not all bad news: if you are #1 in your social networking niche (so for example Dogster.com), great, you need not do anything different. But if your niche is really small and you are VC-backed, you might want to start looking for another job. If you are #2 in your niche, that might work if you’re Facebook/MySpace, but if your niche really is a niche… then again, start looking for a job.
4- Over time, most if not all websites will embrace and integrate social media bells and whistles, but they will delineate these to protect advertisers.
Today, for example,
- practically all newspaper sites offer user comments,
- 60% offer some form of UGC,
However, news sites do this because it makes sense to do so, but they recognize that social media helps increase inventory and volume, without necessarily leading to revenue. As such, they’ve learned to parse these sections out. Think of how CNN has managed to introduce iReports without actually weaving these into their main stories. Usually, these are restricted to their own section.
I’ve covered social media quite a bit on this blog: First, the bearish posts:
- Connecting the Dots: Why Social Media Fails at Generating Revenue
- Why Social Media and Advertising = Fail
- Dark Cloud, Meet Social Media. Social Media, Meet Dark Cloud
- Social Media Hype Train Continues
- When Will Social Media Get It?
- Why Social Media and Beacon Are Doomed to Fail and What Facebook Should Do
- Social Media Growing Pains
Then, some of the more bullish ones:
- Facebook, or MySpace’s, Multi-Billion Dollar Business?
- Are Affiliate Sales the Path to Facebook’s Billions?
- Memo to Facebook Sales Team
Tomorrow, we look at VC activity in 2009.
The arrogance… sheesh.
From Tech Dirt:
If Washington Wants To Create Jobs, It Should Get Out Of The Way In Silicon Valley.
Really? Are we talking about the Silicon Valley of 25 years ago or the Silicon Valley of today? I hope not today, because pretending that Silicon Valley today leads anything is akin to saying that US carmakers lead their global peers in market share. They used to, now they don’t; they simply don’t.
Something must be in the air.
From CNBC:
Ray Lane’s got a bone to pick with Detroit and Washington: quit your whining, partner up with innovators here in Silicon Valley, and consumers, investors, auto industry workers, politicians, executives and America will be better off for it.
I spent some time talking to Lane, formerly the president of Oracle, and now a general partner at the vaunted Silicon Valley venture capital firm Kleiner Perkins Caufield & Byers, overseeing a $1 billion green investment fund with a heavy emphasis on green transportation. Everything from new vehicles, like the super-slick Fisker Karma, to biofuels and battery technology.
Don’t get me wrong: Ray Lane is a superstar, Oracle is a corporate legend and Kleiner needs no introduction, but pretending that VCs still have the Midas touch is as ridiculous as arguing that US carmakers are global leaders.
Here’s a memo to Silicon Valley: you are today as arrogant as the carmakers were in the 1950-2000s era… and since Silicon Valley is all about speed, as quickly as Ford, Chrysler and GM found themselves redundant, so will you… drop the holier-than-thou attitude, stop pretending that you’re the center of the universe and get back to creating things that matter instead of the crap that you’ve been backing of late. Yes, this last comment pertains mainly the consumer web space investments… but even in clean tech and energy, I ask: with oil at $35, will you stay the course or will you jump the next great fad?
Yesterday we started off our preview series with online video. Today we continue with online advertising.
:: Silver Lining: Online Estimates Are Actually Treading Higher
Say what you want about downward revisions issued throughout 2008, the fact is, the revisions for online advertising are higher. So yes, the doomsday rhetoric is plain wrong. Just two years ago, these were eMarketer’s projections:
Then two years - and a financial meltdown later - here are the revised figures:
In the first, eMarketer breaks down the online advertising pie by percentage from 2005 to 2010, in the second one, it is by absolute figures for 2008 to 2013. But if you look at the boldfaced totals, you can see that the three common years (2008, 2009 and 2010) have all been upped in the past 2 years, despite the meltdown that has withered away valuation of traditional media companies. The key term is traditional, as in “largely offline”. While new media players like Yahoo! and Google have been hit, as well, the broader online media remains wel-positioned to bounce back quickly whereas traditional media’s outlook remains more bearish than ever.
So, to start off our preview of 2009, it should be stated that while some of the “think-tanks” revised the 2009 estimates downwards, these were adjustments made to higher estimates that were coming one after another earlier this year. Once people really understood the scope of the clusterf*ck to the poorhouse, then naturally they had to do something.
The bottom line: the secular new media trends are more bullish than ever. All the economic meltdown will do is accelerate the migration from offline to online.
:: So Online Will Continue to Win, At Whose Expense?
In fact, here is what we suggested recently:
- Print being the biggest loser: why? Look no further than backwards lawsuits. But seriously, no one reads print and it is a very archaic distribution method, facing massive asset value drops (hmm… all of them) and steep debt (NYT, Tribune) they will also have to cut resources at a time when they should be investing more and more digital media and in digital distribution. Print’s only salvation will be the fact that you don’t need to be connected and can take it on the go.
- Followed by TV: even more expensive as audiences fall, marketers’ will have a disdain for untracked media
- Then Radio: satellite radio saw that better technology does not translate into success, terrestrial radio is free and the local flavor is hard to beat. Radio will be smaller and smaller for sure, but it won’t be as decimated as some expect.
- Then Outdoors: the only real way to reach people when they’re outside, not connected to anyone of the other media. Plus, as more and more digital screens proliferate, the options for outdoors begin to get better and better. Still, this will be small relative to the Web. I should note, WatchMojo.com’s videos reach 15M consumers across 2,000 screens in North America in digital networks outdoors…
:: The Case Against Search
Conventional wisdom is that paid search is more resilient to a downturn, because it is an ROI-based form of advertising, whereas banner display ads will soften up. As a result, the Google Bulls would say this doomsday scenario is impossible.
I am not so sure. This is why even Google can technically see a decline in revenues next year. But, don’t count it. If there is even a chance, I think it boils down basic economics.
I agree that search is a better way for ROI-sensitive advertisers to market themselves compared to display banners, but the problem is that paid search is powered by individuals, small and medium-sized businesses who will have a higher propensity to reduce their ad budgets in a downturn. In aggregate, this will add up to quite a loss of revenue. Could it represent the missing $3-5B. Possibly.
At the other end of the spectrum, while Fortune 500 marketers will reduce their ad budgets too, they will continue to shift dollars away from untracked, offline media to online, tracked media.
When it comes to the biggest marketers and global ad agencies, this means a shift to display banners (in the form of rich media) and video advertising, not paid search. Yes, paid search will remain a major part of online advertising (it’s 40% now), but this is not where ad agencies and marketing executives want to play in: marketing remains a “soft science” so don’t expect the Web to devalue intangibles like branding and brand equity.
Brand equity, my friends, is not measured via text link. Only display banners, rich media and video advertising will really increase brand equity (though text links can play a role there, too).
I know what you’re thinking: display banners will also move towards a performance-based model. Hmm… not sure, not so fast. Yes, crappy sites with crappy inventory will have to accept advertisers’ requests for performance-based pricing models (CPC, CPA) but the premium sites will never accept this. They don’t have to.
:: Outlook by Category
Before the economy got hit with the housing, financial and automotive meltdowns (good things do come in three’s, no?), the traditional breakdown of advertising online by category was as follows:
Let’s assume that in a worst case scenario, all three sectors go down to $0 and 0%, then you are in effect taking out roughly 25% from the pie. This would be dire, but in the second eMarketer graph, you see that the other categories are growing by more than enough to offset any loss.
According to Jupiter Research, between 2006 and 2009, advertising will grow fastest in the categories of:
1. Health (19.7%)
2. Travel (18.3%)
3. Household Goods (15.1%)
Then again, that specific report came out before the financial meltdown, as it projected that by 2009, in the US, the biggest total dollar amounts will be spent in the following categories:
1. Media and Entertainment ($2B)
2. Financial Services ($1.7B)
3. Automotive ($1.4B)
4. Travel ($1B)
Yeah, not sure about #2 and #3, Jupiter. But the point is, those two add up to $3B, and it’s hard to imagine that advertising by those marketers will go to $0, anyway.
:: Search vs. Video
One day, video-related advertising will surpass search. There is one catch: I am not referring to video ads how we define it now. After all, search includes contextual text ads. As such, I believe that display ads that are served around videos should make their way into the definition and tally of video advertising. Otherwise, under YouTube’s existing ad units, $0 of YouTube’s revenues would fall under video advertising. But regardless of whether or not you include displayads that are served next to video, the numbers - and growth rates - reinforce this argument.
It is worth noting that eMarketer revised downwards the online video advertising estimate. So in October and December of 2007, I projected that by 2018, video could surpass search. Using the latest figures from a number of sources:
We come up with a) an average figure per year and b) a growth rate per year:
These, we feel are a good metric to use for instream video advertising growth. Instream being defined as pre/mid/post roll and overlays, but excluding companion display, which we believe is a major fundamental shortcoming of any analysis of online video, since (once again) this would exclude 99% of the revenues generated on YouTube - the world’s largest video site.
But now that we have a) an average figure per year and b) a growth rate per year, we can start to forecast where video will be relative to search down the road.
For search revenues, we will use eMarketer’s search projections from November 2008, here, we then project growth rates after 2013. Again, we see that by 2018, video advertising has a very good chance to surpass search advertising:
:: 2009: Display Advertising is Dead; Long Live Video Display Ads!
Another major trend we expect to see next year is the death of video-less display ads. Let’s look at a few facts:
- Social networking sites will continue to see eroding sales from advertising: marketers have firmly rejected this notion that social media and advertising go hand in hand. As we have long said: yes, social media has changed publishing, but no, social media is not an advertising friendly trend. Social media is ultimately an oxymoron, we think, social networking is a form of communications, and like email, chat and message board communication, this will not be embraced by advertisers. Look out for more on social media and social networking tomorrow, on Wednesday December 24 2008.
- Traditional display ads won’t cut it: Display banners - the ones and the kinds we’ve become accustomed to - are anything but interactive. Expect more interactivity, namely, more video in it. This bodes well for a player like Klipmart.
- Ad networks under pressure: A lot of the wheelings and dealings in display ads came from ad networks, who will all have to change their business model and adapt to a search and video driven web economy where the value of a traditional display ad will plummet. I stress that a traditional display ad, in my definition, is one next to text content… versus either a a) display ad with a video embedded in it or b) a display ad next to a video player, because a traditional display banner goes unnoticed pretty quickly.
- marketers will ask for more from publishers, and the one asset publishers have is to start including video, either straight video content or video ads embedded in display advertising real estate.
If you are a Fortune 500 marketer looking to get our your message, TV, print and radio won’t be your first choice, but online will be. And when it comes to going online, search does not build a brand or give a marketer the control they want, and nothing will replace video.
:: Video-Powered Display Ads + Video Ads Will Surpass Search Ads by 2010
When you consider the size of TV advertising:
You realize just how big video-related online advertising will be. But the more time I spend working in this space, the more I realize video advertising (as in instream) might be small relative to video-related (as per defined throughout this piece). In this context, I think the sum of all video related advertising is much, much larger than we anticipate and expect.
So to conclude, despite the gloom and doom prognosticators, I think the online media space is going to blow up after February, when a new administration will be swept in and people look ahead to the promise of a new year after the 2008 clusterf*ck to the poorhouse.
Tomorrow, we look at social networking in 2009.
“It’s dead, this is it, this is the last Christmas, without a doubt,” Distribution Video Audio co-owner Ryan Kugler told the L.A. Times. “I was the last one buying VHS and the last one selling it, and I’m done. Anything left in the warehouse we’ll just give away or throw away.”
