3/09/2005

Economies of Scale

I’ve given a lot of thought to what types of new media ventures may be supportable by traditional venture capital and have come to conclude that advertising plays are the best bet. Editorially-driven startups, on the other hand, may have to rely on angel investors – or haul themselves up by their bootstraps. Venture investors want deals that grow large and fast, so that an investment of $5 million would, in about five years, spawn a company with sales on the order of $30 million, good gross margins, a defensible market position, and the prospect of going public or being acquired. The example of Advertising.com shows how businesses that follow the money can achieve these high-growth prospects. Advertising.com was incorporated in Maryland in 1998 by former Proctor & Gamble executive Scott Ferber who teamed up with his brother, a technologist, to create a system to place and track Internet ads. From what I can glean from the prospectus the company filed in April 2004, it was an arbitrage play. It bought ad space at wholesale rates, placed ads on well-trafficked sites, and made money on the spread between what it cost to nail down the placement and what it was paid by the advertiser. Revenues grew rapidly to $132 million in five years. After backing out the $90 million it paid to buy the ad space, that still left a $42 million gross profit (before expenses) and a $12 million net profit in year five. AOL acquired Advertising.com in June of 2004 for about $425 million. Contrast that with the editorially driven online magazine Salon, which has achieved much critical acclaim over the last 10 years, but whose most recent financial statement reveals that it has an accumulated deficit of $90.7 million. And while it enjoyed revenues of $2.15 million in the quarter ended Dec. 31, 2004, and managed a tiny pro forma profit, it “may not be able to sustain or increase profitability on a quarterly or annual basis in the future.” Not all ad-centric businesses will repeat the success of Advertising.com. And future editorially-inspired startups will learn many lessons from Salon. But for investors to make money, the smart play would be to follow the money, which is in advertising aggregation. It is much harder to discern the profit path in supporting content creators. Ad aggregators can make money by sprinkling dimes over tens of thousands of disparate content creators – and keeping a fraction of a penny. But most of those content creators will get only beer money. Though I consider myself businesslike, my core interest is in helping evolve systems that would allow creative types to be more than info-sharecroppers on these advertising plantations. The path is obscured but I will continue looking. By the way, this general theme will be discussed at a Cybersalon Sunday night entitled "Information Wants to Be Free, But Programmers Want to Get Paid." It will be held at the Hillside Club in Berkeley. It may provide ideas, or at least a forum in which to commiserate. Tom Abate MiniMediaGuy Cause if you ain’t Mass Media, you’re Mini Media

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