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Selecting an Internet Business Model – Reflections on the Blurry Line between Internet Business Models and Strategy

In Advertising, Business Education, Business Models, Business Plans, DCU Business School, Dublin City University, E-commerce, eBay, Elearning, Entrepreneurship, GrooveShark, Groupon, Internet, iTunes, Microsoft Xbox, Netflix, Salesforce.com, Spotify, Subscription, Subsidy, Theo Lynn, Transaction, Two Sided Networks, World of Warcraft on September 18, 2010 at 11:32 am

Last week, I had the opportunity to spend a two days with my colleague, Dr. Laurent Muzellec, who is currently teaching in ESSCA while on sabbatical from DCU Business School. Laurent had asked me to give a guest lecture on internet business models to some of his ESSCA taking a course on “Web Business Models and Strategy”. Laurent has been involved with ESSCA for a few years and indeed his Lipdub exercise from a previous class there has gone on to epic proportions on YouTube and is now a best practice case of student marketing for higher education – see http://www.youtube.com/watch?v=Pw7t4f-ZV3E.

ESSCA, Paris

ESSCA, Paris

The topic was a curious one. As Laurent and I discussed it over dinner last Wednesday, it became apparent that much of what we know refer to as internet business models are influenced by concepts previously applied in the strategy domain – network effects (see Eisenmann et al for strategies for two sided networks), lock-in, switching costs, long tail (power laws), cost leadership, differentiation (and by extension, the economics domain) etc. As we discussed various perspectives and articles, it became apparent the line between internet business models and strategy is increasingly blurry. Should we define internet business models in the context of how a business creates, captures and delivers value or how it generates profits (implying revenue generation and cost management)? The former would seem to bleed in to strategy – after all many companies have the same business model but achieve different levels of success. I left Laurent’s apartment, very late, with my mind in flux to what I should present.

Luckily, Paris is the ideal place for burning the midnight oil…literally. I reviewed some old presentations and articles and found that many of the articles Laurent and I had discussed, although recent in academic terms, were clearly out of date already – they did not foresee the rapid rise and adoption of social networking and the increasing ubiquity of computing, bandwidth and storage. It is easy to forget that Google and Facebook are still relatively recent phenomena. However, the business models hadn’t changed as fundamental in the last 2-3 years as I had first thought – it was more that the adoptions weightings had. The core Internet models are still – transaction, subscription and subsidy models and you can find them everywhere and in particular in the content sector e.g. videogames (gamestop, world of warcraft, farmville) and music (iTunes, Spotify, GrooveShark).

Transactions are still the bread and butter of many of the big players – eBay, Amazon, iTunes although there are new flavours e.g. Groupon. As well as network effects, it seems to me innovation in transaction models over the last couple of years has related to assurance models. Central to eBay is its rating system and trust network which provides assurance on the provenance of merchants; to some extent PayPal provides assurance for both merchants and buyers on transactions. iTunes provides a technological assurance through FairPlay by limiting use of tracks on defined number of devices. Groupon provides a broker-based assurance by making sure merchants honour deals provided the minimum threshold is achieved. Interesting, microtransactions (where transactions are measured in cents not dollars) still have not caught on; although one might argue iTunes and indeed AdWords and other advertising transactions epitomise this model.

Salesforce.com remains the poster boy of enterprise subscription models, and in particular Software as a Service. Its achievement in reaching over $1bn in revenues is to be lauded. There is no doubt their business model is a benchmark for now and the future but for whom. Salesforce’ customer base is very specific – salespeople and their support staff turn over regularly, often work at home or on the road, need up to date data at all times etc etc. Employees in HR or Accouniting do not have the same profile. Nonetheless, many companies are trying to adapt their traditional packaged software model to SaaS. Earlier in the summer, IDC forecast that less than 15 percent of net-new software firms coming to market would ship a packaged CD product and by 2014, about 34 percent of all new business software purchases would be delivered via SaaS, representing 14.5% of worldwide software spending. But the licensed/packaged software market hasn’t gone away – its still worth $300bn+ and many large and small companies alike are still uncomfortable with cloud based services. Why? Well, the larger software companies are still making a lot of money from packaged products and the transition to cloud based subscriptions has to be managed carefully. Subscription models get rid of the need for built-in obsolescence but also change the focus from repeat orders and upgrades to managing churn (or reducing non-renewal rates). They also reduce upfront licensing fees, customisation and service level fees as the customers move from a perpetual to a time-based subscription model. A wholesale change from packaged perpetual software licenses to annual subscriptions would reduce short-term revenues per customer. Lower revenues impacts earnings; earnings impact share price. SaaS means a lot of change from being product-focussed to customer-focussed, short-term revenues to long-term revenues, average revenue per customer to average revenue per user etc etc. But SaaS isn’t the only subscription derivative – e-learning companies have used rental models before Internet Delivery (see SkillSoft nee Smartforce nee CBT Group) and Netflix is doing an admirable job with DVDs. People tend to forget that their mobile service, their digital TV service and many other services using digital networks are “Internet” business models.

For me, subsidy-based models are the most interesting. Advertising dominates this class of business model. This remains primarily a B2C model – there is little evidence of enterprise acceptance of advertising-backed software and there remains policy issues in relation to advertising/sponsorship based models for education and other public sector sales. However, for those with the time, financial and technical resources, it is possible to fund your business with advertising. I, personally, also think this is a perfectly acceptable way to fund access to software particularly where no other funding is available e.g. in developing countries. However,  selling advertising services (such as Facebook Ads and Google Adwords) is different than funding your business through advertising. But advertising isn’t the only form of subsidy – in the public sector, government subsidises commercial software – and in the NGO sector, foundations, governments and other agencies subsidise various initiatives including open education resources etc. It should be noted a few years ago, we assumed that there would be consolidation in digital advertising platforms and thus advertising-supported business models and choice would be less complex.  The rapid adoption of social networking sites and services has fragmented  – Facebook ads, LinkedIn Direct Ads and others compete with Microsoft Bing Advertising, Yahoo Advertising, and Google Adwords for advertising dollars while Twitter and others generate traffic for free. Selecting your advertising platform is getting more complicated but managing campaigns is more complex still. The number of Internet businesses that can generate enough traffic to sustain a business of any scale remains limited.  This does not mean it is not happening, sites like Grooveshark, seem to be making advertising-funded services work for the music sector.

So how do you pick one? It largely depends on your market and how they perceive key elements of any given business model and again these lie in conventional business academic literature – elasticity, price, awareness, customer type etc. For example, enterprise customers know and understand transaction and licensing-based business models – they are familiar, they know the conditions, the quality and service expectations, and know the procurement dance (discounts for user volume, end of month and end of quarter pressure etc) and they control their data and uptime. They are comfortable with doing business this way. Businesses providing software funded by advertising introduce more questions than answers for enterprise buyers – will the advertising be appropriate? will it distract employees? what are the conditions and level of support (if it is “free”)? Individual users are happy to deal with this ambiguity, enterprise customers are not. Subscription-based models and in particular, the SaaS model play the middle ground. It can be argued that enterprise customers (and individuals) get enterprise software at lower cost, better service, less technical headaches with terms, conditions and procurement process that they know. They get a lot; they need to just give some trust….not the easiest thing to do even at the best of times.

Can you blend them? Yes, and this can be a source of competitive advantage. Microsoft have blended different models in their games business. You effectively license an XBOX and can then buy or subscribe to software through XBOX-Live Marketplace etc. There are free games too. Similarly I note Spotify allows you access some services with ads, a no-ads subscription service and a service where you can purchase MP3s for download and use outside of Spotify. Indeed, the Spotify model, may in time, challenge iTunes and be adopted by other media creators and aggregators; it provides a straightforward framework that addresses all consumer preferences. But this depends on their capacity to negotiate with the media rights owners worldwide (and not territory by territory) and defend against Apple at the same time.

So where does strategy come in to it? Well you can replicate any business model but this does not business success make. You still have to find a way of satisfying unfulfilled (or unknown) needs of a given market segment better than the incumbents, profitably and ideally uniquely. And that is the trick – profitably and uniquely. Whether it is one, two or each of operational effectiveness, customer targeting or innovation, successful companies have to do something better than the competition.  With Internet business models, the same rules of marketing, economics, finance and strategy largely apply – segmentation, targeting, differentiation etc, etc, etc, but the successful companies move fast and tweak continuously and that is critical. They tweak digital rights management, delivery efficiency, payment options, payment process etc. The more things are different, the more they stay the same….just accelerated and more-and-more slightly left of centre.

Oh yeah, what about “free” business models? They don’t truly exist – someone has to pay.
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Is Ireland ready for Groupon? Online collective buying on the Emerald Isle

In Boards Deals, Business Education, Business Models, BuyWithMe, Collective Buying, Digital Marketing, Dublin City University, E-commerce, Group Buying, Groupon, ICAP Media, Ireland, LivingSocial, MyCityDeal, O2 Treats, Pigsback, StealTheDeal, Uncategorized, VaVaVouch, Wowcher on September 8, 2010 at 5:35 pm

In February this year, a group of us looked at setting up a groupon clone for the Irish market. Following some research, we established that there were opportunities for an online collective buying and group discount service, but as a group we weren’t the ones to exploit them – or at least, not together. Notwithstanding this, the experience offered some valuable insights in to the collective buying model and the importance of immediacy and relevancy, some of which I will share here.

Tuangou is a chinese word that roughly translates as “group buying” or “store mobbing” and relates to the phenomenon of groups of Chinese shoppers congregating at once at a store and haggling for a group discount. A consumer-driven flash mob. (Check out Paula C’s presentation on SlideShare for a brief history of online group buying)

Mercata - A First Generation Collective Buying Site

Mercata - A First Generation Collective Buying Site

The first phase of online group buying sites emerged in the dotcom boom but failed for a variety of reasons:

  • it takes time to organise buying groups
  • discounts needed to be exclusive
  • people needed to have accessible social networks
Groupon - the Second Generation Collective Buying Category Leader

Groupon - the Second Generation Collective Buying Category Leader

The second generation of group buying sites addressed these issues by introducing immediacy and relevancy. Sites, led by Groupon, created demand by building a business model based on immediacy and relevancy. They offered deep, exclusive, time-based collective discounts targetting specific segments and narrow geographic areas. For example, 68% of Groupon’s users were in the 18-34 age bracket, highly education (80% had graduated from university), single (55%) and women (77%). The offers were focussed on large  urban areas. Buywithme has similar demographics – young educated professional women. Discounts were targetted (e.g. dining, health and beauty, fitness etc) deep (50%-75%), exclusive and were only activated if a minimum number of subscribers took up the deal. Typically only 1-2 group discounts offered per day. If a certain number of people sign up for the offer, then the deal becomes available to all; if the predetermined minimum is not met, no one gets the deal that day. The intermediary, Groupon, markets the deal and assures that the deal will happen receiving a commission, on average 22%, from the merchant.  The deals are truly viral – they are extremely spreadworthy due to the heavy discounts and restricted timeframe for decisions. Email, SMS and social networking enabled groups of friends to form groups quickly to ensure the deal happened.  This is a great business model – everybody is happy.

Vendors Customers
  • Guaranteed quantity of customers
  • Fast customer base acquisition
  • Low-cost, low-risk positive exposure
  • High word-of-mouth referral rates
  • High rate of repeat business
  • Deeper discounts than usual
  • Shared experience and membership of a social network
  • Unique offers

The key challenges for the broker, the Groupon clone, is to recruit subscribers and merchants. Subscribers are not that easy – the business model hinges on registration of not only the user details but also their credit card. Merchants are somewhat easier particularly if they are in businesses that may have excess capacity to fill and a cost base that allows deep discounts. What does a deal look like? Here are some examples with the minimum number to activate the deal and actual deal take-up in brackets:

  • $20 Paintball Outing With Randolf Paintball [20/759]
  • Truffle Workshop at Taste of Chocolate [45/1,114]
  • $24 for 24 day pass to drop-in classes at Healthworks fitness [24/3,997]
  • $10 for $20 Worth of Vintage Threads, Costumes, and New Clothes From The Garment District [10/1,334]
  • $35 for $70 Worth of Nutritious Pre-Assembled Meal Kits From Healthy Habits Kitchen [35/815]
  • $30 for a Sushi-Making Class at Sea to You Sushi [30/2,200]
  • $49 for One-Month Membership and One Beginners Class at MetroRock Indoor Climbing [49/1,162]
  • $49 for a Haircut, Blow Dry, and $60 Toward Any Waxing or Skin Services at Amaci Salon [20/2,465]
  • $20 for One-Month Membership and Two Personal Training Sessions at Fitcorp ($189 Value) [20/699]
  • $20 for $50 Worth of Italian Cuisine and Drinks at G’Vanni’s Ristorante [20/2,456]
  • $35 for $75 Worth of Steakhouse Cuisine at the Oak Room [20/943]
  • $20 for $50 Worth of Italian Cuisine and Drinks at G’Vanni’s Ristorante [30/1,248]
  • $20 Football Ticket to Boston College vs. North Carolina on November 21 ($37 Value) [15/862]
  • $30 for a Regular Membership to The Brattle Theatre, Plus Three Bonus Tickets ($104 Value) [45/2,000]
  • $15 for $30 Worth of Casual Fine Cuisine and Cocktails at 88 Wharf Riverfront Grill [149/706]
  • $45 for Lift Ticket at Bretton Woods Ski Area ($74 Value)  [45/2,000]
  • $149 Getaway to the Omni Mount Washington Resort [149/706]
  • $15 for $30 of Tasty Tapas and Cocktails at Tasca [15/2,067]
  • $40 for Acupuncture, Personal Training, or Massage at Joint Ventures (Up to $115 Value) [40/887]

As you can see these deals can be very successful bring in several thousand dollars worth of business. Obviously some businesses work better than others. For example, meal deals work because they are low value amount and groups of people can easily agree to go to one location and therefore subscribe to a deal. I also think there is a lot of value for multi-site retail chains however only if they have barcode or other technologies to manage duplicate submissions in real time or near real-time to avoid the same coupon being submitted in two geographically-disparate stores.

Groupon Dublin Facebook Page

Groupon Dublin Facebook Page

So what about Ireland? Well, Groupon has a Facebook site for Ireland and has acquired MyCityDeal but there doesn’t seem to have been a real push and LivingSocial has been “coming to Dublin” for a number of months.

VaVaVouch - An Irish Collective Buying Site

VaVaVouch - An Irish Collective Buying Site

Vavavouch is a local website but doesn’t seem to have gained much traction and I frankly have not heard much lately about Boards Deals. Is it that Irish people just aren’t interested?

Boards Deals - an Irish Collective Buying Site

Boards Deals - another Irish Collective Buying Site using the boards.ie brand

We surveyed 83 people earlier this year. The respondents were largely female (76%), university educated or some other professional qualifation (85%) and aged between 22 and 34 (76%) – a pretty good sample relative to the US sites. Most (75%) go out to restaurants, bars, events or other social activities at least once a week and spend over €50 on a typical night out (63%). However, only 2 people were familiar with group buying sites and this is the crux of the matter – people simply don’t know about these sites and how the operate.The overwhelming majority of respondents have never heard of Groupon, Wowcher, LivingSocial, BuyWithMe or StealtheDeal. Pigsback had good brand awareness ratings with over 76% of respondents but that is a different business model altogether. It would seem in Ireland collective buying may be a matter of ignorance and not disinterest.

So are they interested? Well, we asked. Firstly, the respondents did use coupons and vouchers – over 35% in the previous 6 months and over 56% had a supermarket or retail store loyalty card. So they do use discount cards and vouchers. When we explained what group buying sites are and how they operated, over 58% said they would consider using these sites. On what?

  1. Restaurants and bars (81.4%)
  2. Concerts (51.4%)
  3. Local retail (47.1%)
  4. Movie Tickets (45.7%)
  5. Spas, Salons and Assorted Pampering (37.1%)
  6. Trips: B&B, Skiing, etc (37.1%)
  7. Events (24.3%)
  8. Tours and Sightseeing (15.7%)
  9. Theater (14.3%)
  10. Lessons and Classes (11.4%)

Interestingly, 46.5% of respondents have received a coupon, voucher or other discount offer via their mobile phone however only 8.5% had used the mobile phone coupon/voucher in the previous 6 months.

Basically, it seems to me that Irish people are interested in group buying, or at least our respondents were, but the group buying sites need to promote their sites and educate customers a lot more. Certainly Facebook and Twitter are much pervasive and this will allow spreadworthy messages to go viral particularly in these more economically-straightened times. Whether the time-dependent deals will take off is another matter.

O2 Treats - a partnership between O2 and ICAP Media

O2 Treats - a partnership between O2 and ICAP Media

Broadcast discount services like O2 Treats seem much more likely to be successful given the high mobile phone penetration, high SMS usage (and ease of spreading messages via SMS), the location-based targeting capability, and the relatively conditionless exchange. Even at an 8.5% adoption, this would generate significant sales for merchants, value for users while generating high revenues for the service provider.  Good news for ICAP Media!

So what about our little startup? Well, we developed the spec, had a catchy (if somewhat quirky name) and had identified a company in the Far East who could develop the site and back office functionality fairly cheaply but…unfortunately too many cooks or maybe too many Indians and no real Chief. Or maybe if it was so easy for us to enter the market then it will just be too much hassle to defend over time.

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