EarlyStageVC

Who is Google's Next Victim?

A few months ago I posted the following

Google has built a stunning platform for the rapid development and deployment of applications on a worldwide scale.  They have repeatedly taken revenue-generating software categories and made them free, media-supported businesses.  This leverages their economies of scale in delivery and their ability to aggregate, segment, and monetize audiences.   Free is a very effective appeal for a CFO or small business owner looking to reduce IT expense. It may not work for Exxon and GM.  But it doesn’t have to.  If it works for millions of small businesses around the world, it works.

Google is rumored to be working on a slew of new applications for delivery later this year and early next.  I have no idea what they may be or if they really are.  But I would speculate that some are targeted at business use cases that revolve around people, time, content, and communication.   After all, they have Google Home Page, Calendar, Writely, and Gtalk/Mail today.  It is not hard to begin to package them as business process applications and collaboration portals.  Google already has a significant developer community using Google’s APIs for creating mashups with other web services. Motivating them to redirect toward business use cases is a natural extension of  the present. Once you own the process, you own the Control. If the View is the Web, Control is free web-based application, Model will follow.

It is completely conceivable that the future of Web 2.0 in the Enterprise looks a lot like Google 2.0.

Yesterday Google announced it has acquired Jotspot and is making their applications free.  Hmm... So Google is squarely going after horizontal business applications with the Googleplex.  Where do they go next?

Google isn't really trying to capture Microsoft's market value.  I think they are focusing on everyone else first. It is now well understood that Ebay's market cap is squarely in their gunsites with Gpay, Gbase, and Adsense.  Who is Google's next prey?

If I were Eric Schmidt, I'd be salivating over an Google-delivered Intuit killer.

And why not?  It is both consumer and small business focused.  It has high value user data that is suitable for targeting.  It is the ultimately sticky application.  It further leverages Gpay.  It further leveages the small business productivity applications.  The core user base of Adwords and Adsense probably already use Intuit (Quicken or Quickbooks) for accounting. Google could close the loop between marketing, fulfillment, and payment with GBooks.

So while Google is busy re-inventing the media business with targeting and delivery technologies, they can, should, and probably are looking to find applications to inform that targeting system.  What better source of targeting data than where individuals and business are spending their money?

The Power of Venture Myth

Some time ago when Skype-Hype was all the rage I made a flippant remark in this blog about Skype and Paris Hilton.  I couldn’t really understand why the blogosphere was all atwitter – since nearly no one was really affected by the outcome, except a few employees (too few it turns out) and some VCs.

Recently one of our companies, Riya.com, has had it’s turn in the barrel of speculation.  For several days multiple “authoritative" blogs repeated a rumor that Google was buying Riya.com.

Rarely does one get a chance to sit back and watch the media frenzy for the ‘scoop’ with absolute knowledge about the truth of every single report. Every report was factually incorrect at the time it was printed.  I did not see one accurate characterization of any discussions Riya.com may or may not have had. 

We were in the middle of a financing.  Plain and simple.  And Riya had multiple attractive options.  None of us commented because you don't talk about stuff until it's done. The CEO did discuss  some of the people he'd met in the process, without discussing specifics. The Company has now selected its path and it will announce it path once it is completed, probably early January. Regardless of the path, the service will continue to grow and expand, executing the same vision, only bigger.

I think the fascination with Riya, Skype, Del.icio.us, and every other potential tech acquisition is  really driven by the Myth of Silicon Valley.  The Myth of Silicon Valley is the myth of Lottery – Meets Horatio Alger – Meets Revenge of the Nerds.   The Myth usually has two protagonist hero inventors – Dave and Bill (HP),  Steve and Steve (Apple), Bill and Paul (Microsoft), Jerry and David (Yahoo), Sandy and Len (Cisco) and Bill and Andy (Sun).  Most recently Larry and Sergey (Google).

There are often two other, less heroic, but fundamental players in the mix --  a charismatic (or at least entretaining business person (often CEO) and a lead VC.    Ballmer, Markkula, Koogle, McNealy, Chambers, Schmidt on the business side. And a VC cast as the savvy invisible hand. Rock, Doerr, Valentine, and Moritz are among the most notable VCs.

The glitter of the rumor of instant tech wealth is the affirmation we all seek for devoting ourselves to the irrational pursuit of the Myth.  The Myth of the Hero Hackers, who, with a computer and some Red Bull, can create Being from Nothingness.  The Myth of the Hero Executive who can join a wobbly little start-up and ride off into the sunset with personal wealth and fame.  The Myth of the Hero VC who can take credit for finding (and claiming to have “built”) the next Big Important company, thereby confirming how much smarter s/he is to have been luckier than all the other VCs.  Business journalists know we all have the hunger and feed our appetite for the Myth.

And the Myth is powerful.  The Myth is the basis for the Entrepreneur Bubble.  It is the basis of every investment bubble.  And it is structurally part of the venture capital industry, The median venture capital investment loses 36%. This is a hits business, and the rates of return are positive in aggregate because the hits are so big as to swamp the losers.  But if VCs lose 36% on the median investment, it means that the Preferred Stock loses money.  If the Preferred loses money, the Common sees nothing.   The Myth is built on Survivor Bias, not base rates.

So the median outcome is a loser for everyone. But so is the state lottery.  So is every casino.  But venture capital investing and starting small companies is more like a casino than a lottery.  The lottery is a blind pool.  It's a game called midnight rain-out baseball in poker. All random.  In a casino you have a choice of games, and some games have better odds than others.  Some games have odds that actually can be influenced if you are smart enough to know how.  The casinos call it counting cards and will throw you out.  The VCs call it risk minimization and will reward you for it. The current built-to-flip chatter is the ultimate pursuit of pure Myth.  As most any VC will tell you, built-to-flip doesn't work because you can't reliably time someone else's agenda. You can't time the Myth. Myth happens.

So the next time you see a frenzy about a rumored payday for someone else, pay attention to your attention. Pay attention to why this is so meaningful to you and what you can do to change the odds of the game in your favor.  And your mother was right.  You have to love what you do, because the rest is probably Myth.

Portals are the New Newspapers

My last post was about newspapers and how they have been deconstructed.   I made the analogy of newspapers as information mainframes – legacy feature bundles based on pre-aggregation of information services.  To paraphrase the point, the Internet crushes attempts to build proprietary aggregations.

Now examine the current feature-war strategies of GYM.  They are building the same generic stack. But the web doesn’t stack. It topples.  Or should I say it tuples?

The core premise of a value-added stack is the friction associated with disaggregation.  I could buy my french fries at McDonalds and go to Wendy’s for the cheeseburgers, but the incremental value of Mac over Wendy french fries isn’t great enough for the effort.  The cheeseburger is the bigger part of the value chain. So it drags the inferior good along with it by aggregation, unless and until Wendy’s fries really suck.

The classic strategy for a David fighting Goliath is to go deep. Be best of breed on one thing.  It doesn’t always work, but it works best when the friction against switching is lowest.  Where else is it lower than on the Internet?

If GYM are building Web mainframes, how do they get deconstructed?  Web services deconstruct them.  The first salvo was fired today by Alexa.  As I said a few months ago, business models are going to be the bottleneck to web services adoption, not technology.   The one advantage that GYM have is they can make the end user experience free with advertising.  Of course what they are really doing is allocating the value received (the cost per click) across an internal stack of services.   The David fighting a Goliath must live or die on his service.  His value can’t be buried in the stack. 

Alexa has created a pricing algorithm for their API.  This may be the first explicit price-per-use model for a public internet web service API.  I cannot think of any others, though there may well be some.   Alexa now has put anyone and everyone in the portal business. I could host Alexa and use Google’s Adsense and, Bingo! I have my own monetizing portal on a $10/month web site.   Add APIs for calendars, instant messaging, and other web services, and the GYM stack is entirely blown apart.   Revenge of the long tail.  Let a million portlets flourish... Vertical value stacks are replaced by horizontal services.

The only thing standing in the way is the evolution of market-based prices for other APIs.  What’s a calendar worth? $1.00/1000 uses? What’s web email worth?  $1.00/1000 messages? What’s Yahoo’s VOIP worth – oh, we, know, its $1.00/minute.  And so forth….

This will be the new service economy – the Web Services Economy.

I may be the only one, but I see an elegant irony.  Newspapers are being decimated by unbundlers.  These are the first generation Internet services (Yahoo, Ebay, Google) who unbundled content from advertising, and unbundled them both from physical delivery.  Search has been the killer application – the cheeseburger.   

However, the Web’s pressure for unbundling is relentless. Witness skyrocketing tiny companies like Goowy that do nothing more that allow you to use best-of-breed web portal services without being tied to any one portal. If I can now re-package search by using an API from the open market, portal-based search is no longer the cheeseburger.  It is just dead meat. 

Portal strategies are antithetical to a Web Services Economy.  The pressure to deconstruct is relentless. The center cannot hold. Just as newpapers are the new mainframes, Web portals are the new newspapers.

Newspapers are Mainframes

The recent travails at Knight Ridder   are getting a lot of attention (NYT, Jeff Jarvis) of late.  Some believe we are beginning the death march for newspapers and old media.  I had the opportunity to spend some time at KRI in 1997-1999 managing their Internet venture investment program.   I had a point of view then that remains today, but generalizes to more than just newspapers and media.

I was a unique animal at KRI, being a senior person who came from the Silicon Valley entrepreneurial culture, not the newspaper industry.  I was often reminded by the execs about how insular the industry was and I was there to inject a new way of thinking.  Tony Ridder deserves a lot of credit for inviting this kind of challenge. I was then an ex-software company founder – turned angel investor – turned Internet search engine executive. An uncommon resume for a newspaper company employee.

The people who own the P&Ls at KRI are the Publishers.  They are the CEOs of their respective newspapers. I was invited to meet the Publishers at a regular Publishers meeting. I was introduced to them by Bob Ingle, who ran New Media at the time.  Bob always loved to stir things up to challenge the status quo.  So he told this group of newspaper Publishers that one of the first things I ever told him was that I don’t read newspapers.  (Which was and remains true). 

I proceeded to tell them the following. 

The short-form story in the modern history of computing is the deconstruction of the mainframe.  Nothing in computing exists today that did not exist in some precursor form back in the original mainframes.  The evolution of computing is the continuous unbundling of each of the components, cost reduction and miniaturization, and subsequent empowerment of the user at the point of delivery. Newspapers are Mainframes.  The transformational power of the Internet lies in its incessant pressure to unbundle.

From there I proceeded to talk about my background in software and venture investing.

Thud. 

I forgot I was talking the SysOps -- the guys who ran the mainframes.  The silence was deafening. Not surprising that I only had one question at the end, from Tony Ridder, “Why don’t you read newspapers?”  Fair question.  I read a lot, but it’s about the re-bundling. I prefer to re-assemble for myself from many sources – a news mash-up in today’s parlance.

My theory of newspapers is fairly simple (or some might say simplistic).  There are three main cost elements -  physical assets for manufacturing and delivery, human assets for advertising sales, and human assets for information creation and editing.  The business model of the newspaper is based on two principles – network effects and bundling.

The network effect is the classifieds business.  The reason there is only one major newspaper per city, nearly everywhere, is that the classifieds business is a winner-take-all business.  This made newspapers ‘natural monopolies.’  The net effect of the natural monopoly was that the competitive pressure for innovation disappeared.  How many industries can you name where the product form, features, and delivery has not changed in 75 years? The marketing gene was largely bred out of the industry by becoming local monopolies.  Monopolies fail catastrophically because of their inability to respond when the competitive landscape changes dramatically.  This is the incumbent’s disadvantage.  The very immunity to competition that made newspapers such great businesses also created resistance to market forces.

The bundling is the aggregation of all the varied content to attract and retain the audience.  The core premise is you’ll read some content regularly, not necessarily all content.  At any point in time only about 11% of the audience is in the market for a job, home, or car.  But when they read the sports/business/comics/home sections, they’ll turn to the classifieds for the ads. The rest of the paper is the nectar, with the hope that you’ll pollinate occasionally in the classifieds.

But the Internet is that ruthless and incessant force for unbundling.  Everything is a click away.  Search costs are crushed. 

Newspapers are Internet victims, but they are far from being the only industry under siege.  Newspapers are especially impacted because two of the three main components of their cost structure are obsoleted.  Advertising sales moves from traditional ‘push’ to advertiser self-service.  All the physical assets of printing and delivery are obsoleted by the shared infrastructure of the Internet. If most of the cost structure goes to zero value, what’s left are news gathering and editing organizations and IT.

The Internet offers the opportunity for new entrants to build worldwide scale businesses with relatively little investment.  But crushes the residual value of shareholder equity invested in obsolete local, physical cost structures.  What looks like a great return on equity business for a new entrant looks like a balance sheet disaster for the incumbent. 

This epiphany hit home in a staff meeting when it became clear that the top line impact of all of a successful New Media effort at KRI might have the scale of one medium-sized newspaper property.   It might be very profitable, i.e., a great investment for shareholders, but a migration to an on-line business portends a much smaller total enterprise.

This is the real lesson of Internet-driven transformation.  It causes an unbundling of your traditional cost structure.  Core competences can no longer be centered on captive supply-side excellence.  Any business that relies on a vertical integration of value-added steps is vulnerable to unbundling of those steps.  Worldwide outsourcing of labor, professional services, manufacturing, and customer service are all Internet-enabled unbundling driving through many industries. 

The flip side is the Internet enables captive demand-side excellence, especially with the newer Web 2.0 technologies and business models.  Now it is easier than ever to integrate and individuate your customers to hold them closer.  Social computing, VOIP, and software on-demand technologies all make it easier to organize your business around satisfying your customer at the lowest possible cost. 

Knight Ridder became a “pure play” newspaper company several years ago when it shed its non-newspaper assets.  Focus increases manfuacturing efficiency – good.  Lack of diversification increases exposure to obsolescence risk – bad.  I think KRI is a great company and could be a great cash cow for someone else’s portfolio.  Like all cash cows, the key is to manage it for cash and invest in other, higher growth opportunities.  Newspapers aren’t going away, yet.  But ignoring the Great Unbundler has boxed it into a strategic corner that will force a change of ownership and an eventual decline.

The ironic thing is some of the most-read feeds in my RSS reader come from the Mercury News and the NYT.  I re-bundle.