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The Ugly Truth About Business Models And The Advertising Scapegoat

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Here’s a thought: when you’re developing your business, think about the revenue model as you’re developing your product or service.

It’s one of the more fascinating phenomena of the new media world: we have these runaway successes with people clamoring to join/use them, but there is no substantial revenue model in sight. You can cry that Search Engine Marketing is losing its efficacy (I’d still argue that point), but you have to be able to respect what Google did. It took them years of working and nurturing the pay-per-click advertising model to get it to the point where it’s at. It wasn’t obvious at the beginning, but they kept at it and – regardless of how you feel about it – you have to respect this new form of advertising and their ability to create such a unique revenue model.

New business models are hard… very hard.

It’s something that everyone from Facebook, YouTube, Twitter, Quora and Foursquare continue to grapple with. The business model is not clear. The revenue model is not clear. They’re struggling with validation of their valuations and they’re struggling with delivering significant revenues against hype and audience size. It’s a huge issue when you have millions and millions of people coming through your doors, but you can’t seem to figure out where the money is going to come from. When people ask me how companies (like the ones listed above) are going to make money, I half-jokingly reply that they may never look to their users to monetize. In fact, the only way that they will make money is when they are sold to Google.

Looking for more proof?

Today on MoBlog (via MediaPost), there was a Blog post titled, Can Foursquare Find A Business Model?, that looked at the recently upgraded Foursquare platform: "The changes to its app suggest new or expanded avenues for businesses to drive traffic and build loyalty by partnering with Foursquare. But in his blog post, Crowley didn’t really get into how the company is going to monetize usage by local businesses, brands or consumers. Perhaps some high-profile new promotions are on the way, or Foursquare plans to unveil a set of new ad options soon, as Twitter did last year after taking a few years to build up its user base. But given the fading allure of check-ins and the bevy of direct and indirect competitors Foursquare faces, this would be a good time for the company to spell out its business strategy more explicitly."

The advertising scapegoat.

There’s nothing wrong with advertising (I love advertising), but using it as the revenue model when nothing else comes to fruition is a dangerous and slippery slope. We tend to forget that advertising works in the mass media because it was an integral component of its creation. Having a runaway success and then pumping ads all around it (and within it) just because you haven’t figured out a business model is a sure way to turn your users/customers/community members off. Advertising works and advertising is great when you have context, relevance and a willing audience. It falls apart when it’s stuffed down our collective gullets because a business can’t figure out any other way to make money. Advertising in those channels (at that point) also loses much of its context and relevance. In most instances, advertising may be best served as a supplement to the business’ income and not the main line of business.

Advertising as a scapegoat business model lacks creativity and credibility. That’s my side… what’s yours?

28 comments

  1. I really don’t see this as a problem for the vast majority of tech startups that are getting started right now. For most, they simply don’t get to survive without a business model. The companies you are referencing are the exception, not the rule. 2 of them were originally funded years ago, the others have founders that previously founded successful companies (thus making it much easier to get funding for their current ventures – they have proven they can run a successful business). Anyone getting started now that doesn’t have a win under their belt doesn’t have the luxury of figuring out their business models later – it’s generally a condition of financing.
    Also – who says Facebook is grappling with their business model?
    April

  2. Mitch, you are bang on! I was just thinking of this today – grow your business and attract enough traffic to make Google take notice has become the new business model.

  3. Just today I was reading about how most people between 12 and 24 don´t want to be in contact with brands through facebook. I think the problem ,like you say, is that those “companies”(sites) weren´t planed to make money. I will start my website next week( wish me luck) with a clear and atractive business to users and to brands through advertising. It´s planned to work that way since the beginning, if it´s working i´ll tell you about it, mabe i have the answer!!!!…l

  4. Mitch, I completely agree. I have this argument all the time with different people, friends from college that come up with ideas for startups and when I ask them, “What is your business model?” or more simply, “How are you going to make money from this venture?” they simply say advertising. If they really knew how little advertising makes…online advertising is nothing like television advertising.
    Companies like Meetup and LinkedIn have figured out ways to turn a profit – Meetup charges group organizers a monthly fee and LinkedIn offers premium accounts. Many startups these days go the freemium route.
    For many of these companies, they first needed to build a user base. Eventually they hit a critical mass. But by that time, the users had become accustomed to NOT paying for the product/service that the company was left to find other ways to monetize to keep the users there. I think Facebook and Twitter can find ways to build premium accounts for users that are willing to pay for extra features.
    Advertising should never be the primary source of revenue for any online business.
    And you’re right, it could very well be that the only way some of these companies ever make money is if Google buys them.

  6. Well, I can’t talk about the other companies and wasn’t in the room with Zuckerberg back in the day, but I did read The Facebook Effect. It seems that growth trumped revenue. Mark wanted to avoid a Friendster-like outcome, so he focused on buying servers. I can’t disagree. Would FB have more than 700,000,000 users if ads had turned people off in the beginning? I’m not sure.

  7. Being a digital advertising agency, we leverage the advertising platforms of both Google & Facebook. I somewhat disagree with a few of your thoughts. Advertising can definitely be part of your revenue model provided your initial business plans had included it as a long term goal. It is then when you direct all your free efforts towards building a critical mass and database that eventually could be monetized. You are right on when talking about ” Context, Relevance & Willing Audience” That’s where Facebook failed miserably. They built up a momentum that wasn’t helping to feed the bottom-line. Hence the advertising platform drawn up in a rush as a survival kit . Irrelevant and unsteady ad serves combined with weak and non-reliable reporting portal almost reiterates the fact. Unfortunately, most new media platforms being launched in scores everyday possess that inherent weakness.

  8. I completely agree – it’s like choosing your tactics before even having a strategy down!
    And I would want to push the reflection further: if you’re a company and find yourself 3-5 years down the road figuring out that you should have established a pricing model for your services from the get-go, how to approach this without loosing your “followers”?
    It’s always “easier” to go to war when you know a few things about the battle: who you’re fighting, what type of weapons they’ll have, which one you can use, where you’ll fight, etc…

  9. Facebook makes money on advertising and virtual goods. I don’t see any indication that they are grappling with that now given their size. Quora has not disclosed their revenue model yet (that I know of). That doesn’t mean there isn’t one or that it might change down the road.
    To make a general statement that most startups today don’t bother to think about their revenue model in a smart way is wrong (and sort of insulting to startup folk and investors alike).
    April

  10. April, your response doesn’t make any sense. Mitch isn’t being insulting to investors at all. Early stage investors do a ton of investing on speculation and not on clear rev models. On top of that, your comment actually supports what Mitch is saying: Facebook didn’t identify a revenue model so they defaulted to advertising, and it’s fair to say that they are still grappling with it and their virtual goods model.
    The thing that Mitch illuminates here is that when you have a business in market without a clear revenue model and then spring something on your community, it creates friction. Most businesses would do better if they launched their revenue models at the beginning. I would add that his question to you about Quora was in response to your comment that newer businesses can’t get away without having a revenue model. Whether Quora is hiding it or doesn’t have one is not the point, they’re currently running without one – which negates your point about newer businesses.

  11. Mitch, couldn’t agree with you more. Advertising, in a way, is a cop out for these companies, a last resort when all other revenue models fail (or creativity in choosing one never rises to the surface). For every study that says online advertising is working, there is another saying people are getting tired of seeing it, or just turn a blind eye to it.
    It will be interesting to see what Quora’s next move is…They are growing fast and I wonder what their monetizing strategy is. They have an educated audience (much like LinkedIn); now how do they or can they capitalize on this?
    Thanks Mitch

  12. I disagree that there are a lot of investors investing in startups that don’t have revenue models. I don’t see that and I’ve worked with a lot of startups and investors. That was true years ago but just because a company that was founded 7 years ago without one doesn’t mean that’s happening today. There are exceptions of course, especially where there are experienced founders but just because you can name one doesn’t make it the rule.
    I also don’t see any problem with companies changing their revenue models as they go along. Markets change, users change, the way we work changes – companies need to change with that.
    April

  13. I feel too that advertising is often sprinkled over a “free” service without and meaningful revenue model in sight. On the other side, I truly can’t imagine any different way to monetize for services like Facebook or Twitter, they started free and they are bound to remain so unless they want to face death. Perhaps offering paid services like the famous Twitter analytics for the t.co shortener? Or competing with wider analytics offers from various partners?
    I don’t see reasonable to keep building entire businesses with just advertising in mind as the single point of revenue.

  14. Agree with your post wholeheartedly, Mitch. It seems inevitable that with any new communication tool that we see, the default approach always seems to be ‘how can we stick ads in it?’.
    I’d echo the comment that this is the ‘easy way’ out. I agree that there has to be a better way that results in less intrusion, more interactivity, and ultimately a greater payoff for both parties. Problem is, as you point out, nobody seems to know what that better way is yet.

  15. Your comment, “We tend to forget that advertising works in the mass media because it was an integral component of its creation.” goes to the core of the problem, Mitch. Magazines and newspapers were created expressly to sell advertising space, not the other way around. When options to reach customers began to expand exponentially, magazines and newspapers started to get into deep water. Popular sites are using advertising as a revenue stream, but sooner or later these may also encounter “peak eyeball” (for want of a better term)…even if it’s many layers down the road, eventually there has to be someone who is actually selling something, or it’s just a pyramid scheme.

  16. No argument there – revenue models should adapt to the market changes. While I appreciate your additional comments, I still think that the bigger platforms are defaulting to advertising instead of innovating on the business model side.

  17. It seems we can generally agree that having a plan before you launch is a great idea.
    I think the difficulty is this, there are many spaces that begin on the internet as a place for gathering/meeting/sharing that gather a following and a community and then someone looks at it and says, “why don’t we make this a business?”, which then results in a scramble to find a quick way to generate income and usually falls back on the old standard – ad revenue. Premium memberships is another one, and it generally pushes visitors away too because people don’t like having to pay for what they first got for free.
    Switching from a “free” place to a “pay” place is always tough and a long road, but if you’re honest and upfront with your community on why you’re doing what you’re doing, they may warm up to it in time if the product is worth the fees.

  18. I don’t think Facebook going to charge any fee. So advertisement is “the default” way to monetize it.
    But since Facebook act like a communication tools to most users, their must have gather tons of informations(I doubt they don’t do it) about users, how they behaved and stuff like that. Therefore I think the other way to monetize it, is to launch a premium research service(s), and then follow-up with its ad services.
    I think it will work. As business like to sell their stuffs and Facebook with the power of getting the informations to help them to sell their stuff, and that seems to be a perfect match.

  19. Totally agree with you Mitch. So many start-ups are focused only on getting famous with a new idea but they don’t think about the business model.
    Personally I can’t understand why so many investors pump so much money into start-ups without clear business models, who can’t think of anything else better than: let’s have lots of users and then we see, we might put ads or something.

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