This post was written by Howie Chan, Business Analyst at TechAlliance
Facebook has been criticized by the media for failing to meet investor expectations of revenue growth. This problem is exacerbated by the fact that Facebook is the largest social network in the world, with a user base of over 1 billion members. I can delve deep into the financial analytics behind Facebook’s IPO valuation or peel apart its membership growth strategy, but one fact remains: Facebook doesn’t make enough money.
On the other hand, Groupon’s strategy was to focus on revenue growth by influencing retailers to offer steep discounts while simultaneously exploiting these retailers for half their ticket price. But Groupon hasn’t been able to scale its business model and its stock price has lost over 80% of its IPO value. Failing to provide substantial recurring revenue to participating retailers (customer lifetime value), Groupon’s revenue growth has shrunk dramatically.
For entrepreneurs, revenue and user growth are common problems: How do you convince someone to try your product/service and pay you for it? If money isn’t coming into the business in one form or another, how can the business scale to meet the expectations of a growing user base? How should aspiring entrepreneurs build their businesses to avoid the mishaps such as Facebook’s ad problem, Groupon’s retail relationship, Skype’s freemium model, or Twitter’s text-based model.
Option #1: A company’s revenues should be aligned with the value delivered to its customer (the person paying for the service).
For example, Apple can charge an exorbitant premium on its products because consumers find even more value (and reliability) in the Apple brand than they do spending their well-earned dollars on a competitor’s phone. Linkedin, unlike the ad-based Facebook, has become a business recruitment tool and tied its revenues to the corporate hiring and job search process (through paid accounts and premium add-ons).
Typically what happens in web and mobile startups is an entrepreneur designs, creates, and markets an idea and then decides to monetize its user base. The quickest way to do this is through advertising (banner, text, pop-up) – spam. They begin providing advertisement that isn’t aligned with the value derived from the consumer. Unlike the advertising behemoth Google, who aligns its text-based, keyword tagged, search-relevant advertising with a user’s search results, most websites allow a third-party to control what ads are displayed on their website.
The solution to a revenue glut? Be creative. Talk to your customers (these might not be your end users) and find out what they like about your product and what keeps driving them to come back to it. After doing this, align these incentives with what keeps your end user happy.
Option #2: Aim to be acquired. Value your users.
Design your business for mass user adoption. Acquisitions like Instagram by Facebook, Seesmic by HootSuite and Draw Something by Zynga, were acquired for their active users. Leave it up to your acquirer to figure out how to “monetize” your users and focus on what you’re good at – growing your membership.
I want to note that this tactic is not only tricky but extremely risky. In an attempt to grow a large user base, you’ll need a large sum of capital and a smart team of people willing to work for nearly nothing (on the hopes they’ll get a payout when the company goes big). You’ll also need to take a good hard look at the venture capital and private equity industry. If you’re anywhere north of the 49th parallel or aren’t well connected to a blossoming web/mobile community – good luck. The odds are stacked against you when you aim to be acquired. It also creates a disincentive to truly value your business idea and grow it to what it could become.
On the other hand, user growth and revenue growth can be achieved simultaneously. It takes planning and creativity in order to find the right alignment of incentives and profits between the user, the customer, the business, and the investor. Above all else, it takes an enduring vision and an ability to pivot to continue to grow in the marketplace.