Social Network Business Model

By Ed Carroll, Online Business Systems

MySpace has a registered user count of over 200,000,000. Facebook has a registered user count of over 40,000,000. Even Flickr, which focuses on photo sharing, has a registered user count of over 4,000,000. The phenomenon of social networking has exploded the use of the Internet exponentially in the past few years. The number of social networking sites, blogs and online communities has grown almost as fast as the number of registered users – and many of these sites fully intend to make money, someday. If so, what is the winning business model for making money in social networking?

User growth statistics
The numbers involved in social networking are driving a lot of attention their way. To give a perspective – at the peak of the Internet bubble in 2000, the largest Internet sites were eCommerce sites, with registered user counts such as 4 million at Egghead.com or 12 million at Amazon.com. No one had anything close to 40 million, let alone 200 million. There was a lot of concern during those years about the security of user data. None of those concerns seem to bother the 200 million registered users of MySpace.

The risk have not gone away, but it is my guess that the acceptance of security or identity theft risks (plus some marginal industry improvements) from the social networking users is the key driver of the user count explosion. A similar explosion is happening in more traditional online eCommerce, but my guess is that social networking is the driver.

Sales at eCommerce sites during the 2000 holiday season added up to only 1.5% of retail sales, while traditional catalog sales were 3%. In the 2006 holiday season, it has been estimated that 27% of consumer sales were made online, and the number is expected to continue to increase.

eCommerce business models
Typical selling online is a business model much like that of catalog sales. Instead of the cost of creating and distributing a catalog, the eCommerce costs are in the creation and computing power to run the site. Income for the eTailer is made in the purchase of the items sold. And like catalog sales, there are aggregators, drop-shippers and middlemen who all take a percentage cut. Even Amazon’s and eBay’s models are not terribly new business models. What is new is the scale of their operations.

Social networking business models
In contrasts to the eCommerce business model, the use of MySpace is free to its 200 million registered users, as is the case with most of the social networking sites.

One local social networking company is SplashCast. SplashCast’s management took a great product that they were told would be too hard to sell and turned it into a super media player that works seamlessly with virtually any web site. They held a cameo position during Facebook’s announcement that they were opening their source code to widget apps and plug-ins. But SplashCast has taken things one step further and figured out how to make its HTML-embedded media player work with other platforms, such as MySpace. This capability effectively links the two communities together. For example, one could create a chat session that spans both communities – something that neither MySpace nor Facebook do today. How does SplashCast intend to make money? Like most companies focused at social networking, today they give the product away for free, hoping to drive sufficient traffic to (someday soon) attract high-paying advertisers.

200 million users consume a lot of computing power, so how does MySpace pay for the cost of its massive data center? The answer is simple: advertising. With a viewer count that is growing and threatening to blow past television very soon, advertisers are very willing to pay handsome sums to be seen by those 200 million plus pairs of eyes.

This is the same game – building up a large user count with the assumption that the cost will be recouped by selling advertisement. It works for MySpace. The more users/readers/viewers that are drawn to a site/blog/MySpace profile, the more flashing blinking banner and sidebar advertisements. I find this curious, because I personally pay little attention to banner ads, but more and more advertising is moving to the Internet.

eCommerce on social networks
Facebook recently opened its source code to allow widget and plug-in developers to embed their code within the Facebook platform. Many of these widget and plug-in creators are giving their work away for free too, hoping to draw enough traffic to be able to sell advertising.

There is a smattering of other business models, but for the most part, the revenues for these models are quite small in comparison to the money made on advertising. For example, a few communities are starting to offer premium features for a subscription fee - LinkedIn is one such community producer. Some developers of widget apps and plug-ins are able to charge a license fee (or hope to someday) for premium versions of their products. Others make money by offering customization services around their free products (SplashCast does this). And in a few cases, the entire business model is to create a widget that generates enough interest (aka, traffic) to allow the owners to flip the company to Yahoo or Google for a couple of million dollars.

We did all of those things during the dot-com bubble too. The game plan for eCommerce companies such as Egghead.com in 2000 was to do anything possible to drive traffic to the site, rack up as many registered users as possible and make up for the cost by selling advertising space. We also added as many new bells and whistles (aka widgets) as possible from third-party developers to keep the numbers growing. At Egghead.com, I was constantly distracted from real work by new add-on extranets that our marketing department had purchased (with the promise that integration would be instantaneous and painless). In fact, our merchants even priced product below cost, just to bring in more new registered users. “Don’t worry,” they said, “We’ll pay for it through advertising space,” was the constant refrain.

Advertisers are excited about social networking
There has been a lot of buzz in the sales and marketing communities about a shift from advertising on traditional media (TV, radio, print) to the Internet. This is driven by the ability to reach millions of viewers with targeted ads.

Social networking is an advertiser’s dream come true, because registered users willingly fill out a profile that tells the advertiser who to send which ad. The positive spin on this is that end users are notified of things they are genuinely interested in. The dark side is that it invites abuse and tells the abusers how to reach you, personally. Does anyone get more spam email than I do?

TV does not know who the viewer is; no names or return addresses are involved in receiving a signal. Advertisers have never had as much direct contact to the consumer. More than just a return address (email, IM, chat, etc.), we also provide exquisite details of who we are with a few clicks on our profile page.

One of the first killer apps in eCommerce was the ability to track personal buying profiles. This technology has expanded over the years into massive databases that give advertisers targeted audiences to a level of detail that is just mind boggling.

Conclusion – entertaining advertisement
The advent of technology such as TiVo, which allows the viewer to skip commercials, has prompted some pundits to predict the death of advertisement. Quite the contrary, advertising is not dead; rather it is morphing away from TV, radio and print, and toward targeted online ads. As the computer becomes the primary entertainment device, advertisers are increasingly able to target viewers (through their specific profile and buying pattern) with a message just for them. At some point, advertising might become our entertainment. Are we amused yet?

About the author
Ed Carroll directs sales and marketing for Online Business Systems. His career has spanned sales, marketing, and development of software products and services for more than 25 years, with particular expertise in automating economic optimization, business intelligence and supply-chain management processes. He has provided strategic technology leadership in roles such as the vice president of engineering for Egghead.com, director of technology at Nike and director of software engineering at Boeing. He can be reached at ecarroll@obsglobal.com