Over the past few months, I've looked at many startups that are focused on distribution of content in the digital media & mobile space. "Content", in this context, could be videos, music, ads, games, payments, virtual goods, powerpoints, incentivized offers, coupons, airtime, whatever. Surprisingly, very few Silicon Valley-style companies are actually producing original content (many investors actually shy away from original content production businesses, leaving that up to Hollywood or Madison Avenue).
Classic examples of businesses with distribution characteristics include YouTube, Amazon, Flickr, iPhone's App Store, Google's Android Market, Motricity etc. A number of such ventures that have captured our collective imaginations in the past few months include: Groupon, Foursquare, Gilt Groupe, CloudMade and Blippy. Many platforms have turned into quasi-distribution businesses, including Twitter, Facebook and SalesForce.com. In our own portfolio here at Venrock, we have several ventures with distribution characteristics, including INRIX, SlideShare, Aha Mobile, Media6Degrees, Adify and others.
Sometimes, these businesses are camouflaged in clever ways, such as having a branded destination site or native mobile application (in addition to B2B or B2B2C distribution). Sometimes,these businesses don't have a consumer brand at all and are selling data.
You may say "So what?" Well, the 'so what' is that certain economics
principles apply to distribution networks and the sooner you figure what
principles apply to your business, the sooner you can take these
principles into account to build your business to your advantage. And based on the principles outlined below, you may be able to find some additional ways of building value in your startup.
Apart from general startup success factors (such as team, product-market fit, user experience etc.), here are some of the things I look for in distribution ventures:
1. Increasing marginal return to increasing transaction volume: You
have to find positive network effects, high switching costs, effective
machine-learning algorithms or other blocking IP to convince yourself
that your distribution network has a chance to become a highly valuable
quasi-monopoly. In the absence of this, even if there is a diffuse set
of suppliers and buyers, there may end up being a highly fragmented set
of distribution networks (a la the current state of the ad network
market) – this is not necessarily bad if the market is very very large.
With some of these effects in play, you get the likes of Google.
2.
Clear value-add of your distribution network: Related to the point above, be
clear about the exact value being added by your distribution network.
Some examples that I find repeated across distribution networks are:
- Data step-up: You could collect data from multiple sources or
generate data from user activity on your own destination site. You could
then algorithmically generate value-added data to enhance your own
service or sell to other players in the value-chain.
- One-stop
shop / scale: You could be the largest or most focused provider of content/data
in a certain category. Examples would be Motricity in the mobile apps
space or Yodlee/CashEdge in the consumer transaction data space.
- Value-added
ancillary services: You could provide additional services, such as
payments, discovery, search, APIs etc. to really lower the barriers to
buyers to source from you.
3. A business model that fits your industry: Your distribution network has to adopt the business model that the
suppliers and buyers are already using. Trying to invent a new business
model is (most times) a no-go. Time and again, I see startups that have
a business model orthogonally different from the market they are going
after when they could really get faster to product-market fit by
adopting existing pricing models.
4. Non-commodity content: Like in any market, an oversupply depresses prices. This is what happened in the casual games market where there was essentially infinite supply of games. However, low (or free) prices are not necessarily a bad thing – low/free prices could help you get to greater user adoption and could then be monetized through lead generation and advertising, presuming that this content has other substantive ways of making money. If you can get exclusive access to all (or some of this) content or be the only platform on which this content can monetize effectively, you have built a defensive moat around your business.
5. Diffuse suppliers: In general, a high concentration on the supplier side of your
network is not conducive to the your success. If you are distributing,
say, mobile applications or social games or banner ads or videos or
music, if a small set of suppliers (say 5 or less) own 80% of the
market, then these suppliers will tend to go direct to the buyers or
buyer aggregators. If you can source relevant or hard-to-get data or
content exclusively, that can of course play to your advantage.
6. Diffuse buyers: A high concentration on the buyer side of your network is also not conducive to your success. In this scenario, buyers will tend to go direct to the suppliers or supplier aggregators, bypassing you.
7. Aggregators that you could co-opt: If there are a set of supplier or buyer aggregators on either side of your network, then that reduces the margins for your distribution network. In some cases, these aggregators can be competitors to you or could be distributors or supplies. An example would be yellow pages companies which concentrate the buying power of local merchants.
8. Understanding of platform build-out cost: In some large-scale distribution ventures, money is made pennies at a time. Visa or Mastercard are examples. To get to, say $100 million in revenue, such distribution networks have to do billions of transactions a year. Platforms are hard to scale to this volume and almost always require a pretty large amount of capital. Understand how much it will take you to build out this platform. Key features should include supplier ingestion tools (ideally self-service), buyer ingestion tools, metering/billing, social lubrication etc.
9. First caveat: Early-mover advantage: Notwithstanding everything mentioned above, there may still be an early-mover advantage if you can get to scale fast enough (e.g. Admob), where you get big enough to be taken out by a larger incumbent in an adjacent space as a line extension. Sometimes the large incumbents don’t move fast enough and pay a premium for size/reach/traction. Of course, this is conventional wisdom but doesn't necessarily always apply.
10. Second caveat: Disruptive technology or business model: In some cases, either the buyers or the suppliers are currently garnering most of the market and the market seems locked up. However, you may have a new technology or business model that opens up the market to many more buyers or suppliers, disrupting the cosy oligopoly on the supplier or buyer side.
Let me know what you think of this. I'm sure I've left out some important gotchas.
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