The web as a commercial venue has changed and evolved much in the relatively short time since its inception. As the medium and technology evolved, more and more "real-world" business models became viable for web products.
Despite this, the application of those business models in the web arena is still very much experimental, and it's often hard for web businesses to find and implement a model that works well for them.
The most basic misconception about web business models is that you can never go wrong choosing an advertising-based model. If it was really that easy, then everybody would be making mad cash - however, advertising based revenue is actually hard to come by.
In fact, those who can actually make it stick are few and far between (Mike Speiser shows the numbers don't lie). The amount of traffic you need to generate in order to make substantial revenue from online advertising is out of reach for the vast majority of websites.
So when is an advertising model appropriate?
- When generating traffic is the main purpose of your web service. Such sites include all flavors of traditional content sites, social networks, user-generated content sites and the like.
- When your service has the ability to deliver targeted advertising. Targeting advertising at user activity, search criteria and the like, greatly increase the relevancy of ads and thus conversion rates. A little-known company has made targeted advertising its main business to devastating effect.
- Advertising is incorporated as a part of a hybrid model, to subsidize free parts of the service (see below for more details).
The important attribute here is that advertising must target a large enough audience with sufficient relevancy in order to generate significant revenue.
Subscription is king
Subscription business models are nothing new but have been gaining popularity on the web, especially with the proliferation of on-demand online services in which subscription payments often make the most sense.
A subscription-based model is often appropriate when the service / content offered is unique and hard to find elsewhere. For site visitors to shell out even a few dollars, they need to be convinced that they are getting something they can't get elsewhere (since much of the web is available for free). This is doubly true since the process of handing out payments details online is often a barrier by itself.
Whether it's entertainment or productivity, when the value to users is higher than or equal to the monetary cost subscription becomes a very viable model. Niche sites and web services often fall in this category when they provide something of value.
I'd note here that by subscription model I don't necessarily mean just recurring annual subscriptions - there are also milestone-based subscriptions (pay-as-you-go) and feature-based subscriptions (pay-per-feature). Those three types can be mixed together to create many different hybrids, with the common denominator being the "subscribed user" - a person willing to spend money to use the service.
The freemium model
Freemium is a trendy new name for a familiar model - offer basic or limited services for free, and charge for advanced (premium) features. The freemium model is often a derivative of the subscription model, with the basic subscription plan as the free part of it.
Using a freemium model can be very useful for businesses who are counting on long-term users instead of one-time purchases. By getting limited services for free, a user can have a taste of what the web service has to offer thus lowering the barrier of entry. The balance of free to premium is important in creating the right incentive for paying for the premium services (example - basecamp).
One common application of the freemium model is combining the subscription and advertising models, by offering free services that display ads and premium services that are ad-free - this basically allows the site user to decide how he will support the service.
When we are conducting business development with clients I Personally lean mostly to subscription based freemium model, as
Brokers are services that bring together buyers and sellers thus creating a marketplace. Revenue is generated by charging usage of the marketplace in a variety of ways:
- Sellers can be charged for being listed by the broker (one time / per listing)
- Buyers can be charged for gaining access to the listing of sellers
- Fee / commission on successful transactions
The best known example of the broker model is Ebay, a giant marketplace that succeeds on the strength of its reputation system and internal policing. A couple of good examples for creative application of the broker model are threadless and crowdspring (which I described in a previous post on web business models).
The partnership, the exit
Partnerships can be the basis of viable business model in certain circumstances - such as affiliates and sponsorships, or can be another part of the whole for others. It is often used as a hybrid with other models (such as advertising or subscription) being the driving force behind revenue.
An extreme case of this model is the outright takeover of the business by another company, often called "an exit". Though some businesses set out with this strategy in mind, its very unpredictable nature makes it very risky without an adequate backup model. I call this strategy the "no-model" model, with businesses basically saying that they'll figure out as they go along, hoping that some giant company will swoop in and end all their problems.
Picking the right one
Deciding on a web business model can be tough for early stage start-ups and traditional offline businesses transitioning to the web. Each model has its pros and cons and the fear of making a mistake can be paralyzing. Sometimes the perfect business model is very obvious but more often than not it's a journey of self discovery for the business.
When we engage in business development with our clients, we usually ask them the following questions:
- What is your target audience?
- How much would you pay for your service?
- Who are your competitors? What is their business model?
- When (or how fast) do you expect web revenue to cover operating expenses?
Those are mostly introductory questions, aimed at helping the business orient itself on what it needs to know to determine its business model.
Analyze, improve, rinse, repeat
Choosing a business model is only the beginning. Constant collection and analysis of related data - such as conversion and churn rates, usage data and statistics - is essential for tweaking and evolving the business model and increasing its chances of success. The process of testing how much customers are willing to pay for services is sometimes called bounding-box pricing.
There are no strict rules for choosing a business model, so don't be afraid to experiment and look for business opportunities in unexpected places. You never know when or where your big break will happen, but if you believe in your product and your team your business model will reveal itself eventually - be prepared for it when it happens.