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- Since we published our original coverage report SMTP, Inc.: Here Come Email Delivery Networks on May 3rd the company has continued to execute on their growth strategy and the shares have settled into a more stable trading range. (See related post for more information.)
- SMTP recently completed the acquisition of over 4,000 IP addresses that are the foundation of successful email delivery. This will allow them to support thousands of new customers.
- The company also recently contracted to build up a new datacenter with a co-location provider that will allow for further growth and delivery of higher service levels. It’s expected to be handling customer volumes in Q3 of this year.
- Social marketing and behavioral commerce trends led by companies like GroupOn and Livingsocial are adding to the already high demand for reliable email delivery services. Although message volumes are also expanding, email remains the single best common denominator for basic communication.
- We continue to see this market evolve in a similar fashion as the content delivery space and expect that over time most internet infrastructure service providers (like Amazon and Rackspace) will want to add email delivery networks to their services.
- SMTP will be reporting results for the June quarter in late July. Due to the nature of their business model we expect no surprises and a fairly smooth continuation of the growth that the company has been generating the last few quarters.
- Investors looking for a rapidly growing, profitable (27% operating margins), small capitalization internet infrastructure service provider should take a close look at SMTP.
- The company recently completed a “direct to market” IPO process and is just now accessible to pubic investors. Our intrinsic valuation (IV) remains $3 per share.
- Eliminating a Wider Range of Your Email Headaches with SendGrid (rackspace.com)
- MIT Blackjack King Takes SMTP Public (tech.slashdot.org)
- Thunderbird Identity SMTP Problem (tenmov.es)
In early June I started thinking seriously that it’s time to begin mapping out an investment strategy that goes beyond the immediate digital entertainment world of music, movies and games. Attending the e-G8 meeting in Paris made it clear that governments and societies were being reshaped by the “8th continent” of the internet and the changes have only just begun.
The impacts on growth, jobs, innovation and wealth creation have been noted – along with some fears that intellectual property, government controls and a certain diversity in our cultural wealth might go by the wayside.
We put our notes together and published a summary of the e-G8 meeting over at Seeking Alpha. Fred Wilson also did a post on “Investing in the Cultural Revolution” that is another sign that it’s time to start thinking. (UPDATE: just a couple weeks later Fred did another worthwhile post on this topic. See Science & Art.)
I often get asked “what’s the next big thing in technology that nobody is thinking about yet?” It does seem like cloud computing, mobile internet and social networking companies are well discovered at this point. I still say that “RealVR” which we have been covering for over two years is just getting into the first inning. But going beyond that this intersection of technology on art, experience, emotion and society is just beginning. What will “paintings” be like in 20 years? How will be they be made and experienced? Probably much differently than they are today. The next successful hackers may be digital impressionists.
It’s a topic worth working on. Do it before everyone else does.
- Union Square Ventures Leads $3 Million Round in Moot’s Startup, Canvas (betabeat.com)
- Investing In The Cultural Revolution (avc.com)
- Cultural Revolution Dinner Theater: weirdest dinner in Beijing (boingboing.net)
It’s hard to fathom what the two-day e-G8 meeting in Paris, which starts tomorrow, will offer us. It’s received only minimal coverage, despite the fact that the attendees include such high-profile people as Jeff Bezos, Eric Schmidt and Jimmy Wales, along with scores of other technology company managers, entrepreneurs, political leaders and journalists.
The quasi-governmental sponsorship of Nicolas Sarkozy may explain part of the reason why the event hasn’t received many headlines. He asked Maurice Levy of Publicis to host the event, which is entitled “The Internet: Accelerating Growth”. The aim is to bring technologists and policy-makers together, “to discuss the challenges and opportunities which they believe relevant to the future of the Internet, offering their opinions on a wide range of issues, including for example human rights, intellectual property and technological investment.”
However, we all know that the Internet actually accelerates creative destruction: something France and other countries in Europe are less keen on. That has many wondering whether the real policy objectives of the e-G8 have more to do with additional regulation and control, rather than more freedom, innovation and economic incentives.
The French have an uneasy relationship with the Internet on both an economic and a personal level. Economically, the ability for companies, particularly Google, to be able to extract large economic value out of the French economy is troubling in a model in which the government provides large subsidies (billions of euros) for foundation technologies like broadband. Personally, people in France are just a little less comfortable with the online model, and Internet business, than some other cultures in the developed world. For example, PriceMinister, a French web commerce company, was acquired by a Japanese firm. According to an insider at the French company, “there are no natural French buyers for Internet companies because they don’t really believe in it. They pretend to care about the Internet, and spend some money on it, but they are not serious at all.” [Quote from LeWeb, December 2010.]
There’s a robust band of successful entrepreneurs and business owners on the Internet in France, but big companies see it more as a risk than an opportunity. No wonder they are losing out to more aggressive international competitors. [This is going to get even worse with the dramatic rise of the mobile Internet, but that deserves treatment as a separate and full post.] For most successful French technologists, their path has involved a move or partner outside of France.
There is an agenda, but it’s fairly high level. Other than the welcome by Levy, and the opening speech by Sarkozy, no sessions have speakers listed. We’ve been able to piece together some sessions by matching up Twitter streams with the agenda, but it’s a far cry from a complete, detailed, official agenda. The last time Sarkozy appeared at a technology event, it was LeWeb 2008, which was a disaster. He lectured an unwilling English-speaking audience at length – in French – about the need for interactivity, and then proceeded to end his speech and abruptly leave stage left. The crowd was livid.
But the French are technology friendly and, since then, other French ministers like Christine Lagarde have made a far better impression by appearing at technology events and speaking intelligently and frankly in English to attentive and appreciative audiences. I’ve also met with French officials who oversaw the conversion of many government offices to modern technology using open source software. So all the ingredients are here, but somehow the recipes and presentation are not quite right. This event may be an attempt to improve things, but two days isn’t much time.
Are there Investment Implications?
Probably not the type that will impact 2011 stock performance. But in the longer term, whether we like it or not, business on the Internet is going to be impacted by politics, legal differences, societal needs and human factors. Because the Internet involves personal data, privacy, security and interaction, it’s different from moving a product or a piece of content into a foreign market.
The implications cut in two directions. If countries like France act to protect their near-term interests, it can limit the opportunities for global firms like Google, Apple and Facebook in the local market. We’re all familiar with this from examining the development of business and the Internet in China, where Baidu continues to lead the market. As for Russia, it appears that Yandex will be the Internet search leader there.
Strong domestic companies are important and welcome, but the question is: what cost do consumers and taxpayers have to pay for them? And this isn’t just in terms of money, but also with respect to choice of content, freedom of expression, efficiency and ultimately even the quality of life. Limiting or restricting consumers to narrow and inferior content and tools, merely to preserve local interests, won’t work in the long term.
In conclusion, the objective of the organizers is to have some specific recommendations that can be made to the leaders at the G8 meeting immediately following the event. What kind of things are even possible? Most technologists would say, “spend money on building the roads and ramps (broadband), then get out of the way.” One senses that the leaders of the free world want to put their fingers on the path of progress to influence how it all turns out.
Politics is unlikely ever to welcome the term “creative destruction” into its lexicon, because the destruction part is too lethal for poll ratings. But why not use government power and wealth to incentivize and assist those people who are dislocated by the process? Most developed countries, including the US, still seem to have a problem in creating the jobs that many of us have enjoyed in the past. Healthcare costs are a big reason in the US; slow growth, regulatory burdens and high costs are reasons in France. (Research 2.0 looked into hiring some people in France about five years ago and concluded that it would basically break our admittedly “lightweight” business model.)
With iPad in hand, I’ll don my top hat and tails to stroll under the luxury tents assembled in the gardens of the Tuileries. Few places could host a more sumptuous gathering spot for a discussion of the Internet and policy. At the same time, thousands of students will be shifting gears to spend the summer developing software and Internet sites that may become the next Google, Facebook, Match.com or GroupOn, instead of whining to their parents how they can’t get an interview for that $100K entry-level job at Goldman Sachs that they were planning on. “Dad, maybe if you could get me into that e-G8 thing where I can network…”
- What Will e-G8 Create: Solutions or More Cynicism? (readwriteweb.com)
- France To Internet: G8 Will Talk To You, For a Price (gigaom.com)
- Chaos of Internet Will Meet French Sense of Order (nytimes.com)*
- The e-G8: Promises and Problems (jilliancyork.com)
- Is France Plotting to Kill the Free Internet? (gigaom.com)
Sending email has become a major industry problem thanks to both the massive growth of legitimate sending mixed with an enormous amount of SPAM. Much as it is in online security, there is no one “silver bullet” to efficiently and effectively deliver large amounts of email.
For small organizations the typical answer has been one of the many email marketing service providers. This includes companies like Constant Contact (NASDAQ: CTCT), MailChimp, VerticalResponse, ExactTarget, and many others. Most relationship management solutions like Salesforce (NYSE: CRM), Responsys (NASDAQ: MKTG) and Unica (acquired by IBM) include email services as part of their solution.
Large organizations don’t need or want the content creation and management features of these marketing tools and they need to send far more email than these solutions are built to handle. Large-scale applications require a “sending platform” to deliver the emails, which can reach into the millions.
There’s also a big difference between internal company email and external consumer email. Thanks to new rules and regulations, many types of emails have become legal documents. There’s now a significant compliance burden on company email for retention, discovery, content management, etc. Large external email distributions simply don’t belong in this environment and are better handled externally with a service provider.
Sending large volumes of emails effectively requires infrastructure, technology, tools and expertise. To make it even more challenging, SPAM has become such an issue that large senders of email are viewed as “guilty until proven innocent” which means their sent email may never reach the intended destination. Senders must develop an online infrastructure reputation.
These dynamics favor specialty cloud infrastructure service providers like SMTP (OTC: SMTP). Over time we expect this market to evolve in a similar fashion to content delivery networks and financial market technology. Institutions use purpose-built online infrastructure for services like video asset management, funds transfer, stock trading and transaction processing.
The size of the email market in general and the slice for SMTP in particular is not well-documented. The largest segment of the market is internal email, which is estimated to cost about $20 to $25/month in the enterprise. If outsourced to Google this cost can drop to about $8/month but companies give up considerable flexibility and integration by doing so.
These high costs are forcing companies to move their high volume emails to clients, customers and prospects outside of their internal systems. In addition, there are large organizations without substantial internal infrastructure (like non-profits) that want to reach millions, tens of millions and in some cases hundreds of millions of email subscribers. Estimates for external email volumes are notoriously flawed due to the high percentage of SPAM in the raw numbers. However, many would agree that the figure is “around” 300 billion email messages sent per day with about 3 billion email accounts. The line between SPAM and that subtle opt-in when someone checks the “I want to receive updates from American Airlines” box is a blurry one.
The fact is that almost every successful consumer-focused organization is likely to need this service. This is as true for the Catholic Church as is for Groupon, Patron Tequila, Budweiser, American Airlines, or Coca Cola. One fairly simple back-of-the-envelope way to get at the size of the market opportunity for SMTP and other high end email outsourcing companies is to base it on volumes. We’ll assume that just 1% of the daily volume is bona fide consumer marketing email sent to large lists by big organizations. That’s 90 billion messages per month to parse into potential revenue. We used a typical power law distribution of customer email volumes to segment the market and determine how many customers are in each segment. Then it’s a matter of applying the normal pricing to come up with the current market size of just over $500M per year.
The Highlights of the Full SMTP Report (link below):
- SMTP, Inc. (SMTP) is a cloud service provider that specializes in the increasingly challenging task of sending email on behalf of their clients by providing intelligent engine to power successful email delivery. In this regard SMTP is more akin to a technology service provider like Amazon or Rackspace rather than an email marketing company like Constant Contact.
- Volumes of email continue to increase and the cost, complexity and ever-shifting nature of what is required for successful delivery is driving the majority of organizations to outsource all or part of their email delivery.
- Over time we expect this market to evolve in a similar fashion to the content delivery space and include some dedicated providers (like CDN players Akamai & Limelight) and the large general players offering some level of service (like Amazon and Rackspace.)
- SMTP is a small but rapidly growing company that is very capital efficient. The company generated $2.7m in revenues for 2010 (an increase of 76%) with 27% operating margins. Our market size estimate for the services SMTP provides is approximately $500m/year. SMTP is growing faster than the overall market but is unlikely to hit any market limitation for some time.
- The company recently completed a “direct to market” IPO process and is just now accessible to pubic investors. Our intrinsic valuation (IV) suggests a share price of $3. The shares just started trading and as the float is limited the shares will fluctuate more sharply than normal. Both our IV and peer analysis are attached.
The full research report is available here: SMTP Coverage Report May 3 2011 and contains more information regarding the company, the market, competition and valuation.
[Disclosure: SMTP, Inc. is a corporate research advisory client. Please see the disclosure information in the research report and on our website for more information.]
In our initiation of coverage note on Viral Genetics (VRAL) back in February, we noted that the company created a majority-owned subsidiary called VG Energy to develop algae-based nutrient and energy technology. This technology can be used to produce diesel and jet fuel substitutes for traditional petroleum fuels. It was derived from a discovery that came out of Viral Genetics’ research in cancer treatment.
Laboratory experiments at Viral conducted by Dr. Karen Newell-Rogers and her team show that molecules which can disrupt the burning of fats (lipids) in tumor cells can also encourage algae to accumulate and secrete fats. In the lab, Dr. Newell-Rogers’ technique increased lipid production by over 300 percent. This is a potentially pioneering discovery that could radically alter the economics of future biofuel production.
Another significant finding by Dr. Newell-Rogers is that with VG Energy’s technique, the fat is stored outside the wall of the cells, thereby making it possible to extract it without killing the algae. With conventional technology, the algae cannot be reused. This finding opens up the possibility that oil can be separated and recovered from the algae in a non-destructive way, which has the potential to significantly reduce the cost of production and bring the cost into line with conventional fossil fuels.
At the time of publication of our research note, there was very little information on VG Energy and no way to gauge the value of the company in its present embryonic stage of development. We were aware that VG Energy was discussing the technology with various biofuel experts, and that some of those who examined it viewed it as a potentially important and significant development in algae-based biofuels.
Recently, biofuel expert Dr. John Sheehan published a research note titled “The potential impact of VG Energy?s lipid oxidation inhibitors on the economics of algal biofuels. Dr. Sheehan spent many years at the National Renewable Energy Laboratory (NREL) evaluating and testing alternative energy technologies. He is currently a researcher at the University of Minnesota’s Institute on the Environment and is also doing independent advisory work on biofuel technology at SheehanBoyce LLC.
Dr. Sheehan’s research is the first attempt we’ve seen to evaluate VG Energy’s technology in a rigorous manner. He evaluated several scenarios, including:
• Enhanced production of higher value oils, such as omega-3-fatty acids, in open pond algae systems
• Enhanced production of fats for oil produced as a feedstock for biofuels in open pond algae systems
• Scenarios that take advantage of observed oil secretion in VG-treated algae to permit non-destructive recovery of oil and recyclng of algae to ponds.
The enhanced production scenarios in Dr. Sheehan’s report are compared with scenarios based on values for currently achievable productivity levels of algal open pond systems that are found in the scientific literature. Sheehan’s scenarios show that VG Energy’s discovery could transform algae technology from being a negative rate of return proposition to being an attractive and profitable venture. He notes that the introduction of VG Energy’s additives offers the ability to knock down the cost of algal oil production by almost a factor of ten as a result of productivity improvements.
Sheehan also notes that if oil secretion currently observed in VG Energy’s lab can be fully demonstrated in larger scale growth systems, there is potential for further decreasing costs by another factor of roughly two. This would represent a dramatic shift in the economics of algae technology and would, as Sheehan observers, be game-changing.
Sheehan’s economic analyses, though preliminary, illustrate the promise and potential of VG Energy’s technology at a time when there is growing investor interest in algae biofuel technology. Several synthetic biology companies have came to market over the past year, including Amyris Biotechnologies (AMRS) and Gevo (GEVO). Earlier this month, Solazyme filed an S-1 and plans to raise $100 million in a public offering.
Solazyme has a unique process for creating fuel from algae. It grows its algae in dark pools and feeds them sugar. Most conventional algae processes use open sunlit ponds and rely on photosynthesis to produce the sugar needed to get the algae to produce oil. Solazyme feeds sugar directly to the algae. The oil produced by Solayzme’s sugar-fed algae is then refined into usable fuel. The U.S. Navy is a big customer of Solayzme’s biofuel today, and other companies are evaluating it for commercial use.
Another emerging bioenergy company that is on our radar screen is Synthetic Genomics, which is backed by ExxonMobil. Synthetic Genomics was founded by biotech pioneer Craig Venter. Venter led the privately financed version of the Human Genome Project and is one of the world’s leading biotech visionaries. Synthetic Genomics appears to be using a more conventional open sunlit pond approach to producing fuel. That said, Venter’s vision and expertise in genomics and biology, coupled with the financial backing of the world’s largest energy company, makes Synthetic Genomics a company to watch as a source of future biofuel innovation.
As we noted, there is growing investor interest in biofuel technology. But there is also a good deal of skepticism among venture capitalists as well as in the academic community. Earlier this year we spoke with Professor James Richardson, an agricultural economics professor at Texas A&M. Professor Richardson has evaluated the economic feasibility of many conventional algae biofuel technologies in conjunction with the work he is doing with the National Alliance for Advanced Biofuels and Bioproducts consortium. The NAABB is studying over 575 strains of algae to determine which is best for lipid production.
Professor Richardson and his research team at Texas A&M have built Monte Carlo statistical models and looked at 10-year simulations of many algae-based biofuel technologies. Their research shows that most biofuel technology has negative return profiles and is unlikely to be profitable. Interestingly, Professor Richardson has done a preliminary evaluation of VG Energy’s novel biofuel technology and told us that it has a better than even odds of producing positive investor returns.
While further analysis needs to be done before drawing definitive conclusions on VG Energy’s biofuel technology, the preliminary results of both Dr. Sheehan and Professor Richardson are encouraging.
At this juncture, it is still difficult to say how big an impact VG Energy will have on the value of its parent, Viral Genetics. We think the best way to view VG Energy today is as a free out-of-the-money call option on Viral Genetics. Although Viral Genetics remains in development stages and trades today at just $0.046 per share, this compares to our base case IV estimate on Viral Genetics of $0.49. That said, there is clearly more potential for value creation for Viral Genetics in the future with a successful launch and profitable build-out of VG Energy.
[Disclaimer: Viral Genetics is a corporate research client of Research 2.0. We received compensation in exchange for providing on-going independent research coverage. We maintain our own research process, exercise full editorial control of all published content, and apply the same standards to Viral Genetics as we do to all companies we follow. Research 2.0 employees are governed by fair dealing and “client first” rules that are similar to compliance rules at broker/dealers and banks. For additional information about our sponsored research program, please visit our sponsored coverage page on the website. For additional information about Research 2.0 disclaimers, disclosures and employee policies please visit our legal page.]
- Biofuel From Algae Could Compete With Oil, Report Says (blogs.forbes.com)
- Algae biofuels for less than $40 a barrel? (venturebeat.com)
- Algae fuel crosses paths with Monsanto, cancer research (news.cnet.com)
It’s been a busy week for us in the online content space. Most of our research time was spent in the music space to support our work on Pandora which intends to do an IPO soon. (For more on Pandora see our Pandora Pre-IPO Preview over at IPO Candy. For more on the online music space see our Thought Leader Interview with Jeffrey Epstein and our recent update from DMFE.)
So while we were already in middle of the whole music business model debate along comes the New York Times content paywall. This has led to a spasm of posts about free versus paid content, speculation about how The Daily is doing, iTunes as a “gatekeeper” and all that. One thing the NYT has done is make it very complicated to understand what is free, what is paid and what the pricing is. It turns out it varies by device, type of access, whether you will accept having a pile of dried paper pulp sent to your door and which sections of the paper you want. (I’m not consumer marketing expert but I think major complexity regarding a news subscription is a bad starting point!)
Who cares? This payment mess is mostly a product of existing companies trying to apply old models to the new online medium. Nearly always a recipe for failure and future obscurity. What the exact slope of suffering is for the NYT is hard to predict but it certainly clears the way for new providers. The reason is the answer to our main question.
No money, no pay. Whether it’s news, music, healthcare or research the first test regarding qualified payments is ability to pay. Young teenagers and those without financial resources are not going to be paying – no matter what you do. They don’t have the money or the credit. So that means only people with money will be paying. Seems obvious but if that’s a small portion of your target market you have a problem. (Hello music industry!)
People who care deeply about content and/or convenience will pay. So there’s an audience, call it a niche, that will certainly pay because the product or service is so important or enjoyable for them. These are the opposite of casual users, these folks are eager paying consumers. Even if content is available for free with advertising included they are often willing to purchase the content to avoid the advertisements. Apple has done well in cultivating this market segment.
Businesses and companies pay. Although many have gotten quite stingy over the last decade. You probably can still get some publications and services reimbursed. Often companies manage these subscriptions via a service provider like Prenax. This doesn’t help the music or news folks much but it does in other areas.
Advertisers pay. Search engines can be included here too. The fact that the music and news organizations haven’t really figured out how to leverage advertising and other services to provide ongoing free access to their content is surprising. There’s a debate about whether “Internet radio” will be a service that could be entirely supported by advertising but it’s too early to know if it will work out. Pandora is leading the charge there.
Why the fight over “freemium?”
Everyone likes to make fun of the music and news industry. They deserve it in part by fighting against the “freemium” model as if it should somehow not apply to them. But it applies to everything because every product or service has a different level of utility with every consumer and every consumer has a different level of financial resources. Even companies at the very highest end of this market offer consumers these options. I can go into a Louis Vuitton store and enjoy their products as much as I like in the store. Of course if I want to enjoy one of my own I have to pay a hefty price. But now there are even companies that specialize in renting these high cost items for a day, a week or a month. So consumers are accustomed to having it their way. They are not going to be “retrained to pay” as the record companies like to say.
Of course established companies rarely see the obvious as well-documented by works like The Innovator’s Dilemma. If they did what would it look like? First of all music and news would be free, as long as you consume it on the terms provided and with advertising if appropriate. If you want that same content under your control (play a song whenever I want, see a news story without ads or embed it in my content) then the paid model comes into play.) Seems simple. You can enjoy the content at my site or by my rules and if you want it on your own you pay. (Rights holder still get paid but the number of executives, middle managers and offices might have to shrink quite a bit.)
How can you argue over this? People without money or ability will not pay. People who don’t care a good deal won’t pay. So pay only = niche.
Sized down – This matters to research.
As a research provider we’re often asked “what’s your business model?” Six years into it we still don’t have a pat reply. But we are still here so that tells us something. The arguments above apply to research too. Just because someone likes your research and is “interested” in it doesn’t mean they will or even should pay. So the first test is always who cares? In some cases it’s an institutional investor that is very active in the space you cover and uses your research to make better decisions. That means there is real ROI from your work. That’s one.
Sometimes firms with large platforms are willing to pay for high quality research content and this provides a form of channel revenue. One has to be careful here because many are looking for relatively low cost “filler” content which won’t pay well and will dilute your research brand. But when there is a good fit and the relationship will keep your research output in balance and not “trap” too much content outside of your platform, these can be good deals. That’s two.
Investment banks and public companies probably have the most acute need for investment research and are happy to pay for it. Investor clients often grumble about a the potential “conflict of interest” but there is nothing inherent in the model that prevents the production of independent research with a rigorous fact-based process at it’s foundation. In the end it serves all parties involved for this to be the case. That’s three.
I’m not sure advertising has a role in research business models although very popular analysts have been able to generate large amounts of traffic and use advertising and sponsorship as a business model. The deeper the research the fewer the updates so the high volume model won’t apply to most of us.
So in conclusion – Lots of people can’t or won’t pay, give them what you can for free or with advertising support. Then find those who will get the most value from the work and have the resources to pay something for it and focus on them. Finally give the crowd that is only casually interested now a way to convert easily to a paid relationship their interests in your work and offerings intensifies. Those percentages and pricing dictate your business model, make sure you’re right!
Sized up – This matters to healthcare and the US economy.
Forking into a discussion of the US healthcare system and the economy is tough to do on a Friday. But it’s related. They dysfunctional structure of the US system has made the cost too high for most people to pay and a burden for those companies that do pay for it. However it’s not a discretionary item. Without lowering costs the “market” for healthcare will get smaller and smaller. Can the US allow healthcare to be come a “niche” for only those able to pay for it? What’s the alternative?
This is part three of a longer note on internet content in general and Demand Media in particular. The full report can be downloaded with this link: Demand Media Crapification. Below is the section on DMD along with a link to our Intrinsic Valuation of $30.
Do you Quora?
A new kid on the block has captured the attention of alpha geeks and early adopters and has certainly entered the hype cycle as the “next big thing.” Quora starts with a focus on questions and answers, adds to it elements of social networking (like Twitter) plus a crowdsourced ranking mechanisms found in Slashdot and made popular by Digg. This sounds a little esoteric at first but it ends up being effective at turning online information and the energies and knowledge of the many into productive results.
The crux of Quora is that it allows users to determine what questions to ask, answer them, and then provoke the community to rank the best ones so they are at the top. In this way they combine elements of Wikipedia with Digg; however, the ability to follow topics and have networks of followers adds another dimension.
There are a few reasons Quora is proving more useful than other online networks, so they are worth a closer look:
Topical focus: Quora uses questions and answers to provide a framework for information sharing. Users can submit new questions as well as answers to existing ones. There is an approval filter on questions to guard against multiple instances of the same question and “junk” questions.
Notion of authority: Quora has been blessed with a very high level of initial user. For example, answers are from individuals who are clear authorities. It’s not unusual to see a founder or CEO of a company answering questions like “how did ABC company get their name?” But anyone can end up with the best answer to any question by dint of knowledge and their effort to express it.
Crowd filtering and ranking: Questions tend to elicit multiple answers, and in addition to authority the users vote for the answers they think best address the question. In this way, the best information “bubbles up” to the top of the list and silly or wrong answers are pushed out of focus. Over time this leads to an inventory of “right” answers to interesting and useful questions. This is a filtering mechanism that works very well.
Intersection with networks: You can “bring your network” to Quora by following people you already know and also start following new ones. The combination of following people and following questions leads to a more productive filter that still allows for discovery.
There are some other benefits that result from the Quora approach. The first is that people stop adding their 2 cents when it’s not needed. After a question has been addressed for a while, the best answer is right on top and is typically quite good. This helps prevent subsequent visitors from adding content that doesn’t improve the answer and instead encourages them to vote, comment, answer other questions or ask new ones.
Quora is also a good place to build your network and meet new people because it’s based on shared interests, knowledge and constructive interaction. In other words, it’s about the content that people generate more than the jobs they’ve had or people they know. LinkedIn takes the latter approach and is not nearly as effective.
Is Quora a flash in the pan? That’s a question that has some people worried because they enjoy the service so much. Part of what has made Quora special is the quality of the dialog and the fact that so far the company has been willing to forgo a business model. Will a huge increase in the number of active users result in a “dumbing down” or a “smartening up and broadening out” of the content? Quora does have a few mechanisms that may protect them from the adverse effects of a very large user base but these will need to be tested.
The other main risk for Quora comes from within. Users are building something that may be of great value and the company will want to monetize it to stay in business. Advertising is the most common path but doing so without jeopardizing the character, energy and quality of the site is a challenge. Right now the costs to run Quora are low and if they stay that way it may be possible to preserve the aspects that make the site special. Craigslist is an example of a site that was largely able to preserve their free and open model and only charge for specific things like job postings.
What can Google do?
There are some deep concerns about Google being able to address the shortcomings of their search results. The focus on speed and general answers for search may fail to capture enough semantic processing to deliver improved results.
Of course the folks at Google know all about the problems we have described here, and have myriad solutions they could apply. Technologies like instant search make it clear how deep their technology reservoir is. Google now finds itself facing the innovator’s dilemma.
Google has been disruptive by giving away valuable services “for free” since they could earn billions of dollars in advertising fees. Today that’s a huge and very profitable business for Google. If the path to continue to delight users happens to involve showing far fewer ads, is it one that Google can afford to take?
Based on recent statements, it sounds as if Google will make noise about improving results but is unlikely to do anything radical. As the market leader they can afford to move slowly, at least for now. However, there are a few fairly simple but powerful changes Google could implement to improve results:
User-defined site rankings: A simple way to provide positive and negative feedback on sites would make a big difference. A heavily bookmarked site generally has good content. Offering the opposite would be sensible. There are many sites for which I would check the box “never show search results from this site.” Google could make this easy.
Leverage social and professional networks: There are social and professional graphs emerging that also go a long way to defining some notion of authority or at least superior judgment. Google already can show me a search result that has been bookmarked by someone I’m following on Twitter. Ranking sites bookmarked or tweeted by people one follows would be a helpful option.
Penalize sites with high advertising content: This is crux of Google’s problem. Users want more content and less advertising. We’ve reached the point where pages have more ads than content and viewers are beginning to find other places to look. Google isn’t in danger yet but if they don’t do something about the advertising proportions of returned results they’ll lose share. It might take years, but once a decline starts it’s hard to stop. [Look how many years it took for Microsoft Internet Explorer to shrink from having the vast majority of market share to now less than 50% and falling.]
More collaborative filtering: Taking bookmarking and combining it with search and networks would allow Google to show users new sites in results lists that are more likely to fit the nature of the searcher. This would generally improve the quality of new sites being discovered.
Making enough changes to produce high quality results would could put a big dent in advertising revenues.
The race is on in terms of who will do the best job integrating social graphs and networks into filtering information and search results. One likely outcome is that search traffic will spread out more evenly among more players and be less concentrated in Google. It’s already more natural to search Yelp if you are looking for restaurant reviews, Amazon if you want to buy a book, eBay if you want to buy a used motorcycle, Foodily if you want to find recipes, and Craigslist if you are looking for an apartment. This trend will continue and erode some of the power Google has in the market.
Time for a New Search Engine
Internet content management will be an unending cycle of massive undifferentiated expansion followed by the tools and attenuation need to turn it into real intelligence. Recognizing that it’s a cycle scientifically and realizing that business models end up getting embedded into the existing players means that starting a new search engine company is a good idea.
However, “search engine” is probably not the right term and should be replaced with something more active like “content finder” or, more charmingly, “librarian.”
As noted, users are already searching on individual sites that tend to offer either the general content they like (as in National Public Radio or The Economist) or better answers to specific questions (like Yelp for restaurants and Amazon for books.)
There’s a “curation” craze on right now that should die out and be replaced by intelligence based on actions (bookmarks) and relationships (social networks) that can scale more effectively.
This is a huge global market that offers extremely high returns on invested capital. Why aren’t we seeing more investment in better information finders? We’ve seen a few like Blekko and Wolfram but there should be more. It turns out it only costs about $25M to create a fully functioning, scalable search engine. Adding some intelligence to the results and offering improved results would create a large multiple of value on that investment.
There are also some existing companies that deserve a second look. For example, a search property like InfoSpace (INSP – $8.54) has a small market share but enough of a presence to do something interesting in this market and improve their fortunes. Other companies like Oracle, IBM and HP are in a strong position to create technology and online services that rival Google. We’re due for a little disruption in search.
- How Not To Be Influential? Quora Spam On Mechanical Turk (techcrunch.com)
- Is Quora Worth the Hype? (gigaom.com)
- Quora, Quora, Quora…but why? (ragtag.wordpress.com)
This is part two of a longer note on internet content in general and Demand Media in particular. The full report can be downloaded with this link: Demand Media Crapification. Below is the section on DMD along with a link to our Intrinsic Valuation of $30.
The launch of the Demand Media IPO provides a detailed look at the massive machine whose purpose is to make money by serving content with a high affinity for advertisers and clicking consumers. First they figure out what people are searching for, intersect that with what advertisers are interested in, and then use a freelance team of thousands of content creators to write articles that will rank highly in search results and draw clicks on paid advertising links.
Although the company takes pains to demonstrate that they do, in fact, produce some decent content that provides complete and unique answers to some queries (like “how to draw a basket of fruit”), the vast majority is basically a page with a blurb of text surrounded by layers of advertising.
Fundamentally, Demand Media is an upgraded, well-capitalized and professionally managed version of other content farms. They are not trying to fool anyone with their statement: “Our Mission is to fulfill the world’s demand for commercially valuable content” (emphasis added). Demand Media brings more technology and resources to this enterprise than the myriad “small time spammers” out there but, in the end, they exist only to push out content that gets clicks. The content is cursory, sometimes cut and pasted from elsewhere, and all the time buried in piles of advertising. It’s certainly not the rich, high quality content users want.
Demand Media is a giant sensing and production engine. They collect and analyze a huge amount of data and then use their production engine, DemandStudios, to publish 4,000 “articles” per day from over 10,000 writers. The company lists articles like “how to become a stockbroker” or “how to look sexy in a bathing suit” that can be written in exchange for a $15 fee. Combine inane questions with uninformed articles by the masses and you have a recipe for a pile of insipid web pages. The last step insert ads on top, both sides, the bottom, and weaves them into the text to complete the exercise.
Of course, an elitist view of content can lead to missing some great investments. YouTube had plenty of garbage on it to start with. Many blogs and instant messaging traffic streams can be just as content-light as Demand Media sites. There are also companies like I Can Has Cheezburger, which has been extremely successful by dealing unabashedly with sites that provide silly content. Their sites comprise a vast network of distracting and useless sites like LOLcats. There’s real money to be made online by giving people fun, distracting or entertaining content.
Unlike these other companies, however, Demand Media is not trying to entertain but instead to inform and do so with the sole intent of driving advertising clicks. This creates what can only be called spam.
Uninformed search algorithms like Google’s will return enough of these results to fill the first page or two of a screen. Most of the time it’s not obvious to users that the results are spam until they click on them. Google sees this as “Another happy user clicks on this link. We’re the best!”
Whether one is happy about what Demand Media is doing is beside the point from an investment perspective. Similar arguments were made concerning QuinStreet (QNST – $23) after their IPO, but in our view a year ago the shares were undervalued at $13. Demand Media has an attractive business even though we think innovations in search technologies may make parts of it harder to monetize. Our Intrinsic Valuation model for DMD suggests a $30 stock price.
QuinStreet took time to prove their model to investors. After a solid IPO early in 2010, the shares reached $17 only to fall back to $10 by the summer. Subsequently, however, the company has executed on their strategy and now the stock is more in line with their IV at $23. Last year we saw similar stock dynamics for Ancestry.com and Higher One Holdings.
In order to shed more light on what will help improve information content on the web, our next post will look at Quora, another player in the online content space that has been turning heads within the “tech-noscenti” and is beginning to enter the mainstream.
Although I started out to write a report on Demand Media this report ended up being more about the online content problem, Google, Quora and the prospects for new search engines. The full report (PDF) is available here: Demand Media Crapification.
The report is a bit long for a single email or blog post so over the next few days I’ll post the three sections of content in order. The first section deals with what’s behind an alarming decline in the general content returned from the Internet.
After 15,000 hours of hands-on research it’s clear that most of the easily accessed Internet content, particularly what is returned from Google search results, is crap. Although generally acknowledged by people in the hard-core knowledge worker segment, this viewpoint is now becoming main-stream.
So how did things get this bad? While advertising may be the “root of all evil,” how deep it goes depends on the conditions. The number and size of the forces at work here are prodigious. Here are some of the more technical and content-related forces:
“Search Engine Optimization,” or SEO, takes advantage of the algorithms Google uses to game the system. By relying on computers to rank search results, we invite the endless contest between those that find ways to outsmart the algorithms and the search engines trying to return valuable information. Google sometimes make changes to their algorithms in an attempt to foil current strategies but at the same time opens up other loopholes for exploiters to use. Another negative side effect is that these changes sometimes upset search rankings that were previously good in what amounts to a big reshuffling. Google has much better algorithms for returning search results but we are unlikely to see them implemented—more on that later.
Dumb Clicks: Generally, the more clicks some-thing gets the higher it ranks. It doesn’t matter if the clicks were of the “fooled you, there’s no real content here” variety. (See the attached example of a common top-ranked page.) Because people tend to click on something near the top of the results this crap keeps getting clicks. Even a senior search engineer at Google observing user behavior said: “How can you not see that this is a spam page and click on it?!” Time only makes this pattern worse as this type of content “crowds out” everything else.
Tricksters & Cheap Shots: One example of this category is alternativeto.net. In this case, someone must have noticed a popular search technique of using “alternative to” as in “alternative to Photoshop.” Suddenly most queries put in this way returned crappy results full of ads rather than useful information. There is a legion of mostly small-time operators that use domain misspellings and other simple ploys to capture traffic and a few clicks on “parked” domains. This class of problem is fairly easy to solve but still pops up from time to time again like a disease you can’t quite eradicate.
Content Farms: This is where players like Associated Content (acquired by Yahoo), About.com and Demand Media take the game to a new level. Content farms are harder to counter because they invest some money in “real” content to insert themselves into search results. We’ll save the analysis for the following section on Demand Media. Content farms may seem beneficial compared to the SEO villains and tricksters but that’s what makes them insidious.
Syndication: Many sites are so desperate for con-tent they are willing to syndicate just about any-thing. Because they are often following some of the same SEO strategies and now provide even more links to the original content source, the ranking and ubiquity of a lousy piece of content solidifies like a plaque to block normal information flow.
Filter Failure: “Leakage” is when something that is supposed to protect us from garbage content begins to break down. Even paid-for services like CapitalIQ rely on automated filtering and eventually get penetrated by spam content that corrupts the feed. This is just another factor suggesting that effective filters in the future will require some level of human validation even if it also is automated. Some of those methods are described in the final section. (See this related video from Clay Shirky.)
Two other more anthropological factors play a major role in the drive to lower quality content:
Recency bias: Good content has long been pushed out of focus by inferior versions be-cause they are newer. This is true in long-standing categories like movies and books. While freshness has a value it ends up being counterproductive in many cases and results in a “reinventing of the wheel” in the case of factual, well reasoned and documented content. Good content is often not “sticky,” fades away quickly, and becomes hard if not impossible to find. Wikipedia is one example where this is not the case which is why so many people search it explicitly.
All clicks are not created equally: There’s a strong inverse relationship between intelligence / expertise / judgment / insight and the tendency to click. On Google “a click is a click,” so content gets driven to the lowest common denominator. Steve Jobs probably makes fewer, more informed clicks and online decisions than Paris Hilton—but Paris and her ilk are what drive content rankings.
Solving some of these problems is actually easier than it would first appear, because harnessing the power of human behavior and adding more available information to the analysis can lead to excellent results. Next we’ll look specifically at Demand Media, the gorilla of the content farms.
- Why Google and Demand Media Are Headed For a Showdown (gigaom.com)
- Blekko Bans Content Farms Like Demand Media’s eHow From Its Search Results (techcrunch.com)
- Search Still Sucks (techcrunch.com)