Each year, investors sink $2 million in U.S. Internet companies per every million dollars of total online advertising addressable opportunity: How can we make the Web profitable beyond online advertising?

The venture capital industry invested more than $125 billion in Internet-related companies between 1995 and 2012, and since just five companies (Google, Facebook, Yahoo, Microsoft and AOL) command two-thirds of the total online advertising revenue.

Even if we assume a healthy 25 percent net profit in Internet companies after traffic acquisition costs (OPEX and CAPEX) advertising as a monetization mechanism would not pay for all the money spent by corporations and venture capital in that period, regardless of the size of the online audiences built (See: Internet companies and the billion money drain).

At some point, display advertising becomes intrusive and as we move to mobile devices, there are many other issues related to mobile web monetization challenges.

The continuous price erosion and engagement challenges are evident when despite the poor user experience, Yahoo! adds more display ad units per page, Facebook serves up to 20 ads per page, and LinkedIn follows a trend with more than 10 ads per page in addition to their job posting related ads.

Beyond online advertising, there are three key areas of potential revenue for Internet companies. “Knowledge Monetization” is at the center of each one:

  1. Lead generation: $100 billion+
  2. Marketplaces and micro-transactions for content and digital goods.
  3. Consumerization of the Enterprise: $1.1 trillion.

Lead Generation for Small Businesses

More than $120 billion is spent annually in non-online advertising mechanisms in the U.S., and a portion of that will continue to migrate online as new methods beyond display advertising and search are devised. This is particularly important in the SMB segment where more than 27 million small businesses in the U.S. rely on basic lead-generation mechanisms while they continue to expand their online presence.

Small businesses spend 10x more money on promoting their business than on acquiring new technology, hence many companies (from Microsoft, Google, American Express, and Facebook to many new ventures such as Groupon and Living Social) chase the small business segment, aiming at their promotional budget of more than $100 billion per year rather than at their IT budget.

Marketplaces and micro-transactions

The potential of marketplaces and digital goods, where Apple and Amazon are clear leaders with over 400 million active customers with a credit card on file, was discussed in my post about Apple reinventing the profitable web. There is room for many more low-friction marketplaces for digital goods and services monetized via micro-transactions, which have proven to be a valid monetization mechanism for this new “appified” world.

This is particularly key in the mobile web as paid content revenue dominates the mobile web. Only 5 percent of the global mobile Internet revenues come from advertising while 73 percent comes from eCommerce and 22 percent from paid services. Fifty four percent is paid digital content: apps, ringtones, music, video, etc. The role of micro transactions is key in the mobile web.

Consumerization of the Enterprise

Today the average smartphone user has access to better and more relevant software solutions than the average knowledge worker subject to legacy systems managed by an IT department. Enterprise ready consumer-friendly solutions where corporations pay the transaction fees on behalf of their employees, is another important trend to focus on.

Google Apps, Salesforce.com, Hosted Exchange, and SharePoint (Office 365) are good examples of the potential for monetizing the Web by tapping into the $1.1 trillion spent worldwide on enterprise software and IT services.

Knowledge Monetization

To increase the efficiency of any marketing mechanism one needs to target the potential customer with a relevant message at the right time, offering an appropriate product that is priced just right from the perceived value point of view. In other words, one needs knowledge about the potential customer.

Luis Salazar

Online search offered a major breakthrough in the context of targeting based on knowledge and resulted in search advertising taking almost 50 percent of the total $39 billion in online ad spending in the U.S. in 2012, and it is expected to retain that percentage of market share for the next five years.

Google alone captures more than 45 percent of online advertising spending thanks to its capacity to offer small businesses and corporations search and display advertising targeting at scale. But as discussed above and in previous posts, advertising spending is not enough to keep the “long tail” of Internet companies funded over the past 10 years up and running in a profitable way.

Whether we want to serve a targeted and relevant advertisement at the best possible location, reach the consumer through a mobile device, devise the best possible app to enable a secure transaction, realize the value of a lead-generation campaign online, or enable the best possible tool for asynchronous team collaboration, we need access to end-user knowledge aggregated in real time.

This is probably evident today, yet most new startup and corporate ventures are still looking at the past: display and search advertising. Or even worse, they are still following the mantra of the early 2000s of “build a large audience fast and money will come.”

End-user behavior knowledge is available but not necessarily aggregated. And doing so is not an easy task.

Building large audiences for a portal like Yahoo! or a search engine like Google or the many bankrupted Internet companies that had their 15 minutes of glory was relatively easy in a low friction world of free models. And while social indeed got traction and two-thirds of Internet users in the U.S. are members of a social network (90 perceent of them on Facebook), even Facebook is struggling to monetize that traffic in an efficient way now that over one-third of their user base is mobile only and exposed to no ads.

Knowledge about consumers comes from different sources, and many orthogonal models when combined can result in a more profitable and sustainable Internet. “Search” is to Google what “Content views” is to Yahoo! or what “Social graph interactions” is to Facebook and Twitter or what “online and offline transactions” are to PayPal or American Express or what “Communications patterns” are to Skype or “Online gaming” is to Xbox or “App usage” is to Apple.

Beyond display advertising, beyond search advertising, beyond micro-transactions of digital goods, at the aggregated level, we find the profitable Web through knowledge monetization.

Luis J. Salazar serves as an investing and executive adviser to technology and digital media companies. You can follow his blog at NakedCMO and on Twitter @NakedCMO.

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  • LauraP77

    Amazing, but until Facebook, Microsoft, Google and others stop paying stupid money for acquisitions like Instagram, entrepreneurs and venture capital will keep on investing/gambling on internet companies that generate ZERO profit… years later they will write off $6b here, $1b over there… who is counting after all?

  • guest

    “Today the average smartphone user has access to better and more relevant
    software solutions than the average knowledge worker subject to legacy systems
    managed by an IT department.”
    A large generalization with no supporting evidence whatsoever. The average knowledge worker these days has access to not only the most relevant internal systems, but also everything available on the web via a browser. Not sure how being able to run Angry Birds, for example, equals more relevant than that.

    • George

      Well, I kind of agree as at work I am stuck with Windows XP, Office 2000 or so and a very old ERP system and on my smartphone I have access to more processing power, some great financial and POS apps to manage our family small business (Angry Birds is not a productivity app on my book, but I could not run that, as a native app, on my old PC at work!)

  • Charlene Fox

    The web in tech media has always been about the audience and the associated ad revenue.
    The future belongs to the utility of the web. Using the internet as an information transport medium for applications that drive real business and social value.
    The monetization of the web for applications is unlimited.

  • http://www.blockbeta.com Robbin Block

    I’ve worked with many Web startups, particularly when they’re first conceptualizing their business models. Many believe they’ll monetize through advertising, but it’s been known for a long time that it’s not likely to be strong enough to sustain the business. No eyeballs, no revenue. Your article clearly points out how this is somewhat of a pipe dream and the business is more likely to make it on the exit strategy, if at all.

    I’d like to address the lead generation for small business aspect of your article though.

    When I advise clients, I often get them to think about building instrinsic value into the model. That is, the revenue derived from the functionality or service provided by the site. Lead generation is one example of this idea, but it’s not the only opportunity for intrinsic value. For example, I worked with a startup that wanted to bring together tennis players for games. Players looking for partners in their own locality could easily find friends to play with, so the service wouldn’t provide much value. However, travelers who wouldn’t know anyone locally to play with when they were, say, on a business trip, might need more assistance and therefore would be more willing to pay. And a bonus was that they were less price sensitive than others.

    The process for finding intrinsic value is to outline the benefits available to the user, and then determine which of these are most valuable. This is an opportunity to charge certain types of users for certain features, yet still be able to build a user base.

    It’s also interesting to note your comments about small businesses spending 10x more money on their promotions than on IT. This is an apples to oranges comparison. I would suggest that most small businesses (and of course the definition of small depends on whom you ask) don’t even have IT departments, and they’re much more focused on top line revenue generation than on the supporting infrastructure. Your number may be exaggerated or non-existent, but it’s still a relevant if well-worn truth.

  • George Leuderman

    Online advertising is a suckers game. at $2 eCPM it takes billions of impressions to get to decent returns. As the author points out, it is still a very small market and dominated by big players. Actually it seems to be a recycling. The revenue that AOL, YAhoo! or Myspace used to generate is now captured by Facebook which by the way is so polluted with ads now that the experience is borderline useless. One just needs to look at Mary Meeker Internet trends decks for the past 5 years and one can see how all portals, including Google home page peaked in traffic as the audience migrated to YouTube (smart move from Google) or to Facebook. The suckers are not the entrepreneurs as entrepreneurs at least get a salary regardless of the fate of the company, the suckers are the venture capitalists wasting money on stupid internet companies. The losers are the great ventures that are NOT funded because some (not all) investors like to chase the easy money of a potential Instagram exit (that years later will be as valuable as Digg) instead of funding well thought companies with valid business models

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