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1-1
internet
business models
text and cases
tom eisenmann
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-2
Chapter One
Access Provider Lecture
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-3
Get Big Fast
• Accelerated investment in customer acquisition
• Premise: first-mover advantage
• Tactics
– Massive marketing campaigns
– Giveaways, subsidies, deep discounts
– Mergers
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-4
Get Big Fast When...
1. Businesses exhibit “Winner-Take-All” structural
characteristics
– Strong network effects, scale economies, and customer
retention rates
– In Netspeak: viral, scalable, sticky!
2. Competitive risks are “reasonable”
– Avoid full-frontal assault on entrenched leader
– Avoid wars of escalation and attrition
3. Lifetime value of a customer is positive
4. Capital markets reward first movers (or you have cash on
hand)
– Euphoria, overtrading, revulsion
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-5
Get It Right First When...
1. Ensuring reliability is crucial to customers
2. Learning-by-doing is important
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-6
GBF Payoff for Access Providers
•
•
•
•
TCI
Teledesic
Geocast
EarthLink
– 48% of 2000 revenue on sales and marketing
– 1.7 million subs B.O.Y. ‘99  4.8 million B.O.Y. ‘01
– Stock price down 91%
• NetZero stock price down 96% from 52-week
high
• AOL stock price down 10%
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-7
Network Effects
• Connectivity-related
– Communications: chat, IM, videoconference, IP phone
– Collaboration: document sharing, calendars
– Community-generated: multi-player games, photos,
message boards
– Commerce: auctions, exchanges, classifieds, bill
payment, wallets, loyalty programs
• Software-supply related
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-8
Strength of Network Effect
• Proprietary networks (walled gardens)
– Joint: boost industry demand
– Risk: stall
• Sensitivity to aggregate participation rates
Probability of Prospect
Joining Network
Probability of Prospect
Joining Network
% of Prospect’s Existing Offline Partners
Already Active in Online Network
McGraw-Hill/Irwin
% of Prospect’s Existing Offline Partners
Already Active in Online Network
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-9
Comparison
Scale
Economies
Case
TCI
Teledesic
Strength of
Network Effects
Weak?
?
Comments
 Repurposed content for ITV
 Proprietary communications (chat,
IM, videophone)
 Hard to predict
Geocast
Strong
 Strong software-supply effect
EarthLink
None
 None apparent
AOL
McGraw-Hill/Irwin
Very strong
 IM, chat
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-10
Scale Economies
• Variable contribution margin
– 80% of revenue for content provider, portal, market
maker
– 20% of revenue for online retailer
– 34% of revenue for ISP
• ISP Economics
– Revenue
– Variable costs
$20.00
13.20
• customer support
• network (½ POPs; ½ leased lines)
McGraw-Hill/Irwin
5.80
7.40
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-11
Retention
• Network effects
• Differentiation (sustainable??)
– Skills/execution
– Different tastes
• Switching costs
– Hassles opening/closing accounts – Reintegration of information systems
– Forfeiture on transaction profile
– Retraining
– Risk of disruption
– Cost of data re-entry
• ISP churn: 4% per month, so keep 61.3% of customers after
one year
– Average life of customer relationship =
1 where x = annual
retention rate
1 x
– For ISPs,
McGraw-Hill/Irwin
1 = 2.6 years
1  .61
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.
1-12
Lifetime Value of ISP Customer
• Variable contribution margin =
[($20-13.20) per month  12] = $81.60/year
• 2.6 years @ 10%  NPV is $134
• For EarthLink, average customer
acquisition cost for 2001 projected to be
$168 (down from $200 in late 2000!)
• So, LVC is negative!
McGraw-Hill/Irwin
© 2002 The McGraw-Hill Companies, Inc., All Rights Reserved.