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"How will they make money?" is the wrong question, by Josh Elman

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Alyson Shontell summarizes this article by Josh Elman on Medium:

When consumer startups like Foursquare, Snapchat and Instagram raise millions of dollars without generating much (or any) revenue, people tend to flip out.

"But they don't make money! How will they ever make money?!" critics want to know.

If you've ever wondered that, Greylock Principal Josh Elman says you've been demanding an answer to the wrong question.

"The primary challenge with building a large consumer company is not 'how will you make money,' but 'how do you get to be a long-standing durable network and define a new set of behaviors or verbs?'” Elman writes on Medium.

In addition, he asks the following four questions to make sure a startup isn't just a "flash-in-the-pan":

  1. Is there a new behavior here that you can see 100M+ people doing?
  2. Is the product evolving in a way where people are getting more and more engaged and committed over time?
  3. Will the growth be sustainable?
  4. If the product succeeds at scale, can you monetize the key behaviors?

"If you believe that the behavior can be big, and can grow big, then you’ve answered the biggest questions," writes Elman. "But once you have that, it is a good idea to gut check whether at scale there will be enough of the primary use case and behavior that can be monetized in a meaningful way."

For Josh question 1 above, there are no new behaviors that 100 million people will do.

All 100 million-person products come down to: search for something, share something, read something, watch something, or buy something.

Josh likes verbs:

One way I like to think about this is whether there is a default “verb” that is changing the way people think about the world. Five years ago, we were not a world of sharers, but Facebook changed that. Now, when we see an interesting link or picture, for many people, the first instinct is to “share” it with friends. Tweet, Snap, Connect, Friend, Pin, Check-in — all are on that path of changing behavior.

He says the real question with "Snap" is whether it will stick.

Which is interesting to say because Tumblr definitely had stickiness and yet didn't monetize well.

Jim Edwards adds:

Greylock Principal Josh Elman recently said that startups don't need to know how they'll make money as long as they're making an awesome product with more than 100 million users.

This is an oft-heard motto in the tech and startup world. Not just among founders, but their fans and users too. Suggest that a hot new app like Instagram or Snapchat should fund itself with advertising and you'll see online protests, and people talking about "selling out."

To be fair to Elman, that's not quite his position — he's ultimately interested in the monetization of 100 million users, not simply gathering them onto a platform.

Jim Edwards points out that a lot of the hottest startups turn their nose on advertising:

Look at some recent examples of startups that were were too cool to make money:

  • Instagram, acquired by Facebook for $1 billion despite having zero revenues.
  • Tumblr, acquired by Yahoo for $1.1 billion despite having less than $13 million in revenues.
  • OMGPop, acquired by Zynga for $210 million, and Zynga never reported meaningful revenue from the buy.
  • Snapchat is valued at ~$1 billion, if reports of its recent $100 million fundraising-round are true. It has no revenues.
  • Waze, acquired by Google for $1.1 billion, despite having no revenues.

The best example is Tumblr founder David Karp, who just sold his startup for $1.1 billion. Back in 2010, he said, "We're pretty opposed to advertising. It really turns our stomachs."

This was a sign of his inexperience as a business person. He was only 23 when he said it. We all make mistakes.

In May this year, he sang the opposite tune. On the day of Yahoo's acquisition of his company, Karp's new boss, CEO Marissa Mayer, said she made the move in part because of the advertising opportunity. A day later, Karp also said it was about the advertising. Tumblr had been working on ramping up its ad offerings for months prior, in fact, and was showing an ad sales pitch deck around town.

The single most successful business in the history of the Internet, Google, makes the lion's share of its money from targeted advertising.

Jim Edwards says that founders should accept that advertising is the business model of the Internet:

In fact, several "cool" tech companies have joined Tumblr and Facebook with a new, intense focus on raising revenues, mostly through advertising.

So the next time you hear a startup founder talking about achieving "scale," or delighting users, or making a really cool product — and who then dodges the question about how they're going to make money with some blather about being backed by "patient capital" — note that this is a founder who is a rung or two below where he or she needs to be.

He makes some compelling points.

Especially about why Facebook rolled out hashtags.

Well. If you have an advertising-based business, or a potentially advertising-based business, then "how will they make money" is indeed not the right question to ask. This is because money isn't an option until you build an audience. So until you've built an audience, the *only* question to ask is "how will they build an audience?"

But for the sizable chunk of web and mobile businesses that cannot or should not be monetized via advertising, the question of "how will they make money" is valid.

True dat.

I think Elman's article is only interested in websites that can attract 100 million users.

Which frankly seems like the only thing Jim Edwards' article is interested in, too.

But you're right, there's plenty of legit businesses that have far fewer than 100 million users.