*note: Last week I wrote my first post for the Superfluid blog. Going forward, I will be posting over there once a week. I encourage those readers interested in alternative currency and P2P exchange will check it out.
How much monetization is enough?
This is the question of our day, showing up in numerous different forms. In some forms it comes across as a normative question, “Do CEOs deserve the exorbitant salaries they earn?”. If you prefer, insert “bankers” or your personal favorite demonized profession in place of CEOs.
As technology allows amatuer enthusiasts to do more and more free we face a steady stream of new versions of this question. Do creative professionals inherently deserve a minimum rate for their work (read: Should the law favor IP monetization)? Does a society need a professional (read: monetized) class of journalists?
Though the debate is likely a lost cause as regards dying industries like traditional recording and journalism, it is more pertinent in domains that are likely to remain fixtures for some time to come. Should a start-up monetize early or grow it’s user base first? Should a blog be a business? How much content should you give away for free and at what point is it reasonable to erect the freemium paywall?
Shades of this question even appear in seemingly unrelated debates. Much of the current controversy related to the value of higher education ultimately hinges on whether you view education as a financial investment or an intrinsic reward. On one side of the debate are people arguing that higher education is a bubble and no longer justifies its cost. On the other side are people who insist that the value of education shouldn’t be judged in terms of financial rewards. Ultimately these two sides differ in their answers to the question: “To what degree should you monetize your education?”.
The current trend is clearly towards less monetization. First I want to point out one underappreciated driver of this trend. Then we will examine the dominant monetization strategy that has arisen in response.
Friction and Asymmetry
In a recent blog post Alan Rosenblith outlined Three Types of Economic Interaction:
You’ll do that (force/coercion)
I’ll do this IF you’ll do that (symmetric transaction)
I’ll do this
Depending on the context, the third type might be called a gift, or intrinsically motivated production, or an asymmetric exchange. The key point for our purposes is that this third type is frictionless. Alan explains:
Gone are any of the inefficiencies of force, or of haggling out a deal.
When people share common goals, reciprocity just gets in the way.
Here he means reciprocity in the sense of a negotiated or enforced transaction. The need for negotiation or formal transaction is a significant source of friction that discourages value exchange. The friction comes not only from the money required in the transaction but also in the need to transact in the first place. Clay Shirky nailed this explanation all the way back in 2003, explaining why micropayments don’t work:
The people pushing micropayments believe that the dollar cost of goods is the thing most responsible for deflecting readers from buying content, and that a reduction in price to micropayment levels will allow creators to begin charging for their work without deflecting readers.
This strategy doesn’t work, because the act of buying anything, even if the price is very small, creates what Nick Szabo calls mental transaction costs, the energy required to decide whether something is worth buying or not, regardless of price.
Worse, beneath a certain threshold, mental transaction costs actually rise, a phenomenon is especially significant for information goods. It’s easy to think a newspaper is worth a dollar, but is each article worth half a penny? Is each word worth a thousandth of a penny? A newspaper, exposed to the logic of micropayments, becomes impossible to value.
Free is on the rise because it eliminates this friction. It is not just that people don’t like spending money. People don’t like being forced to debate whether they should spend money. This is the same feeling you get when you enter a car dealership or a similar high-pressure sales environment…we feel uncomfortable being forced to say, “I’m just looking”.
In a fast-moving economy, frictionless exchanges are vastly more efficient and more appealing to consumers and users of all sorts. This state of affairs leads directly to the dominant business model for internet businesses…
Grow First, Monetize Later
Grow first, monetize later has become the default strategy for large social networks, single author blogs, leading content destinations, freemium service businesses, and internet ventures of nearly every other sort. The goal in nearly all cases is to create some degree of user lock-in. Once users come to rely on a given service the friction described in the previous section is presumed to be less of a deterrent as users develop a sense of gratitude, loyalty, or dependence.
There is quite a bit of sense to this model. Creating a worthwhile product requires significant investment of time and money. If entrepreneurs succeed in creating a valued product then eventually they deserve to be rewarded. Moreover, honest consumers should presumably want to reward creators, both as compensation and as support for future value creation.
The problem with this model is that the very existence of user lock-in creates a moral hazard. Time and time again, businesses that succeed with this strategy proceed to shift towards the opposite extreme and attempt to exploit their dominant position. This is what Sebastien Paquet referred to in a comment as the “milking” phase.
One prominent example, Apple was just recently forced to backpedal on app store subscription rules because some prominent publishers were leaving the app store platform altogether. And this temptation is not restricted to industry dominating bohemoths. I have witnessed dozens of high quality blogs become cheap profit-maximizing content marketing businesses as soon as they gain popularity. Products like Pandora, popular but hardly dominant, are increasingly plastered with advertisements as they enter the milking phase (Pandora just IPO’d at a valuation of $2.6 billion).
I do not bring this up to demonize profit motive, but instead to point out that the milking phase is destructive. In the large majority of cases, products become worse once they enter the milking phase. The quality of the early product allows these companies some room to run, but the focus on profits becomes unsustainable and eventually drives users away. We are witnessing this currently with Facebook, which was reported today to be losing US users. Though Facebook will almost certainly maintain it’s position for some time to come, it’s focus has clearly shifted away from features that benefit users and towards features that maximize revenue…and to the user’s detriment.
So, How Much Monetization is Enough?
Ultimately I return to the question I started with. When revenue opportunities are divorced from any obvious direct costs, how does a company know when monetization has gone far enough? I can’t claim to offer any obvious solution. However, there are counter-examples we can look to that have avoided the milking phase and enjoyed remarkable longevity as a result. Craigslist is one example of such a company at the far opposite extreme, surviving virtually unchanged for over a decade.
What examples have you seen, positive or negative? Who strikes this balance perfectly?