In Silicon Valley, every startup fears than an
established brand will one day acquire a rival or build a similar offering and instantly become
the industry gorilla. When it comes to advertising, Google, which claims not only both the
largest ad network and number of relationships with advertisers, but the most automated and
profitable system on the Internet, is the most obvious example of this phenomenon. Ditto for
Oracle and Cisco in the enterprise software space and eBay and Amazon in e-commerce.
Yet while fear of the 800-pound gorilla rightfully looms, upstart ad ventures can take heart in
mounting evidence that suggests online ad categories are not cornered by deep-pocketed brands,
but by new market entrants. This has held true across several different categories, including
Google in search, DoubleClick in ad serving, Advertising.com in display, NexTag in CPA,
RightMedia in exchanges and AdMob in mobile. Each
of these companies emerged from humble beginnings to become billion-dollar businesses, and did so
in the face of large, incumbent competitors. Additionally, a slew of other firms exited at
valuations in the hundreds of millions of dollars, among them Overture (search), Atlas (ad
serving), ValueClick (display) and Quattro (mobile), to name just a few.
So, what makes online ad categories so likely to be won by new entrants? History sheds some
light:
First, on an economic front, online ad businesses exhibit clear network effects that ultimately
preclude incumbents from contending in the category. When Advertising.com began to scale its
network in the early 2000s, two trends emerged. As the company generated more leads for
advertisers, the advertisers were willing to pay more per lead, and as it bought more inventory
from publishers, they become more willing to accept lower per-impression CPMs. Per-impression
ad-serving costs for DoubleClick and per-impression publisher onboarding costs for AdMob
demonstrate similar network benefits. Each of these examples make clear that in online ad
categories, new entrants grow so quickly that they effectively create a market dynamic in which
slower-moving and less nimble incumbents simply can’t compete.
Second, on an innovation front, the classic innovator’s dilemma is unusually powerful in
new ad categories because incumbents are hampered by legacy business models and technology
infrastructure developed during a prior market development phase. When NexTag entered the
education and finance lead-generation business, it brought with it a new model for buying traffic
and valuing it on a per-impression basis based on advanced algorithms. Within a few years,
NexTag’s internal media buying tools were so automated and accurate compared to the
company’s predecessors that it was able to far out-pay for good inventory
— and avoid paying for bad inventory at all. NexTag’s suite of media
technologies put it at an advantage as the category grew and the cost of inventory rose, further
enabling it to pull away from the pack and eventually exit for more than $1 billion. Incumbents
often underestimate the importance of iterating early in a market, which means that as a category
matures and the price of learning goes up, they find themselves falling behind.
Third, relationships with key inventory sources matter. On the Internet, there are millions of
inventory sources, but only a few that can change the dynamics of the category. In search, it was
the relationship that Google developed to monetize Yahoo search results. In display, it was
Advertising.com’s entrenched relationship with the AIM client that enabled it to generate
millions of dollars in profit from view-through conversions. And in exchanges it was the Yahoo
partnership that solidified RightMedia as the No. 1 ad exchange. Incumbents seem more willing to
give huge inventory opportunities to small, up-and-coming companies than they are to building out
solutions internally. Such tight-knit relationships ensure the success of new entrants across the
board.
The final lesson history has taught us is that
focus leads to superior execution. Perhaps the least recognized but most valuable asset new
entrants have is focus. In their respective times, Google was the best search engine, RightMedia
was the best ad exchange and AdMob was the best mobile ad platform. Yes, incumbents often build a
better product down the line (DoubleClick’s Ad Exchange is one example), but by that point
the new entrant has already exited, as RightMedia did for $680 million. Incumbents
know this fact implicitly, so it’s imperative that startups invest in and preserve their
focus as they continue to grow.
The next generation of online ad categories is already repeating history. The key for investors
and entrepreneurs is to identify which areas are going to be categories, not features, and get
involved with them early.
Tod M. Sacerdoti is the CEO and co-founder of BrightRoll; follow him on Twitter at
http://twitter.com/todsacerdoti. Disclosure: Brightroll is backed by True Ventures, a venture
capital firm that is an investor in the parent company of this blog, Giga Omni Media. Om Malik,
founder of Giga Omni Media, is also a venture partner at True.
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