I was at an event the other day in San Francisco and ran into a friend. He’s running a business many of you have heard of. We got to talking, and early on he said “I’m never doing an advertising business again!” My gut reaction: “no kidding”. Then I heard it again from another friend just this weekend. So I thought I might dive into why entrepreneurs running more mature advertising businesses often have this reaction.
Building an advertising-based business from scratch is hard. Even more so if it’s based on brand advertisers. Yet entrepreneurs are often lured into building one. Why? Because we build products we’re passionate about, and only later realize that the best way to monetize them is to sell access to the user bases we’ve amassed. Not sure if that’s you? Well – if you plan to amass a ton of users and sell their presence in some way, welcome to the ball game. Facebook, Pinterest and Twitter all fall into this bucket, as did Meebo and thousands of others.
Why so hard?
1. Audience size
Advertisers need scale. Big, big scale. Imagine you’re Pepsi. You have a team of people whose job is to find places to buy ads where they believe they’ll influence you to buy Pepsi next time you’re at the supermarket. It’s more efficient for that team of people to buy from just a few places with tons of users, rather than from lots of places with few users. Before you’re at 1M daily users, you’re just not interesting. By the time you’re at 5M daily users, they start testing you. Only once you hit 10M dailies are you big enough to truly become part of a media plan. 10M daily users is a lot of users.
2. Driving sales for your advertisers
So now you’re big enough. But do your ads work? Pepsi’s running that ad with you because they want to sell more bottles of soda. Turns out it’s really hard to prove you’re actually driving sales at the local supermarket. This is one of the reasons Google’s particular type of advertising business is so effective – clicks can be directly correlated with sales. In most kinds of advertising, not so much. Sure there is click rate, engagement rate, etc. But even an insanely high click rate of 2% (yes, 2% is ridiuculously high – most ads are more in the 0.02-0.2% zone), it’s hard to prove you’ve actually moved the sales needle.
3. Building your sales team
Sales people know people who buy ads. There’s a reason you hear about the ridiculously high salaries the sales folks command. It’s not just that they bring in the money – it’s that they’re the ones capable of doing it! They’ve spent their careers figuring out how ad buyers make decisions. They’ve organized more jean parties (don’t ask) and mani-pedis than you care to think about – building those relationships. The good news is, the good sales people know who to call. Side benefit, the people they call will actually take their call. The bad news? You need to hire some of these sales folks before they start generating revenue, and like we already covered, they’re expensive! If you end up building a full sales team, you’ll almost certainly raise a significant round of financing just to scale that team out ahead of the revenue (and cash!) it’s able to generate. Managing the sales team you hire is a whole other can of worms I won’t get into in this post, but suffice it to say, it’s nothing like managing your engineering and product teams.
4. Cash is king (ie, not revenue)
Until you run a business that gets to the revenue generating portion of its existence, it’s hard to appreciate how much cash flow matters. Cash flow from advertising can be pretty rough. First, like I said, you tend to need to hire those expensive sales folks before they bring in any money. Often it takes six months or more for the first real money to start coming in. Then, there’s the little issue of the payment terms on your advertising contracts. Often, brand advertisers in particular don’t pay for 60 days! And yes, even when they get the bill and it comes due, they don’t often send the cash promptly. You can expect to wait at least another couple of weeks for your cash. Meebo was collecting cash an average of ~85 days after running an ad, which our investors told us was average to good for brand advertising! Lesson learned: a good collections person is well worth the investment. So to sum up – you have to pay salaries and expenses *now*, but lucky you, the revenue you just earned won’t become cash in the bank until 3+ months later!
5. Selling is hard
I didn’t appreciate how hard a sales person’s job was until I started going on sales calls with Meebo’s sales team. First, try setting up 5 meetings in one day with 5 different people. Then, in each of the meetings you will repeat exactly what you said in the previous meeting, and do it with as much energy in meeting 5 as you did in meeting 1. To make your day even better, in every meeting, the person you’re pitching (likely a fresh out of school 23 year old) will “this is all nice, but we’re only interested in doing something with you that no one has done before”. Imagine that – meeting five. You just gave it your all to pitch your product. And for the fifth time, the 23 year old media planner sitting across the table says “we only want something unique to us”. You just want to blurt out “do you know how many times today I’ve been told that?? If I did something unique for every one of you, I’d be out of business (and my engineers would quit!)”.
6. Starting from scratch, every…single…quarter
You learn a lot once you start down the revenue path of a startup. One of the first lessons is that no matter how big you get, next quarter you have to be bigger. No one cares if you’re generating $50M or $100M per year. What matters is how quickly you’re growing quarter over quarter and year over year. This is where advertising models are often particularly hard – you’re constantly rebuilding your book of business. You see, advertisers tend to buy on a quarterly calendar. This quarter an ad agency may be buying for a new car being released by BMW and next quarter for a fall campaign by Pepsi. They issue an RFP for $250k. You win an IO for $200k for a certain number of impressions. And once you’ve run those impressions and earned the money – poof – it’s gone! There’s no guarantee of more money next quarter. The car already launched or the campaign ended. They don’t think your platform’s a fit for the follow on campaign. It’s back to hunting for dollars. This is probably what I remember most vividly. No matter how big our current quarter, next quarter had to be bigger. Yet we were constantly rebuilding from scratch. I was pretty jealous of the folks running subscription-based businesses at this point.
So is there a silver lining? Well, yes. If you achieve massive scale (read: Facebook or Twitter style scale), you will encounter many of these difficulties, but the solutions come easier, too. Growth tends to solve all ills. There’s also the possibility that you’ll create a business that’s a super good fit for a particular form of advertiser (i.e., endemic advertisers). An example would be a travel site. If you have lots of people coming to your site to learn about Tahiti, airlines, travel agencies, and the like are a great target. Or perhaps you’ll come across a business similar to Google’s, where there’s an incredibly clear return on investment from dollars spent to dollars earned.
If you do find yourself in an advertising business, find a mentor. Someone who’s been there before. Built an advertising product. Built a sales team. Managed the inherent cash flow. Figured out how to drive repeat sales. Go find this person now. You’ll want a guide for the road ahead. Like everything else in startups, it’s hard. But it’s fortunately been done successfully before.