1. McGraw-Hill/Irwin © 2002 The McGraw-Hill Companies, Inc., All Rights Reserved. 1-1 internet business models text and cases tom eisenmann

2. McGraw-Hill/Irwin © 2002 The McGraw-Hill Companies, Inc., All Rights Reserved. 1-2 Access Provider Lecture Chapter One

3. 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

4. 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

5. 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

6. 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%

7. 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

8. 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 % of Prospect’s Existing Offline Partners Already Active in Online Network

9. McGraw-Hill/Irwin © 2002 The McGraw-Hill Companies, Inc., All Rights Reserved. 1-9 Comparison Scale Economies

10. McGraw-Hill/Irwin © 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$20.00 –Variable costs 13.20 customer support 5.80 network (½ POPs; ½ leased lines) 7.40

11. McGraw-Hill/Irwin © 2002 The McGraw-Hill Companies, Inc., All Rights Reserved. 1-11 Network effects Differentiation (sustainable??) –Skills/execution –Different tastes Switching costs ISP churn: 4% per month, so keep 61.3% of customers after one year –Average life of customer relationship = where x = annual retention rate –For ISPs, = 2.6 years Retention –Reintegration of information systems –Forfeiture on transaction profile –Risk of disruption –Hassles opening/closing accounts –Retraining –Cost of data re-entry

12. McGraw-Hill/Irwin © 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!