Bruce Judson: Sorry, But Web 2.0 is Bubble 2.0

SAI contributor Bruce Judson is a Senior Faculty Fellow at the Yale School of Management and the author of "Go It Alone," HarperBusiness, 2004.  He recently launched Free For Today. This column is adapted from Bruce's Ventures Without Capital blog.

By Bruce Judson: It seems like each day there's another announcement related to a new "better" "cooler" or "friendlier" web start-up that provides online video editing, online photo editing, or enables new functions on your cellphone.  Other crowded categories are also seeing the entry of ever more participants. 

My guess is that there are at least 15 companies in each of these categories. Many are venture funded; others have attracted wealthy angels.  Of the estimated 45 companies, almost all are offering services for free, with limited or no hope of creating a viable advertising or fee-per-use model. How do these companies ever expect to make money? And why are they receiving funding from anyone?...

With so many entrants in each category, it's almost inconceivable that the companies will be able to charge for their services. Their ability to establish a viable ad model is also an open question.   Google's experience with the slow roll-out of YouTube ads, despite all of Google's resources and existing ad base, demonstrates how hard it can be to build a profitable business from advertising even for companies with a giant established and loyal user base.

In 1999, I can remember telling an audience of eager Web marketers that to compete a "me too" product needed at least two competitive attributes: 

1. The differences in quality between existing services needed to be so high that it was immediately obvious to potential users. It often happens that "me-too" start-ups have differentiating factors that the founders see as signficant but consurmers or BtoB users barely notice, and
    
2. The new attributes need to be advances that existing entrants can't copy quickly. If my new launch has a cool new attribute, and the next day an existing competitor (with a uer base) matches my cool innovation, my new launch is probably dead in the water.

My guess is that many of these start-ups are hoping to be acquired by large industry players. Guess what: it's not going to happen. Of the hundreds of interesting free services available, perhaps one in a thousand is actually bought by a Google or an AOL for real money.

Finally, the categories I mentioned are just the tip of the iceberg. I can name at least ten others, such as online file sharing and uploading, that are similarly saturated with high quality free services.

So, what does all of this mean?

For me personally, as an entrepreneur I see a business opportunity. Last week, I launched Free For Today, which each day highlights a valuable service on the Internet. It's designed for individuals, growing businesses, and nonprofits. In this age of super-saturated competition, many of these people and entities are most likely paying for services that are available at equal or higher quality for free.   Valleywag took me to task at great length for this launch--which I take as a great compliment!  (Although I do acknowledge that in response to ValleyWag's article I toned down some of the language on the site's home page)

For Web 2.0 companies and employees, unfortunately this analysis suggests another dramatic shake-out., and upcoming employment woes.

For VC firms that are funding these "me too" companies, lower returns, and unhappy investors.

The overall impact of this scenario on the larger economy is harder to determine. It's possible that even a dramatic collapse in the start-up arena will not affect the public markets or overall consumer and investor confidence. This may be the best we can hope for given existing circumstances.

Author's Note: Since 1994, when I helped to co-found Time Warner's Internet activities, I have been one of the Web's strongest proponents. In 1996, my bestseller "NetMarketing" was one of the first books to suggest that the Web would dramatically transform business for the better. I continue to believe this, and there are few people that have been boosters of the Web as long, or as consistently, as myself. I remain a strong and optimistic booster. Almost all of the predictions we made in the mid1990's, despite many gyrations, have, in fact, come true. Today, I am an even stronger booser of the transforming and beneficial power of the Web. Right now, I am just concerned with the way many of us are attempting to harness this power.