The new wave of tech is the Social Mobile Web, and its leading companies are lining up to go public. We haven’t seen such a lineup since 1995, when Netscape went out and rang the bell on the dot-com mania. Further back, this happened in 1980 when Apple went out (in an overall poor market climate) and set off the PC bubble. Will lightening strike a third time?
The first out is Demand Media (Nasdaq: DMD), run by Richard Rosenblatt, who had been CEO of the parent company to MySpace. How his IPO plays out will set a tone for the coming IPO Season. DMD is the largest Internet IPO since Google itself.
Demand Media (DMD) priced at $17, above the range, and is now trading around $23, a fine opening to Social IPO Season. The offering was also super-sized, from 7.5M shares to 8.9M. DMD has about the same market cap as the New York Times.
A personal comment on Richard Rosenblatt. My prior firm, VantagePoint, had invested in the parent of MySpace, which Richard ran. Around the time News Corp came knocking to buy MySpace, I met with Richard to discuss his plans sans an exit. He showed me Snap.com, a social game play. Two years before Zynga. Demand Media is a bit controversial, but Richard is the type of guy worth betting on.
Why the controversy? DMD is a next-generation web publisher, which mass-produces sites based on hot keywords. Google search begats synthetic content, designed to rise to the top of search results and skim clicks. Blogger Paul Kedrosky describes DMD’s business as: “find some popular keywords that lead to traffic and transactions, wrap some anodyne and regularly-changing content around the keywords so Google doesn’t kick you out of search results, and watch the dollars roll in.”
This modern way to produce content has produced hockey-stick growth, but Google just announced modifications to search results to undermine these synthetic web sites. DMD is highly dependent on search optimization and will quickly modify what it needs to to stay ahead of Google. How this business dynamic plays out is anyone’s guess. Google finally launched their modifications, and Rosenblatt responded that it didn’t affect their search rankings much.
The stock market shrugged off the Google changes. DMD remained around $23.
DMD has a different model than the NYT, and it is not well understood in the blogopsphere. A deeper look shows Demand Media in a better light than a domain spam site.
DMD creates on-demand websites based on expected hot search keywords rather than creating news stories based on, well, news. It covers topics that are of current interest, and should be compared to Time-Life or McGraw-Hill rather than a newspaper. These sites are a new form of the sort of special-interest magazines that McGraw-Hill used to cherish. Some of the most popular are ehow.com, livestrong.com, trails.com and the guy site cracked.com.
A popular term in the websphere these days is “curation”, the use of a human editor to organize and select content. DMD is a hybrid of machine-generated and curated, where the keywords help guide DMD to construct a site that matches how prospective readers are trying to find information on the web, and the human curators construct and update the site. In effect, they are using keywords to drive editorial content, and humans to make the site interesting. Although DMD is the subject of derision from old-fashioned editorial sites, it is better thought of as using modern, social techniques to determine suitable groupings of editorial content.
Its bet is the crowdsourced keyword editorial context drives better editorial content. So far its sites collectively are the 17th most watched sites on the Internet, an incredible achievement. The most read is ehow.com.
If you wish to play this new category, read TradingIPOs analysis by Bill Simpson. He says to watch the operating expense ratio, essentially the spread between paying contributors and monetizing the sites. DMD uses freelancers for the most part. In an accounting decision which is controversial, DMD amortizes the cost of content over five years, rather than expensing; this turns a loss into a profit. He thinks fair value is $14-16, below the current trading range.
The other issue to watch is Google’s steps to rank search results differently, which could lower DMD sites in the search stack. Right now 41% of DMD readers come in from search results. The initial move of Google was to encourage searchers to report poor results, which I do not expect to lead to much of a response and therefore to have little impact on DMD. As noted above, the next move by Google didn’t affect DMD sites that much. The war between quality results and synthetic sites from DMD will continue.