After five consecutive years of increased investment in digital media companies, venture capitalists appear to be slowing their pace, and reevaluating what’s next.
U.S.-based VCs broke the $1 billion mark for digital media investments in 2005, then nearly doubled that amount a year later and invested about $2.9 billion in 2007, according to VCJ’s analysis of venture data compiled by Thomson Reuters, publisher of this magazine. (See sidebar for VCJ’s definition of digital media.)
That hectic rate has slowed this year. As of mid-August, investors had invested a little under $2.2 billion in the digital media space. It’s unlikely that they’ll match last year’s record, as investors say an endless parade of me-too companies, rising valuations and a gloomy macroeconomic climate have combined to give them pause.
A number of other factors are prompting VCs to be more selective, such as a decline in prices paid for digital media startups. Investment bank Petsky Prunier recently reported that the dollar volume of U.S. M&A activity across advertising, marketing and other digital media was down 26% in the first half of this year compared to the same period in 2007, even while the number of transactions was up 21% from the first six months of 2007. (Petsky Prunier counted 78 digital media deals totaling $6.3 billion in the first half of this year.)
Additionally, many digital media startups have found it more difficult to make money than they had anticipated. Sites that counted on being “advertising supported” are receiving just pennies per thousand page impressions. Facebook’s ever-changing rules for developers attempting to draft on its success is another problem. Even the most bullish of VCs must blanch when he hears a portfolio company CEO say: “We’ll monetize when the time is right,” as Jack Dorsey, the 31-year-old CEO of micro-blogging site Twitter, recently told Fortune magazine.
Though firms continue to build up their digital media practices and new funds spring to life (see sidebar), investors generally appear to be reevaluating the landscape. Los Angeles-based private equity firm Saban Capital Group launched an early stage digital media unit back in March, but the partner leading that practice, Craig Cooper, says that neither he nor his partner, Richard Yen, has yet found a deal to get behind.
And it’s certainly not encouraging when Mike Maples Jr.—an early proponent of consumer Web 2.0 startups and an investor in social news site Digg—says he has turned 75% of his attention to business software and services. “What we’re seeing now is a lot of derivative ideas,” says Maples, who recently raised a $33 million fund for Maples Investments. “How many social networks are people going to sign up for?”
That’s a fair question when you consider that U.S.-based VCs continue to throw money at various social networks, funding 96 such companies with $586 million this year alone to bring the world the likes of Bragster.com, a social network for dares and bets, Yonja, a Turkish online social network, and A Large Corp., a dance-focused social networking service.
There’s no question that digital media still represents a huge market opportunity, despite the slower pace of deal making. The biggest driver remains the ongoing transition of advertising dollars from traditional media to online. According to the Interactive Advertising Bureau, ad revenue hit $5.8 billion in the first quarter of this year—the second highest quarter after the $5.9 billion recorded in the fourth quarter of last year. And a number of companies have gained an astonishing amount of traction over the last few years. For example, Facebook says that it now has more than 90 million active users.
The question, rather, is: What happens now?
There is some agreement about what to avoid. Ask investors if it’s not too late to back a social network, for example, and their eyes tend to roll. The recent funding of the Turkish social network notwithstanding, Cooper of Saban Capital Group says: “Anything with ‘social’ in it is a red flag to me.” Richard Wolpert, who heads the Mail Room Fund, agrees. “I think that market has closed up,” he says.
What we’re seeing now is a lot of derivative ideas. How many social networks are people going to sign up for?”
Mike Maples Jr.
Startups focused on music discovery and distribution may also find it hard to generate investor interest. “That ecosystem is pretty packed, and there are a lot of mouths to feed there,” says Yen, who left Blueprint Ventures to join Cooper at Saban in June. “A lot of what we’ve seen in music is slight innovation, rather than anything terribly exciting.”
The number of online video startups, combined with YouTube’s challenges in monetizing its vast audience, has also cooled interest in user-generated online video somewhat. “There’s money to be made somewhere, but we don’t know where yet,” says Cooper.
Wolpert agrees. “I’m leery of people who are trying to do original content for the Web, which will be a hits-based business,” he says. “One of out X million shows or series will be a success, but the rest will go nowhere.”
Though finding innovative ideas has become harder, there is also some agreement around what looks interesting going forward. Apparently, analytics startups of various stripes are holding their appeal as entrepreneurs—and investors—try to make sense of the ever-evolving digital media landscape.
While Accel Partners has made just seven digital media investments this year, compared to a dozen in 2007, three of them have been in companies that help advertisers with measurement tools or services: Coremetrics, Mochi Media and YuMe Networks (see table: Top 10 Digital Media Investors for 2008).
Mail Room’s first and only portfolio company as of this writing is Sometrics, which makes an analytics tool for businesses that publish applications to social networks so they can better understand how customers are interacting with their applications. The Los Angeles-based company has raised $1.5 million from Mail Room and Greycroft Partners, with Mail Room providing the bulk, the firm says.
Yen is similarly focusing in part on startups that can help online publishers maximize their audience and ad revenue. Among the startups in that category that have received backing recently is 33Across, which analyzes social networking sites to help advertisers target the influencers among groups of friends. The New York-based company raised $1.25 million in May from individuals and First Round Capital.
NebuAd is another behavioral targeting company that has raised fresh capital. It partners with Internet service providers to analyze consumer behavior and help advertisers reach particular audiences. The Redwood City, Calif.-based company raised $1.3 million in April from Menlo Ventures and Sierra Ventures, bringing its total funding to date to $33 million since 2006.
Yet another player in the space is Opinmind, which is attempting to discern what people might buy next by analyzing user comments and behavior on social networks. It raised $725,000 last year from Baseline Ventures (the investment firm of angel Ron Conway), Aydin Senkut, a former Google exec turned angel investor, and others.
Niche consumer wellness sites have also been capturing investors’ imagination lately. Though Cooper isn’t a fan of broad social networks, he says that he likes the “health and lifestyle space a lot. I’m a great believer in vertical websites around obesity and diabetes and lifestyle-related diseases and I love DailyStrength,” a social network where people anonymously discuss everything from their cancer treatments to infidelity.
Tim Chang, a principal for Norwest Venture Partners, says his firm is also “looking for the right play” and considers niche wellness sites a “must-watch” area in digital media right now. “They may never get millions and millions of users, but they’ll potentially engage those users for the lifespan of an interest or condition,” Chang says.
Based on the scant number of investments this year, other VCs feel they’ve already made their health bets. U.S.-based VCs have invested a combined $16.4 million in just four companies that provide online medical and/or health content this year. That’s way down from last year, when they put $116.5 million into 13 such companies, and 2006, when they put about $95 million into 13 providers of medical and/or health content, according to Thomson Reuters.
I’m leery of people who are trying to do original content for the Web, which will be a hits-based business. One of out X million shows or series will be a success, but the rest will go nowhere.”
Among the companies to receive backing in 2007 were DailyStrength, which raised $4.2 million from Redpoint; Caring.com, an eldercare website that raised $6 million from DCM and Split Rock Partners; and Vimo, a comparison-shopping portal for health care products that raised an undisclosed amount from Bessemer Venture Partners.
The widget opportunity is also a question mark. Specifically, does it make sense to back companies whose applications are distributed primarily through social networks? Though Cooper views the iPhone as an intriguing platform, he calls the widget market generally “very challenging, given the ridiculous valuations of companies recently.” For example, Slide raised eyebrows in January when it raised $50 million at a $550 million valuation. The company offers a slideshow application and other widgets on Facebook and other social networks.
Jason Pressman, a partner at Shasta Ventures, raises a frequent concern over widget companies whose success is tied directly to specific social networks. “Any time you’re beholden to someone else and they have business power over you, you’re in a risky position,” he says.
Pressman says Shasta invested in Flock, a developer of a social Web browser, because it lets users create and share videos, blogs, feeds, and comments across a variety of social communities, media providers and other popular websites.
Lawrence Aragon contributed to this story.SIDEBAR: Digital media defined
What is digital media? Maybe the better question is: What isn’t digital media?
The term is used so loosely and encompasses so many sectors that it makes it very difficult for those who track venture capital investments to come up with a hard and fast definition. You’ll find no digital media category in the industry standard MoneyTree Report, which is produced by the National Venture Capital Association and PricewaterhouseCoopers based on data gathered by Thomson Reuters (publisher of VCJ).
Undaunted, VCJ set out to define and measure the digital media space. As a starting point, we looked at companies tagged as “Internet content” providers in Thomson Reuters’ VC database to capture producers of audio, text, video and multimedia content. Examples of recent Internet content investments include Goodrec, which lets consumer share recommendations online, HealthiNation, a website offering consumer health education content, and Next New Networks, which operates a “micro” TV network over the Internet.
We also wanted to include investments in gaming companies, since they produce interactive digital content. To do that, we tracked all ecommerce companies focused on “recreation, entertainment, music and movies.” Recent financings on that list include AirPlay Network, which makes cell phone-based interactive games, Outspark, a developer of casual, multiplayer online games, and Zynga Game Network, which makes games to be played on social networking sites.
Finally, we included “Internet marketing services” companies, which help to monetize digital media through advertising and other services. One could argue that these companies don’t actually create digital media, but we felt that it was important to include them because they are part of the digital media ecosystem. Companies in this space that have received backing recently include Federated Media, which operates a network that sells ads for blogs and media websites, Kiptronic, operator of a podcast sponsorship website, and Lotame Solutions, which offers ad-targeting services for social networks. —Lawrence AragonSIDEBAR: Recently launched digital media firms and funds
Location: Los Angeles
Fund size: Target of $150M to $200M. (A proposed collaboration between the Creative Arts Agency and Draper Fisher Jurvetson.)
There’s money to be made somewhere [in online video], but we don’t know where yet.”
Focus: Digital media startups.
Digital media team: Brian Garrett, Rick Smith, Brett Brewer and Michael Yanover have been mentioned in connection with the fund. It is unclear if this fund has actually come to fruition as Garrett and Smith were investing under the Crosscut Ventures name as of June.
Recent digital media investments: None.
Mail Room Fund
Location: Los Angeles
Fund size: Tens of millions. (Firm is a partnership between Accel Partners, AT&T, Venrock and the William Morris Agency.)
Focus: Early stage digital media companies.
Digital media team: Richard Wolpert
Recent digital media deals: Only one deal to date: a $1.3M seed investment in social network analytics company Sometrics.
Saban Capital Group
Location: Los Angeles
Fund size: Undisclosed. (Firm is funded by and overseen by billionaire media mogul Haim Saban.)
Focus: Public and private investing, including control deals in broadcasting. The primarily PE investor recently launched a VC initiative.
Digital media team: Craig Cooper, managing director and leader of firm’s digital media group, Joel Andryc, managing director, and Richard Yen, director in digital media group.
A lot of what we’ve seen in music is slight innovation, rather than anything terribly exciting.”
Recent digital media deals: Saban’s VC unit had not made its first digital media investment as of Sept. 2. Saban bought Spanish language TV channel Univision along with a group of buyout shops for $13.7 billion in June 2006 and took a 22% in Israeli TV company Keshet Broadcasting in October 2004.
Fund size: $362.6M
Focus: Digital media enabling technology companies. Firm is stage agnostic.
Digital media team: General Partners Todd Dagres, Dennis Miller, Santo Politi and Bijan Sabet
Recent digital media deals: $1.5M Series A for social gaming network Biosocia (operates Iminlikewithyou.com), $30M Series D for video sharing site Veoh Networks and $5M Series A for interactive television show producer Eqal (produces lonelygirl15).
Location: Burbank, Calif.
Fund size: $200M
Focus: Startups across all stages in the U.S. and China that enable digital entertainment delivery.
Digital media team: Managing Directors John Ball, Dan Beldy, Beau Laskey, CFO Liping Fan, Senior Principal Scott Hilleboe and Principal David Min. China team: Managing Directors Olivier Glauser and Alex Hartigan
Recent digital media deals: $10.3M for mobile phone picture saving startup Ontela, $10M early stage financing for mobile gaming company Beijing Troodon Interactive Information Technology and $8M Series C for viral marketing company PopularMedia.
Source: Reporting by Senior Writer Alexander Haislip