“The momentum/late stage investors have moved from consumer to enterprise. There is a large pool of money in the venture capital asset class that is opportunistic, momentum driven, and thesis agnostic. This pool is driven largely by the public markets. This pool of capital was “all in” on consumer web/social web in the 2009-2011 time frame. It drove a lot of activity throughout the venture capital markets because each layer of the VC stack (angel, seed, Srs A, Srs B, Srs C, etc) needs to be aware of what the next layer up wants to fund. when the momentum/late stage wanted web/social, the layers below gave them web/social. Now that the momentum/late stage wants enterprise, we should expect the layers below to give them enterprise.” – Fred Wilson
Fred Wilson is not alone in claiming that patterns of venture funding are shifting away from consumer startups towards enterprise oriented alternatives. Industry chatter has been concerned with this trend for some time, amplified in part by an industry analyst industry that has historically been over concerned with the enterprise at the expense of consumer technology trends.
But while context is important – as Wilson notes, consumer markets may be somewhat saturated – the difficulty with discussions of consumer versus enterprise models is that it presumes that the distinction between consumer and enterprise is an appropriate axis for investing or evaluation purposes.
To begin with, distinctions between consumer and enterprise are breaking down. The list of consumer technologies employed within enterprises is long: from instant messaging to webmail to social media to VOIP, consumer technologies are increasingly a staple within businesses large and small.
And even the enterprise startups that are being funded today show a clear consumer technology influence. Consider Yammer, a recent enterprise venture funding success story: it is essentially a replica of consumer technologies built for the enterprise. Its intended market may be businesses, but its pedigree is solidly consumer.
Or better, consider Apple. At their core, enterprise businesses have historically been margin oriented, while consumer focused businesses have been built upon volume sales. The margins on an Oracle database license, as one example, are orders of magnitude higher than an individual AdWord commission. Google’s consumer reach, however, enables it to sell enough AdWords to be worth 32% more than the database manufacturer as of yesterday. But the lesson here is not that consumer markets are inherently superior, but rather that both offer opportunities for profit. Apple, whose success was built on consumer markets but is increasingly becoming an enterprise seller, is worth more than Google and Oracle combined.
Besides the collapsing distinctions, there evidence to suggest that the revenue mechanism may be more determinative of success or failure than the target market. Investigating a claim that a billion dollar software company is founded every three months, the following crowd sourced list of billion dollar entities was assembled. With the twin caveats that these valuations are obviously imprecise and the list is undoubtedly incomplete, subsetting the list to entities of strictly one billion or more in valuation gives us this list (corrections welcome). Breaking that list down by revenue model, we find that 66% of these billion dollar entities do not derive the majority of their income from softare sales. And of the 34% that derive their income primarily from software, the majority (20%) monetize this software in a network contest, rather than shipping software directly to customers. Of all of the so-called software startups then, a mere 14% sell software directly to customers.
Few if any of the startups would or could exist absent investments – many of them substantial – in software development. But comparatively few of them are choosing software sales as a revenue source. They are choosing, in other words, to make money with software rather than from software. Investors, then, might do well to focus more on the mechanism than the market. Both consumer and enterprise markets will generate and support large businesses, but those businesses are going to have to be creative in terms of how the monetize their customers.
As we’ve written, the evidence suggests that generational attitudes towards software are shifting, and the most compelling businesses moving forward will not be built strictly on software monetization, but more defensible data based revenue streams. And from an investor standpoint, the timing of this realization is important, because as Apple is discovering in mapping, once you’re behind in data, it’s very difficult to make up that ground.
While the enterprise / consumer context makes for good copy, then, it is not obvious that it’s the most important consideration for investors looking to build the next big technology business. Mechanism looks more important than market.