YouTube Case Study: Widget marketing comes of age
written by Deepak Thomas and Vineet Buch, posted on March 18th, 2007
This week’s case study was co-authored by guest writers Deepak Thomas and Vineet Buch.

Deepak is an MBA student at the University of Chicago. He previously worked at Oracle for 10 years in engineering and product management roles. He is currently looking for summer internship opportunities at early-stage Venture Capital firms. He may be reached at deepakthomas (at) gmail.com.

Vineet Buch is a Principal at BlueRun Ventures, where he focuses on consumer Internet, mobile services, and enterprise software, and on BlueRun Ventures’ investments in India. Immediately before joining BlueRun in 2005, Vineet co-founded Riya. Vineet authors his own blog, Venture Explorer.


Why profiled on Startup Review
YouTube, one of the most successful exits of the Web 2.0 era, needs little introduction. YouTube’s single biggest contribution is that it brought into the mainstream the concept of sharing videos online. YouTube shot into limelight when Google acquired it in Oct 2006 for $1.65B (in stock), the largest exit for a consumer Internet company in 2006 and Google’s biggest acquisition to date. On a typical day, over 100 million video streams are watched on YouTube.

A few notable statistics on YouTube at the time of the acquisition:

• Fastest growing website in Internet history
• On average 100 million videos streamed per day
• 65,000 new video clips are uploaded every day
• More than 13 million unique visitors per month. An average user spends 30 minutes on YouTube and most uploaders are repeat visitors themselves.
• 58% of Internet videos are watched on Youtube
• 20% to 30% of traffic volume is from the US
• Wide range of user demographics, however the largest segment of users is the 18 to 35 year-olds.
• 30% to 40% of the content is copyrighted. There is a clear correlation between eyeballs and copyrighted content.

Interviews conducted: Interviews and public presentations by YouTube employees were used to compile this report.


--------------------------------------------------------------------------------

Key success factors
Created a better user experience around sharing video clips online

Online video definitely existed before YouTube came into vogue. However, uploading videos, sharing and watching them was quite cumbersome. The primary issues were:

• Lack of a viable storage platform: Video files were too large to be e-mailed. One of the alternatives was to upload them to a generic file-hosting service. This option was fraught with several issues including restrictions on file sizes imposed by storage providers (unless the user had a premium, paid account) and a poor to non-existent interface to share videos with friends and family. The other option was to share videos via peer-to-peer file-sharing software like BitTorrent, which unfortunately shared similar limitations.

• Mediocre watching experience - Viewers would typically need to wait for the entire video to download before they could start watching it. This was a problem not limited to just peer-to-peer video sharing. Most professional websites with video content had the same issue. Downloading the video was just half the battle. Users needed to install the appropriate video player, the free versions of which often behaved like ’spyware’. Even with the right video players and ‘codecs’, there was a fair chance that downloaded video would not play.

• Fragmented viewing experience - Assuming that the user managed to download and play one of these videos, the experience did not go much farther. A video shared on BitTorrent was a standalone unit of content, i.e. there was nothing to connect it to related video clips, say other episodes of a show that the user had just watched. Clearly, any mechanism to group similar content or organize content into catalogs was missing. Also, there was very little by way of content reviews or rating.

YouTube essentially took a problem with a few pre-existing, albeit clumsy solutions, added some engineering ingenuity and lots of creativity to come up with the best working solution. Content suppliers, i.e. those uploading videos could now upload video effortlessly. They could tag uploaded videos with keywords. On the consumption side, by adopting a Macromedia Flash-based video player embedded on a web-page, which played the video almost instantaneously, YouTube eliminated the need for downloads and local media players. Users could now search for videos by keywords, share them by mailing links to the videos, and also rate and comment on these videos. Consequently, popular videos bubbled up to the top in an organic fashion. Notice how, besides the player, other features were essentially attributes of sites sharing pictures, Flicker for example. YouTube was able to adopt what worked in the world of picture-sharing to the world of video-sharing.

Distribution of popular content (often copyrighted) drove adoption

Distributing popular and hard-to-find video clips was clearly a success factor. Clips of the popular, long-running television show, Saturday Night Live was a particularly significant example. A free-form platform that allowed users to upload content had to contend with copyright violations. While this is one of the oft-repeated complaints about YouTube, it should be remembered that the founders decided to go ahead with the idea despite the eventual failures of the likes of Napster and Kaaza. While the ethics of such a strategy would require a lengthier discussion in an of itself, the founders clearly took a chance with something that other entrepreneurs might have balked at.

Viral customer growth due to widget marketing

YouTube allowed users to easily embed any hosted videos on web pages or blogs. This turned out to be particularly popular with social-networking websites, especially MySpace. The inbound links from these ‘widgets’ also helped YouTube increase its page rank on Google, thereby driving traffic via natural search..

Chose the right technology platform for the desired user experience

While the technology platform used by YouTube was not particularly remarkable, it was designed to solve the problem at hand. The technology concept was to encode videos in the Macromedia Flash format and take advantage of the millions of computers which already had the Flash player installed on it. When Macromedia launched Flash 7 with video playback capability, YouTube was among the first to exploit this feature. Further, based on the team’s past experience working for PayPal, they were able to develop a platform that scaled quickly to handle the viral growth in content and traffic.

Exceptional market timing due to the perfect storm of environmental factors

Several environmental factors converged leading to YouTube’s success:

• Bandwidth became cheaper, faster and ubiquitous. It would have been impossible to gain an audience the size of YouTube’s as recent as five years ago due to the lack of broadband penetration.

• Online social networks had attained critical mass. YouTube took off in a big way when MySpace.com users started embedding YouTube content on their pages. Members of these users’ networks in turn started adopting YouTube. YouTube was able to leverage an existing social network rather than build one ground up.

• Producer-side technology became more accessible: cheap digital video cameras could now be connected to computers thanks to USB 2.0/Firewire becoming available on most personal computers. Also, use of cell-phones with video cameras became more prevalent.

• A shift in demographics helped: a post dot-com generation was seeking an online experience that placed a lot of emphasis on entertainment.

• Platform-side technology had become cheaper: it became possible to store, manage and serve large repositories of content at a fraction of dot-com era prices.


--------------------------------------------------------------------------------

Launch strategy and marketing
Like most startups in the consumer Internet space, YouTube did have to survive a couple of missteps before discovering the winning user acquisition strategy. The founders started work on YouTube in Feb. 2005 and a public beta was launched in May 2005. YouTube started out as a video clone of HotOrNot.com targeting the young adult market. However, the initial site was attracting very little traffic. A site revamp in June 2005 focused on:

1. Creating a general-purpose video-sharing platform
2. Increasing number of views by offering ‘related’ content
3. Encouraging interaction between users
4. Offering an external video player that could be embedded on a site like MySpace.com

The ability to embed the external player on any web page turned the tide for YouTube. Once MySpace.com users started adopting YouTube en masse, MySpace.com blocked video links to YouTube. However, MySpace caved under pressure from MySpace users and reinstated access to YouTube content.

The other key driver to YouTube’s user acquisition was the frequency at which popular video content was distributed in a viral manner. According to one YouTube employee: “Once traffic picked up, roughly every two weeks or so a video would become wildly popular. Soon the time between these super-hit videos started shrinking. The site took off at a scorching pace.” Video footage of the Southeast Asian tsunami resulted in one of the largest traffic spikes. Other popular clips included Jon Stewart on Crossfire and the infamous Janet Jackson Super Bowl video.

YouTube remains an interesting study in marketing a consumer internet service. While initial responses to the site were tepid, the June 2005 site revamp resulted in viral growth. Some of the initial promotional tactics included posting an advertisement on CraigsList.com, requesting aspiring women models in the Los Angeles area to upload their personal videos. However, this proved ineffective.. After the VC investment, YouTube started giving away an iPod Nano per day for several months. This promotion was actually very successful and helped to further build the user base.

YouTube most likely had both viral and SEO (Search Engine Optimization) factors working for it. Searches for 7 out of 10 of the top-10 popular music albums show up as YouTube hits on the first Google search results page, indicating the SEO factor at play.


--------------------------------------------------------------------------------

Exit analysis
In Oct 2006, Google acquired YouTube for $1.65B in stock. The working arrangement is that Google will focus on the technology, while the YouTube team will focus on the content. Google has helped to make YouTube videos more searchable, including tighter integration into Google’s video search product. As cameras become more and more powerful, YouTube video resolution will need to keep pace by encoding videos at higher and multiple bitrates – this where Google’s infrastructure advantages come into play.

The reasons behind Google’s acquisition seem quite intuitive. YouTube falls in line with Google’s strategy of converting user visits to its properties into contextual advertising revenue. YouTube’s huge user-base combined with its own user base gives Google formidable market power and the ability to influence consumer behavior. Also, while the prospect of YouTube being acquired by one of the media giants was slim, the acquisition did serve to deter competitors like Yahoo from making further inroads into the online video-sharing market.

For Sequoia Capital, YouTube’s main investor, the investment turned out to be a huge success. Sequoia had initially invested $3.5 million at a pre-money valuation of $15 million and another $8 million in a second round of funding. Sequoia is estimated to have owned approximately 30% of YouTube, for a stake valued at $495M. This represents a 43X return on invested capital in less than 2 years time. Sequoia was chosen by the YouTube founders due to pre-existing relationships and the fact that Sequoia apparently ‘got’ the concept of YouTube early on. According to YouTube co-founder Jawed Karim, during YouTube’s Series A fundraising process Sequoia impressed the YouTube team by having Sequoia’s entire staff experiment with the YouTube product.

Was the $1.65B acquisition price justified? Revenue projections for YouTube have not been disclosed, however Fred Wilson has estimated YouTube’s revenue figures potential at $400 million annual revenue, $150 million net annual revenue. Another revenue analysis pegs current monthly revenues at $7.5M. The newly announced revenue-sharing model that rewards users who upload content, only serves to muddy the valuation picture even further.


--------------------------------------------------------------------------------

Food for thought
One of the unique takeaways from the YouTube case is that of using widget marketing to achieve viral user growth. Recently at the CommunityNext conference, Max Levchin remarked that viral marketing on the Internet has been driven in three waves: E-mail, Instant Messaging and Social Networking. YouTube was early to discover and exploit social networking sites as a viral medium. The next venture that discovers a new medium for viral marketing will likely create the next big thing on the Internet.

A few other topics to ponder for start-ups competing in the online video market:

Time for a change

As cameras become more and more powerful, video resolution on YouTube will need to keep pace. Google doesn’t seem to be addressing this issue so far. Eventually Google may move to encoding at higher and multiple bitrates. However, the next tipping point in online video might be the confluence of high-resolution, widescreen video cameras, with cheaper bandwidth capable of handling the higher-resolution content. This combined with the ability to render online video on TVs and the fact that wireless networking technologies such as WiMax will improve bandwidth to the last mile, the possibilities are endless. WiMax set-top box that connects to open-standard video streams over the Internet anyone?

Top videos vs. personal videos

Most visitors go to YouTube to watch a specific video that they have been referred to, and they typically end up watching related content. Videos of family reunions or a day at the beach are not the most popular ones as entertainment content, but such videos remain important to consumers. Youtube’s current video size and encoding limitations might offer an opportunity for a start-up.

Well~~nobody wanna have a peal!