Viral Loop

by ADAM L PENENBERG

  Taken together, better screens, chips designed to offer the full-color Web on handhelds, and universal connectivity mean that people will be spending more time online, more time plugged into the viral plain, transmitting memes and messages, links and ideas, touching one another digitally over social networks. It’s a gargantuan business opportunity for the ones who seem to have figured it out—like Ning.

  Because in this new phase of webonomics, it’s not just the eyeballs, as it was before the dot-com crash, it’s the kind of eyeballs you collect and how you slice, dice, and direct them. When a user signs into Ning, she is already expressing an interest just by virtue of joining a specific social network. Then Ning displays the kinds of ads Web surfers are accustomed to seeing on blogs, news sites, all over the Internet, especially tailored to their particular social-net niche. Extreme skiers see ads targeted to extreme skiing, and so on, and the click-through rates on these, Bianchini reports, are far higher than with traditional social networking banners. Right now, Google places threads; eventually, however, Ning will serve its own. And even today, if you want to control the ads on your Ning network, you can pay as you go for the infrastructure for a monthly fee of $20. About twelve thousand group leaders pay the maximum $55 a month for premium services that enable them to choose their own URLs and buy extra storage for photos and videos, generating $600,000 in revenue. Either way, Ning makes out.

  “It would be very difficult for MySpace or Facebook to shift gears and directly offer a competing service to us,” says Bianchini. “They have a huge set of technical challenges just scaling what they’re already doing, and we have spent three years building a serious architecture and technology lead for what we do.” One of her engineers compared that kind of course correction with “swapping out the engine of a 747 during mid-flight.” By the time Facebook—or anyone else—could do that, Ning might well have ridden its double viral loop to impregnability.

  Because once it hits critical mass, the road is paved. Then no one can stop it.

  II

  VIRAL MARKETING

  4

  The Perpetual Viral Advertisement

  Viral Tag: P.S. I Love You. Get Your Free Email at Hotmail

  In the early to mid-1990s, after Mosaic and Netscape laid the foundation for the Internet’s viral plain, populating the Web with sites and content channels, virality was a simple value proposition. If someone liked something, she passed it on to her friends via “word of mouse.” Until Sabeer Bhatia and his partner Jack Smith created the first webmail service, no one had ever thought of incorporating viral marketing into the actual product. At first, though, things didn’t look very promising. In February 1996 Bhatia was pitching his twentieth venture capital firm, Draper Fisher Jurvetson (DFJ), on Silicon Valley’s famed Sand Hill Road, and it appeared the meeting would end like the previous nineteen: no money, no prospects, a bad TV drama played over and over with a slightly different cast.

  Bhatia was explaining the concept behind JavaSoft, a set of developer tools his partner had created to stow personal information from users—sign-up information, addresses and phone numbers, surveys—then display it on a website. DFJ cofounder Steve Jurvetson doubted there would be much pent-up demand for it. At best, it might appeal to a hard-core geek audience, but with the vast majority of Web users on dial-up modems over pre–fiber optic cable phone lines, this was a small sample. He doubted there was enough to create a sustainable, stand-alone business. Over the past two years he had received pitches from twenty or thirty different Web tools companies pushing JavaSoft-like applications and had the same qualms with them all: How do you get discovered, grow, become huge? How would users learn you exist? Just having a webpage with a great product didn’t automatically translate into success. You needed a marketing strategy.

  Unlike other VCs Bhatia had met, however, Jurvetson had no problem with a couple of twenty-seven-year-old engineers with no managerial experience, no history with consumer products, no expertise in software running a company. He was, after all, barely a year older than Bhatia. A former engineer with a background in mathematics, Jurvetson worked in research and development at Hewlett Packard where several of his chip designs were manufactured and at Apple and NeXT in marketing. As a venture capitalist, he didn’t pigeonhole people. He was solely interested in the big idea. As Jurvetson finished his critique, ready to show his visitor the door, Bhatia claimed they did have a marketing plan. A programmer who used JavaSoft would marvel at how well designed it was and say, “Wow, you really built this cool web-app in three months? I want to buy those tools.” Before Jurvetson could point out that this wasn’t much of a strategy, Bhatia mentioned an additional application: webmail, which users of JavaSoft could use to communicate with one another.

  Jurvetson perked up. People were largely tethered to their own computers because of email. At work they had a work account, at home a personal one, and on the road they couldn’t dig into email at all unless they were dialing in from their own laptop. Jurvetson had spent much of his twenties as a student and then as a consultant who put in a lot of miles. Webmail would have made life a lot easier. The utility was crystal clear. As Bhatia sketched out the idea behind it on a whiteboard, Jurvetson was amazed no one had thought of it before. He advised Bhatia to forget about JavaSoft—webmail was the killer app. “We’re going to get one of our partners to come in and take a look at this because it could be big,” Jurvetson said.

  [ HAGGLING WITH A VENTURE CAPITALIST ]

  The following week Bhatia and his webmail co-creator, Jack Smith, met with Jurvetson and his partner, Timothy C. Draper, a rare third-generation venture capitalist—his grandfather, William Henry Draper Jr., was Silicon Valley’s first venture capitalist and President Ronald Reagan had appointed his father, William Henry Draper III, to be chairman of the Export-Import Bank of the United States in 1981. With unquenchable optimism Bhatia listed projections for webmail’s subscriber base that, if true, would mean it would expand faster than any company in history. The VCs dismissed these brash figures out of hand, but they believed that if the two engineers achieved a fraction of this success, webmail would prove to be a stunning investment. After a third meeting, Draper said, “OK, we’re ready to fund you. We like this very much. How much do you want?”

  Bhatia asked for $3 million, which he calculated would be enough to hire a few engineers and get the company rolling.

  Too much, the VCs said. First they wanted to see if it was even possible to make email work on the Web.

  Bhatia requested half a million and they countered with $300,000.

  “Alright,” Bhatia said. “I’ll take it.”

  Naturally there were strings attached. Draper and Jurvetson, offering their standard term sheet, wanted 30 percent of the company, which would value the fledgling enterprise at $1 million. Bhatia contended the company was worth much more, on the order of $10 million. At one point Jurvetson offered $600,000 in exchange for 30 percent of the company, but Bhatia didn’t want to give away so much this early on, and insisted DFJ’s share entitled it to 15 percent. They couldn’t bridge the gap and Bhatia threatened to seek funding elsewhere. He didn’t act like someone who had riffled through almost two dozen VCs without a nibble, and, the two sides still far apart, Bhatia and Smith left without a deal.

  The following evening, Jurvetson, intent on hammering out an agreement, phoned Bhatia, who pushed back. He claimed other seed investors were waiting in the wings, although he didn’t mention it was actually Smith’s father willing to write a small check or a nebulous band of investors from China who had never before financed a company. Jurvetson assumed these were paper tigers and didn’t pay much heed, until Bhatia told Jurvetson he had lined up a meeting with venture capitalist Michael Moritz of Sequoia.

  Oh my God, Jurvetson thought. Moritz had beaten him out of seeding Yahoo, on its way to a billion-dollar valuation, the most watched IPO since Netscape. The negotiations seemed to be proceeding smoothly with Jurvetson presenting the first terms sheet
to Yahoo until Sequoia swooped in and he never saw them again. Jurvetson lost out on one of the biggest scores in Silicon Valley history. Earlier, in trying to express how well he understood the Internet, Jurvetson had confided the Yahoo story to Bhatia, who was now using it against him. He had made a terrible negotiating mistake. Not long after, Jurvetson and Bhatia agreed that DFJ’s $300,000 in seed money would entitle the firm to 15 percent of the company, valuing it at $2 million post money. In exchange, Jurvetson was able to insert a clause that gave his firm the right of first refusal, which meant it couldn’t be passed by in the event that Bhatia sought additional financing down the road.

  Jesus, Jurvetson thought. This guy is a masterful negotiator.

  [ THE IDEA FOR WEBMAIL ]

  Sabeer Bhatia had absorbed the art of negotiation in the bazaars and markets of India. His family was part of the professional class in Bangalore; his father had spent a decade in the army, then bounced around public-sector bureaucracies, while his mother worked at the Central Bank. Haggling was part of everyday life—he often watched the family servants whittle down the prices of food, clothes, and other staples. A man, no matter how rich, was judged in part by how well he bargained. It required great persistence. First, approach the vendor but act like you aren’t interested. Don’t believe a word he says. You’re almost assuredly not the first customer of the day, he’s not giving you a special price, and he’s not your friend, no matter how many times he calls you that. Walk away but don’t wander far. He’ll shout a lower price and it would be rude not to return to the negotiation. He comes down a little, you go up a smidgen, then he might feign concern over your economic plight. You must be very poor, he might say, and for dramatic effect offer you a few rupees out of his own pocket. But it was all part of the game until you finally arrived at a mutually acceptable price.

  During Bhatia’s first year at Birla Institute of Technology (BITS) at Pilani, the nineteen-year-old engineering student became the only person in the world in 1988 to receive a passing grade on the notoriously difficult California Institute of Technology’s transfer student examination, scoring twenty points higher than anyone else. After three years at Caltech, he enrolled at Stanford for a master’s degree in electrical engineering, where he became smitten with the idea of becoming an entrepreneur. In India young men did not become entrepreneurs—too much corruption, too many risks, too hard to succeed. Those from the middle class took the safe route, which was what Bhatia had expected to do. His original plan was to earn his doctorate and return to India to work as an engineer at a large Indian company.

  At Stanford, his worldview changed. He attended informal discussions with entrepreneurs like Marc Andreessen and Apple cofounder Steve Wozniak, in his mind, regular guys with big ideas, who offered the same fundamental advice: if they could do it, so could he. Instead of returning to India after graduation, Bhatia took a job at Apple, where he met Jack Smith. Although the tall, stocky technophiles were worlds apart in temperament, they became fast friends. Smith was a dropout from Oregon State University. His most cherished Christmas toy growing up had been an oscilloscope he used to chart radio waves. He began his career at Apple as an intern and chose to stay rather than earn his diploma. While Bhatia was charismatic and a mainstay of the party scene, Smith was quiet, a homebody, married with a child. Bhatia became a fixture at cocktail parties organized by a community of Indian expat entrepreneurs who had scored in the United States. He made it a habit to come in the next morning to regale Smith with stories of people who, starting from scratch, had sold companies and ideas for millions of dollars. It became part of his sermon. “Jack! There is opportunity everywhere,” Bhatia would say. “It’s just ours to lose.” Or “Jack, we’re wasting our lives here.” He would reel off entrepreneurs who, with little training or track record, had reaped fortunes. “There’s no reason why we can’t, too.” In fact, if they couldn’t, they would be “failures” because in this country there was simply no excuse for not being wildly successful.

  Before venturing forth on their own, they quit Apple to follow their boss to a start-up called FirePower, which created hardware that could run multiple operating systems on Apple hardware. While there, Smith came up with the idea for JavaSoft. Bhatia pounded out a business plan in one night and walked into work looking particularly bedraggled, so much so his boss assumed he had been out all night partying and gave him the rest of the morning off. Bhatia set up meetings with venture capitalists and they fell into comfortable roles: Smith handled the technology while the garrulous Bhatia was their big-picture front man.

  Since they didn’t want their FirePower colleagues to know what they were up to, they didn’t converse through work email. Instead they sent each other handwritten notes or exchanged floppy disks, spoke in person in the parking lot or while walking around the block, and chatted over the primitive mobile phones of the time. This struck them as ludicrous. Here they were on the cusp of a technological revolution, yet they couldn’t access their personal email accounts privately and securely through the corporate firewall. It was a major inconvenience. Meanwhile Bhatia wasn’t having luck attracting backers for JavaSoft, with fifteen, sixteen, seventeen potential firms passing on it. They told Bhatia he and his partner were too young and inexperienced, the company at too early a stage of development. It would be virtually impossible for JavaSoft to attract enough users, and even if it could, Microsoft would eat them for lunch.

  One day, as Smith drove to his home in Livermore, he called Bhatia on the 3-watt car phone that sat in a bulky case on the passenger seat next to him. After another frustrating day of not being able to communicate with his partner over email, he had thought of a way to combine a solution to their extracurricular communication woes with a plan to market JavaSoft. Smith figured he could create a method for people to email over the Web, which would, he told Bhatia, meld two of the greatest uses of the Internet: email and the Web. “We could make it free, have an advertising banner to fund it, and go from there,” Smith told him.

  “Interesting,” Bhatia replied. “I’ll think about it.”

  Smith didn’t take Bhatia’s lukewarm response personally. That was the way his friend was. He would absorb information and only after running through countless scenarios arrive at a conclusion. Sure enough, the next day Bhatia crowed, “Jack, that is a brilliant idea!” They agreed to use Smith’s webmail idea to get JavaSoft funded.

  But their fear was that, unlike JavaSoft, a somewhat nebulous concept that required deep programming skills, webmail would be easy to steal. All they had was an idea. The venture capital community was deeply connected and a mere slip of the tongue could lead to the wrong person getting hold of it. What if one of the would-be financiers mentioned the idea to Netscape or Microsoft? Whoever built it first might gain an insurmountable lead, so they had to be careful whom they told. Bhatia decided he would size up a potential investor, and if the VC dismissed JavaSoft because of their age or inexperience, he wouldn’t mention webmail. If the VC had a clue, he would suggest the free Web-based email as a traffic-building strategy. While webmail was the killer arrow in their quiver, they figured they would make money on JavaSoft until they could develop it.

  Following months of fruitless meetings, Bhatia entered the offices of Draper Fisher Jurvetson in February 1996.

  [ P.S.: I LOVE YOU. GET YOUR FREE EMAIL AT HOTMAIL ]

  After the two sides worked out terms governing the initial $300,000 seed investment, Bhatia and Smith walked out with a $50,000 bridge check in their hands and quit their jobs at FirePower. Working out of his house, Smith, after bringing onboard another engineer, got down to building a prototype. They also needed to come up with a name, which fell to Smith, who stayed up late with his wife to brainstorm. Sitting with a blank sheet of paper they listed possibilities that contained “mail” in some form. Out of two dozen there was Cool Mail, Run Mail, this mail, that mail, but no “Aha!” moment. Finally his wife suggested, “Hotmail.” Smith wrote it down. He wasn’t sure about the
“hot” part, but given everything else this seemed the best candidate. Then he noticed it contained the letters h, t, m, and l, which together formed the acronym for hypertext markup language, the lingua franca of webpages. Smith canvassed Bhatia the next day while riding in an elevator to their attorney’s office. As usual, his friend initially gave it a cool reception, but they were running out of time so he went along with it. On March 27, 1996, Smith registered the Hotmail domain.

  At the same time he finished a prototype within two weeks, sharing it with a small circle of friends who provided valuable feedback, mostly relating to layout, how email should be viewed and the index page arranged, the look and feel of the interface, how the columns should appear on the screen. Smith demonstrated it at the next meeting with Draper and Jurvetson, who were duly impressed.

  Draper asked, “How are you going to get the word out there?”

  “We’ll put it up on billboards,” Bhatia said. He also mentioned radio advertising.

  “God,” Draper replied, “that’s expensive marketing and we’re giving this away?” He thought for a moment. “Can’t you just give it out to all those guys on the Web?”

  That would be spamming, Smith replied.

  I guess spamming is bad, Draper thought. He hadn’t heard the term before. Then he flashed back to Harvard Business School, where he had received his MBA, a case study his professor covered in class: women holding parties for their friends, then selling to each other. A certain percentage of the women at each party became salespeople by referring more business. Tupperware, that was it. He also recalled MCI’s friends and family plan, which harnessed the power of social interactions to spread the product. He wondered if they could do something like that with webmail.