(This is the second of a two part post.  The first part contains a profile of a startup.  This part contains numbers and analysis related to that startup.)

First, some background.  I became interested in the mobile coupon business space a few years back when I started thinking about how mobile coupons could effectively be applied to a college campus.  I approached Artia Moghbel, a friend who had started an on-campus discount card (The Pirate Card) and together we wrote up a business plan for Morningside Mobile [PDF] which won second place in Columbia University’s B-plan competition.  Essentially Morningside Mobile (MoSiMob) was Dodgeball crossed with a mobile couponing service and applied to the microcosm of a college campus.

I spent that summer teaching myself the basics of Ruby on Rails and preparing a variant of Morningside Mobile called FreeFoodFone.  But our calculations had relied on using Email <-> SMS gateways to get around high SMS gateway costs.  It turns out this workaround isn’t technically feasible and the service never got off the ground.  Over the next year, I watched Social Monkey, a similar idea to Morningside Mobile (launched by some Tufts University students), which shutdown about a year after launch.

Here’s the big issue:  SMS text messages cost 3 cents to send.  Each. That doesn’t sound like much compared to, say, the 20 cents you would pay the US Postal Service for a direct mail campaign.  But it adds up quickly: sending 1000 text message advertisements costs $30.  Therefore any type of mobile SMS advertising has a cost basis of $30 CPM (truly COST per thousand). If you get a 1% response rate to your mobile advertisement, that works out to a $3 cost of reaching that one responsive customer — and that’s not including the actual cost of the coupon discount.

Now let’s look at some figures provided by Mobile Spinach.  Although they declined to share specific rates, Mobile Spinach says they can routinely get double digit CPMs.  Let’s assume the best case and round it up to a $100 CPM.  Most of the company’s campaigns are between 500 and 1000 text messages.  This means that at best, the average campaign runs between $50 and $100 dollars.  That’s tiny.

What’s the Achilles heel of any hyperlocal business based on advertising?  Small deal sizes and high overhead. The large overhead cost of closing deals makes a local ad business tough to scale effectively.  Let’s look at this on a micro-level by considering the cost of a salary.  Let’s say an entry level salesperson earning $50,000 a year.  They work 50 weeks/year, which means a salary of $1000 a week, $200 a day, or $25 an hour. As shown earlier, Mobile Spinach’s ad campaigns are $100 each on the upper end.  Even if this sales person could close an advertising deal every two hours (a herculean task), the sales people would be burning up half of the company’s incoming revenue.  Add to that the $30 of cost from sending the SMS messages, and there’s not much leftover.  Sure, some of the business is repeat business (there’s longer term value once the relationship is formed) — but it’s still tough to make the numbers work.

Let’s look at this from a macro perspective: At full scale, Mobile Spinach envisions 500,000-750,000 users of the service across 30 cities. They also say that at the absolute max, they’ll send 10 messages/month to users — any more, and the service becomes overwhelming and annoying. Let’s assume every ad is sold at a $100 CPM, which works out to 10 cents per text message. 3 cents of that goes to pay for the SMS message, and 2 cents goes to pay a commission for the Tastemaker (20%). That leaves 5 cents per message. They’re sending at maximum 10 messages per month to each user.  Essentially, after we’re accounted for the cost of goods sold, this works out to a per-user income of $0.50 each month or $6 each year.

Assuming a reasonable $8 customer acquisition cost for the company, it will take more than a year of usage to start earning a profit (and even longer if a reasonable churn rate is factored in). If they succeed in their upper goal of getting 750k users on the service, at $6 annual income per customer, the company will have $4.5 million to pay the salaries of all their staff plus overhead costs. Mobile Spinach plans to have 60-70 sales people at full scale.  At a low figure of $50k/year, a sales force of 70 people would cost $3.5 million in salary alone, not to mention benefits, insurance and overhead.  It’s tough to see the numbers working.

In the end, there’s really only two business models based around coupons. You can be in the business of selling coupons to consumers like The Entertainment Guide. Alternatively, you can be in the business of coupon delivery: Newspapers and companies like Valpak (owned by a newspaper company) have done this successfully for years. There are many companies working on the delivery of mobile coupons: Cellfire, 8coupons, CouponAlbum.com, CouponChief.com and CouponMountain.com just to name a few.  But none have taken off.

Why not?  It’s hard to say.  The truth is that SMS messaging has existed for years.  Mobile Spinach could have been built six years ago.  There’s no recent technological change or evolution that opened up the market opportunity  But the company thinks they’ve figured out the issues that have plagued typical SMS coupon services.

Most coupon services are bothersome and overwhelming.  Mobile Spinach tries to solve this problem by offering ‘exclusive’ offers and also by letting users pick exactly the type of deal they’re looking for:  For example,  within the ‘restaurants’ category are the following sub-options:  ‘$$$$’ or ‘$$$’ or ‘$$’ or ‘$’ and fast food, vegan, seafood, grill, deli/bakery, italian, asian, american, organic and health food.  This level of specificity sounds great to the end user, but specificity and exclusivity are the opposites of scalability — and scalability is key to a technology startup. By breaking down their deals into tons of small categories, the company has created a thousand different chicken and egg problems for themselves: creating a critical mass of merchant in each niche AND creating a critical mass of users interested in that niche.  In my humble opinion, the company should sharpen their focus: pick a single niche, dominate it, and then expand horizontally from there.

Additionally, the company is trying to build their user base from scratch.  But companies with large existing mobile user bases would seem to make a perfect fit for Mobile Spinach’s mobile couponing product.  Why not partner with a company like loopt?

Basically, the mobile couponing business is an extremely tough business to scale well.  I like mobile spinach’s gusto and ‘dial-down’ approach, but at the end of the day I’m still vexed by these three issues:

1)  the high cost of sending SMS text messages.
2) the difficulty of convincing consumers to share their mobile phone numbers.
3) the high overhead costs of closing numerous small local deals.

This last issue concerns all types of hyperlocal companies:  Yelp, Outside.in, Patch.com, GoMobo, Grubhub, and Yodle just to name a few.

Local is a tough business.

As usual, readers, I’d love to hear your comments and questions.  So let’s have ‘em!

(This is the first in a two part post. Part one contains a profile of a startup.  Part two contains numbers and analysis related to that startup.)

Mobile Spinach is a small and ambitious Bay Area startup focused on the mobile coupon space.  The company is still at a very early stage — seed funded and looking for funding.  Earlier this month I had the pleasure of talking with co-founder Anthony Vitti.  We had a great discussion about the difficulties of effective marketing for local businesses, and Anthony laid out his vision for Mobile Spinach and the opportunity he sees.

Mobile Spinach’s offering for consumers is a compelling one: “Get exclusive deals and mobile phone alerts from our Tastemakers who hit the streets to find you the best deals when, where, and how you want them.” Think local trend-blog meets social-shopping meets mobile-couponing: Thrillist meets ThisNext meets Cellfire.  Whereas existing coupon services like Cellfire and 8Coupons focus on product discounts (Save 25c on toilet paper!!), Mobile Spinach focuses on deals from local lifestyle businesses: Shopping, Night life, Events, Travel, Dining and Food, Arts and Music, Gyms and Spas.  One of their co-founders runs a contemporary San Francisco lifestyle brand called Artificial Flavor, so they’ve got experience with fashion trends.

With Mobile Spinach, you receive deals only from the Tastemakers you’ve chosen to follow.  These folks are the site’s power users — aggressive well-connected individuals who introduce their favorite local businesses to Mobile Spinach’s service and get special deals for their followers.

Mobile SMS couponing requires a light touch.  Consumers don’t want to be interrupted with advertising that’s not relevant to them.  Mobile Spinach understands this very well: “Less is more” says Anthony.  Relevancy and customization are crucial to Mobile Spinach’s vision of an empowered consumer who is able to “dial down” the service as needed.  Besides using Tastemakers as filters (so consumers only receive deals that match their taste), Anthony suggested that consumers will be able to make further customizations like electing to receive coupons ‘only on Tuesday nights’ and ‘only from nearby restaurants.’

For these local businesses, Mobile Spinach helps them engage local consumers and market themselves effectively.  According to Mobile Spinach, there are very few ways for small to medium business owners to get noticed — traditional media, SEO, and SEM all have high costs and questionable efficacy.  With Mobile Spinach, 500-1000 SMS messages are typically sent for a campaign and the company reports double-digit response rates.  The company also reports getting double digit CPM rates for their mobile advertisements.

For Mobile Spinach, tastemakers act as sort of a crowdsourced marketing effort as they spread the word about the service to their friends.  More importantly, they bring local businesses onboard to advertise with Mobile Spinach — and receive a 20-30% commission.  These tastemakers, combined with a traditional in house salesforce, are designed to make the service scalable.  Anthony envisions having 20 tastemakers in each of 30 cities across the country once the service expands to full size.

Mobile Spinach has a nice vision for a social-recommendation local couponing business.  Furthermore, Mobile Spinach shows sensitivity and insight into the typical issues plaguing SMS advertising.  But can they make the numbers work?

Well, let’s do some back of the envelope calculations…

(continue to part two)

I’m in love with an animal!

No, this isn’t some kind of bestiality confession.  I’m talking about Aardvark — a 15-person San Francisco startup made up largely of ex-Googlers and backed by $6 million from top investors.  Like many relationships, this one started with a friend’s introduction.  In February, Omar Christidis had been waxing poetic about Aardvark — ‘vark for short — and soon I was begging to be set up.  A friend of Aardvark’s founder Max Ventilla, Omar was an early member of the service and gladly passed on an invite.

Unlike most online services, Aardvark’s focus isn’t on their website.  Instead, Aardvark lives on your buddy list. Like a good friend desperately in need of a social life, its green ‘available’ dot glows brightly 24/7.  When you IM a question to Aardvark, it goes digging for the answer.  First the service analyzes and categorizes the question, then — and this is the real magic — it routes the question to an ‘expert’ who responds, usually in a matter of minutes.

Does it work?  Hell yeah.  My first challenge posed to the service was to ask it something local.  After all, how many early aardvark users could possible live in my neighborhood?
me:
What’s the best bar in boerum hill, brooklyn?

aardvark:
Got it. I’m sending your question to someone who knows about *going out*
[6 minutes later]

aardvark:
(From Naomi/F/Brooklyn,NY, Re: *going out* )
I like the Brooklyn Inn on Bergen and Hoyt maybe. no food. just booze. local.

Wow, I was impressed. Not only was there another Aardvark user in my neighborhood, but she was online at that moment.  And helpful!  A day or two later, Aardvark posed its first question to me from a user in State College, PA asking “How much is your iPhone monthly bill?”  Aardvark sent me the perfect question and I was able to give an answer accurate to the penny…being helpful felt really good!

I continued to use aardvark over the next few weeks, asking progressively harder questions.  And each time, it stepped up its game.  One time I sent Aardvark a chunk of Objective C programming code — a bug had stumped my friend and I and also stumped the readers of a popular programming site.  Sending it to Aardvark was a last resort and pretty much a joke. But less than five minutes later, Aardvark sent back a one-line response that solved the bug. My question had been routed to Colin Barrett, creator of Adium (a popular aim/icq/msn messaging client) and master of all things Mac programming related.  We had a back-and-forth conversation through aardvark, and exchanged contact information which came in handy later.

At precisely this moment I realized Aardvark was much more than a simple ‘question answering service’.  It was an expert network.

Have you ever heard of the Gerson Lehrman Group (GLG)?  I hadn’t either until a friend started working there.  Essentially GLG connects corporations/investors to experts on very specific subject matters.

Perhaps a corporation is considering launching a new product that’s outside their core expertise.  They have questions and concerns about the launch which require an expert opinion.  They pay GLG gobs of money to play matchmaker.  GLG sorts through its database of 200,000 experts and sets up an interview/consultation between the the expert and the corporation. It’s big business. GLG’s 2008 revenues were $284 million.

Essentially, Aardvark is GLG for the little guy.  Or it’s GLG for the ‘long tail’ of questions.  Over the past few months, I’ve used Aardvark to consult with experts on all sorts of topics, not just to ask simple questions but to have entire discussions!  In addition to getting coding help, I’ve had hour long conversations about mobile micropayments with the Senior Mobile Product Manager at a major social networking site.  I also found a very helpful PR expert who discussed in detail with me how best to do press outreach for an upcoming project.  I’ve even used aardvark to have questions answered by lawyers and doctors.

Categories of Questions Asked (source: vark.com blog)

The key to Aardvark’s success is threefold:
1)  Intelligent routing. When aardvark asks me to answer a question, I’m happy to help.  I know aardvark isn’t wasting my time with irrelevant queries.

2)  A great network of ‘experts.’ The quality of Aardvark’s answers is only as good as the quality of its users.  Aardvark was started by a group of ex-googlers and as an invite-only service it has spread through real-world networks attracting a very impressively credentialed userbase.  Aardvark’s ‘refer’ feature is also brilliant.  I don’t know the answer to every question Aardvark poses to me.  But I probably know someone who knows the answer. Using the referral feature, I can pass the question to the right person.

3)  A gift economy and a feedback system.  Like Wikipedia or Yelp, users contribute to Aardvark because they have benefited from the service and want to give back.  Also, Aardvark encourages it’s users to type “thanks” in response to a useful answer and being helpful and getting thanked feels good.  (”thanks” also works as a feedback mechanism to help Aardvark identify its most helpful users and route questions better.)

As a former sociology major interested in social networks and information flow, I find Aardvark absolutely fascinating.  As an enterpreneurial person working on several projects and needing answers to dozens of questions, I’ve found the service to be priceless.  To monetize the service, Aardvark plans to fold in targeted advertising.  Should that not pan out, I have a feeling they could do just fine by creating a premium paid expert advice service.

As always, I would love to hear your thoughts about Aardvark and the emerging social search space.  And if you want to sign up or add me as a ‘friend,’ do so here.

The weather in New York has turned nice and I’ve been biking a lot lately. And I’ve been thinking about biking a lot too since Transportation Alternatives held their 8th Annual NYC Commuter Race last week. The race pits Bike vs. Taxi vs. Subway to see which gets a morning commuter to work the fastest.  The biker always wins.

(Source: Sahrizvi on Flickr)

In my life, biking serves three purposes:  A form of exercise.  A convenient way to get places.  But most importantly, biking is my preferred means of exploring a city. I cover much more ground on a bike than on foot, which means I’m more likely to stumble on interesting things:  street festivals, outdoor concerts, interesting architecture, quirky stores etc.

Bikes differ from taxis and subways in one very important way: they’re free. Without a usage cost, there is zero risk to exploration and experimentation.  And therein lies the parallel to web development and the open source software revolution.  The internet we know today could not exist without the free web development technologies (apache, php, mysql, etc).  It’s only when failure has no ‘cost’ — that creativity can truly flourish.

Would you ever hire a taxi to drive around in circles until you found something interesting?  Of course not.  But thanks to biking, I’ve witnessed some incredible sights.

(This is the second of a two part post.   The first part can be found here)

The ubiquitous iPhone/iPod Touch devices are stealing Bug Labs’s thunder.  To understand why, realize that the iPod/iPhone are no longer mere personal music devices carried around in a pocket.  Instead, they’re increasingly purchased as stand-alone devices that serve a specific purpose.  For example, my brother in law’s restaurant (No 7 in Brooklyn) uses a dedicated iPod Touch with the Pandora app to play streaming music all night long.  Previously they would have needed XM Radio or a full computer to serve this same purpose.  Was the iPod Touch intended to be mounted on the wall of a restaurant (like a thermostat) and stream music for eternity?  Certainly not.  But at $200, it’s a great investment for this purpose.

Back to Bug Labs for a moment.  A classic product example the company has used: you want to build an alarm clock with GPS that wakes you up as you reach your destination on the train.  Great idea.  So you start with the base module (Bugbase, $249).  Then you add a GPS module (BUGlocate, $99).  And a speaker (BUGsound, $99).  Cost: about $450.  Can you do this with an Apple device?  Yes.  How?  Well folks, you probably guessed it — “There’s An App For That!” iNap costs 99c.

And if iNap didn’t exist, you could easily create it.  Most people associate Apple’s App Store with cheap games, free communication apps, and simple utilities.  But there’s an entire half of the App Store that the mainstream media has overlooked: high end apps. There are dozens of $200+ medical apps (Lexi-Comp), $450 salesforce software apps (MyAccountsToGo), and $900 camera surveillance apps (iRa Pro).

But wait, there’s more!  In addition to high end apps, there’s a whole other section of apps that will never see the light of day on the app store: enterprise apps. These Apps aren’t designed to be sold publicly — they’re proprietary in-house applications designed by companies and deployed for internal use under Apple’s enterprise distribution program.  The point is that the Apple devices are powerful and versatile enough to fit almost any need.

Consider the minimalist design of the iPod Touch and the iPhone and you start to realize they’re the ultimate hardware devices. A single large touchscreen. The screen is the primary input and output method.  It can be used to display a single large button.  Or a thousand small buttons.  Or just enough buttons to represent an on-screen keyboard.  Or to represent an on-screen piano keyboard.  The user interface is infinitely configurable.

Additionally, these devices have accelerometers, location awareness, audio inputs and outputs, memory storage, internet access.  To top it all off, there is a well documented and robust SDK (software development kit) and a very active community of developers.  And the devices are cheap.  An iPod touch retails for around $200.

Bug Labs’ saving grace right now is that their hardware itself is open-source, modular,  and infinitely configurable.  Can you add a temperature sensor to an iPod touch?  No.  But it’s coming. When Apple announced their iPhone/iPod 3.0 OS due out this summer, the addition of ‘Copy/Paste’ stole the headlines.  But tucked quietly into the announcement was the fact that these devices will soon be able to interact freely with the outside world through bluetooth and via the devices’ 30 pin dock connector.  That opens an entirely new marketplace: companies creating custom accessories or interfaces for talking to existing devices.  This is a game changer.

Previously, the iPod Touch and the iPhone devices could only interact with external speaker docks.  But now, the consumer, business, and scientific applications are endless. Expect the generic devices to come first: input devices (external keyboards, game controllers), output devices (monitors, LCD display boards), readers (bar codes, RFID, infrared), sensors (temperature, water, heat, weight, chemical).  Soon, more specialized accessories serving different market verticals will follow: medical equipment, sound mixing boards, lighting control, video production equipment etc.

Are you starting to see why I’m worried for Bug Labs? There are 37 million iPod Touch and iPhones in the wild and most people are very comfortable using the devices.  They’re extremely powerful hardware devices.  They’re cheap and readily available.  The user interface is infinitely configurable.  They support powerful custom software development and in house application deployment.  There’s already a thriving high end market for software on apple devices.  With the advent of custom hardware accessories and interfaces, Apple devices will become the dominant platform for interacting and controlling all sorts of equipment across many verticals.  Bug Labs’ is going to have to change strategy quickly.  They’ll need to shift their goal from creating the dominant open source hardware platform and start focusing on building around the Apple devices.  A recent article suggests that this is already happening.

Still need convincing about Apple’s upcoming dominance?  Check the latest edition of Newsweek:  The Military is using the iPod Touch as a handheld field device.  Amazing.