March 24, 2008 / 6:32 PM / 10 years ago

Social networks need to be useful to make money

By Anupreeta Das - Analysis

<p>A photograph of Stephanie Endicott and Marcus Smallegan, first-year students at George Washington University, is seen on their Facebook website page in Washington November 25, 2007. Virtual beer and vampires may no longer be enough to keep members of social networks like Facebook and News Corp's MySpace riveted to their computers. REUTERS/Jonathan Ernst</p>

SAN FRANCISCO (Reuters) - Virtual beer and vampires may no longer be enough to keep members of social networks like Facebook and News Corp’s NWSa.N MySpace riveted to their computers.

Instead, the key to the future of these Web sites may lie in more practical functions, such as making plans, booking tickets or checking stock quotes.

“Right now, the big challenge for social networking services is finding a way to simultaneously encourage user loyalty and revenue growth,” said analyst Ri Pierce-Grove of research firm Datamonitor.

Simply put, if people do more things on social networks, they stay online longer, share with friends and reveal more about their tastes and habits, allowing advertisers to better focus their messages. Advertisers usually pay sites based on the number of times an ad is clicked, and people are more likely to do that if the ad is specifically targeted to them.

Market research firm eMarketer predicts that U.S. advertising spending on social networks will exceed $1.6 billion this year as the sites and companies that make applications for them push to harvest more personal information posted online, then sell it to advertisers.

But the search for the best way to do so is still on.

Advertising on Google Inc’s (GOOG.O) social networks, including a partnership with MySpace, brought lower-than-expected revenue in the fourth quarter, company co-founder Sergey Brin said on a conference call in January.

“I don’t think we have the killer best way to advertise and monetize social networks yet,” he added.

COOLING OFF

Meanwhile, people may be tiring of the activities that social networks do offer.

Although these sites have added thousands of members in the past year, comScore data show that fewer people are signing on, and members are visiting their profiles less.

For instance, the number of U.S. visitors on MySpace fell to 68 million in February from about 72 million in October, while the average time people spent on their Facebook profiles dropped to 161.3 minutes from 195.6 minutes.

This indicates U.S. social networking is at the “mature stage of the growth curve,” comScore spokesman Andrew Lipsman said.

Part of what made social networks popular are widgets. One of these small programs, “Vampires,” lets members virtually “bite” friends. Another application allows people to virtually prod their friends by sending a message that they’ve been “poked.”

Millions of people got hooked on these widgets, creating a new audience -- and potentially a new market -- for advertisers hoping to tag their messages to these applications.

The excitement around widgets touched a high point in January when Slide Inc, which makes a tool that lets people create slide shows and put them up on any social network, secured $50 million from large institutional investors. That is far more than the median venture financing amount of $5 million for Web 2.0 start-ups in 2007, according to Dow Jones data.

But some wonder whether squeezing sustainable cash from this audience will require more than fun and games.

“I think (investors) are going to lose of lot of money,” said Charles Moldow, general partner of venture capital firm Foundation Capital. The widgets currently in fashion are very “lightweight” and do not command the loyalty of their audiences, he said.

VIRAL MARKETING

Social networks benefit from engaged users who share their likes and dislikes with friends, helping advertisers through word-of-mouth, or “viral marketing.”

“If you can tap into that and then there’s sharing, if you have a big audience that’s engaged with you, you will be able to make money off it,” said Jupiter Research analyst David Card.

Although many fun-and-games widgets do have this viral power, analysts believe there is more money to be made by making these applications richer.

Useful widgets that let people share experiences naturally aid viral marketing and increase the efficacy of targeted advertisements, while keeping people online longer.

“Widgets that keep you updated on concert tour dates for your favorite bands, weather widgets -- there’s a lot of promise in that kind of campaign,” Card said.

A conviction that this is the road to success for social networking has led many investors to fund useful widgets.

Silicon Valley venture firm Khosla Ventures and IAC/InterActiveCorp’s IACI.O Ticketmaster have invested in iLike, a program that lets people post songs on profiles and has a link to Apple Inc’s (AAPL.O) iTunes store so friends can sample and buy the music.

But many analysts cautioned that marketing tailored to people’s online behavior -- while an exciting opportunity for companies -- might not succeed if people feel their privacy is intruded upon.

Sites are also grappling with the challenge of serving up unobtrusive ads that will entice users to click and share with friends.

Facebook’s Beacon was an early experiment in such marketing, but “it was perceived as forcing users to recommend their purchases indiscriminately to their entire circle of acquaintances,” said Datamonitor’s Pierce-Grove.

But with many analysts expecting social networks to eventually become one-stop destinations that meet all online needs, from e-mail to e-commerce, marketers are likely to continue to try to make money by encouraging users to share with friends and then targeting ads based on their behavior.

People are not yet accustomed to such advertising, said Michael Osterman, who runs Osterman Research. But he noted that while marketing via e-mail initially caused a furor, people now expect it.

Editing by Lisa Von Ahn

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