Metcalfe’s Law Redux: Why Web 1.0 Giants Are Screwed and Web 2,0 StartUps Saved

Metcalfe’s Law (as it is common interpreted) is miss-leading. Even Bob Metcalfe himself recently re-iterated that the law can only be applied “locally” rather than “globally”. IE, the network effect is subject to a limited portion of the X-axis and not the entire curve. To put it in layman’s term, network effects derived from Metcalfe’s law do not last forever . . . in fact. . . it only applies only when the network is achieving scale. In his words:

As I wrote a decade ago, Metcalfe’s Law is a vision thing. It is applicable mostly to smaller networks approaching “critical mass.” And it is undone numerically by the difficulty in quantifying concepts like “connected” and “value.”

Not sure how I missed this post (Metcalfe’s Law Recurses Down the Long Tail of Social Networking) by Bob Metcalfe himself. But this is huge . . . even Bob admits that an entire generations of companies during the first bubble has crafted its strategy based on the vision of the world as V = N^2 rather than what he really meant -> V = A*N^2.

So, if V=A*N^2, it could be that A (for “affinity,” value per connection) is also a function of N and heads down after some network size, overwhelming N^2. Somebody should look at that and take another crack at my poor old law.

Of course the cost (C*N) of getting connected in a social network has been going down thanks to the proliferation of the Internet and its decreasing price. The value (A*N^2) of particular social networks has been growing with broadband and mobile Internet access. Emerging software tools expedite the viral growth and ease of communication among network members, also boosting the value of underlying connectivity.

In fact, A is not even a constant but another equation which has dependent variables N as well. There are HUGE HUGE (can I be more pedantic?) implications. Network effects did not kill the Techonology Diffusion Cycle (aka the S - Curve), in truth, it only describes locally the ramp up portion of the curve. In the end, the S-curve will win out and adoption will slow - with or without network effects. . .

Bob has essentially made 2 admissions

- the ramp is steeper than ever, that at the initial adoption phase, due to large decrease in cost of network connections in the last 5 years, network effects is as strong as there ever was

-However, as a network scales, opposing forces will come into play which cancels or reduces its increasing returns properties and flatten out adoption

What does this mean? Web 1.0 (and some web 2.0) giants are fucked as they finish climbing up the S curve and as network effects dissipates. Web 2.0 startups faces a much easier path to critical mass than ever before, thus it can mount a credible challenge against the incumbents.

1. For new start-ups the decreasing cost to scale has created cheap and fast ways of gainning large amount of users and achieving critical mass. Look at how fast youTube grew in the last 18 month. Simply unbelievable. Even Google took 2-3 years before achieving traction. It wasnt just 24 month ago that Myspace was just a speck. . .

2. For giants like eBay, Yahoo, Google, and even Facebook and Myspace (today). . . the MARKETING FACT OF LIFE - SEGMENTATION has slowly reduced the value of network effects. By definition, network effects is a mass market play. It is in opposition to the concept of niche marketing, niche product, for niche segments - ie the better you can target your product or service to a particular niche the more likely he or her will chose your product over a competing generic solution. These giants cant no longer band-aide new site wide features and functionalities hoping to attract new segments to their website as USAGE TIME, SCREEN REAL-ESTATE, USABILITY limits the feature creep. This admission that network effects is no longer the dominant driver of their business - that segmentation is - is widely seen but rarely discussed . . .

- Facebook opening up to non-college students

Still fighting a good fight, refusing to give up on network effects eventhough the number are telling them that the growth is lowing. They might just stab themselves in the foot by refusing to segment their social networks.

The value of each connection within network is decreasing for new users & existing users as demographics become more diverse.

- eBay launching eBay Express

Recognizing that there is a segment of cusotmer (new! now!) that will never “take” to the traditional ebay.com and that segment wants an entirely new shopping experience that having a new & BIN filter simply does not allow

- Google buying youTube

Trying to conitnue to depending on its userbase from google.com to build critical mass in its newly launched properties no longer works. It bought youtube to create another destination to funnel traffic to its set of services . . . it needs more than one network effects to drive it future growth . . .

The net effect is, ofcourse, that the world is getting flatter. That the ebb and flow of startups & incumbents will continue, competition will increase . . . and that nothing grows forever . . . (perhaps not such a new concept after all)