“Defenders of the Free World”
- Company Background
- Industry
Background and Competition
- Creating
Competitive Advantage
- Added Value
of NetZero
- NetZero Platinum
- NetZero's
Financial Position
- The Future of
NetZero
- Teaching
Notes and Recommendations
Before a meeting to discuss
the current and future marketing strategy of NetZero,
CEO
Mark Goldston, was sitting in his office admiring his past achievements.
On the wall in front of
him hung two patents bearing his name. Goldston was the visionary
behind both L.A. Gear’s
lighted running shoes as well as Reebok’s inflatable pump sneaker.
He ponders the future of
NetZero hoping that he can initiate another radical innovation, this
time in the ISP (Internet
Service Provider) market. His vision is to begin to charge for
NetZero’s service as well as
offer the service for free, but only for a limited number of hours
a month. The company’s future
success is unknown considering it will be entering a new level of competition
if it decides to take
on the giant ISPs of America Online (AOL)
and Earthlink. Goldston does
not want NetZero
to end up as a success story gone bad as did his previous breakthroughs.
He wants to begin
gaining revenues for the company through subscription fees while at
the same time avoid
alienating NetZero’s customer base whom have become accustomed to the
free service.
NetZero was launched on October
19, 1998. It began as a free, advertising-driven
Internet access service, aimed at shattering monthly access fee barriers
and redefining Internet
advertising with innovative targeting capabilities. The company
began as a child project with
funding from idealab Capital Partners, the venture capital arm of Bill
Gross’s idealab incubator.
NetZero is the leading provider of advertising and commerce-supported
Internet access
offering a range of interactive marketing, research, and measurement
solutions. Consumers
receive free access to the Internet, free e-mail, and customizable
Internet navigation tools. The
service is available in more than 5,000 cities across North America.
NetZero offers advertisers
the ability to target messages to their desired audience based on user
demographics and online
behavior.
Advertisers and commerce
partners receive a variety of additional services to build their
brands and market their products, including referring users to partners'
Web sites, enabling
customer registrations, and facilitating e-commerce transactions. NetZero’s
CyberTarget division
offers marketers and advertisers mass-scale, online market research
and measurement services.
Shortly after its inception,
NetZero succeeded in raising significant equity capital in the
Initial Public Offering. This allowed the company to carry out
strategic acquisitions and develop
a user base upon which they market to advertisers. NetZero acquired
ifreedom.com and
freeinternet.com, two small competitors with 500,000 subscribers combined.
These subscribers
benefited from NetZero’s free Internet service and e-mail account.
The advantage of these
acquisitions was to increase the number of subscribers and therefore
the reach of NetZero. This
increase helped them not only to create a community, but also to gain
advertisements from more
companies.
In 1999, NetZero further
increased its brand awareness and reach by advertising on TV
with the National Basketball Association (NBA). NetZero was,
and continues to be, the sponsor
of the halftime show during nationally televised NBA games on NBC.
The show, “NetZero at
the Half,” helped to develop the brand recognition needed to increase
users of this free service.
Industry Background and Competition
The ISP industry is primarily
divided into two parts: free and paid ISPs. NetZero is the
leader in the free ISP market. Juno
Online Services, Inc (Juno) is also a very popular, but is a
distant second. The ISP industry leaders are the paid providers
of AOL and Earthlink
respectively. Exhibit 1 compares
these ISPs based on key financial indicators.
Competition for Users
From a virtual standing start
at the beginning of 1999, free Internet access has attracted
millions of users and has forced companies to begin to look at ways
to shift their strategies to
compete for Internet dominance.
Competition for Internet
users will continue to intensify. The primary competitive factors
determining success in the Internet market include a reputation for
reliable service, effective
customer support, pricing, easy-to-use software, geographic coverage,
and scope of services.
Other important factors include the timing and introduction of new
products and services as well
as general economic trends. NetZero competes with many different
companies within the online
industry.
· Established online service and content providers
such as AOL and The
Microsoft Network (MSN)
· Independent national Internet service providers
such as Earthlink and Prodigy
· Providers of branded free Internet services
such as Juno and Spinway
· Numerous regional and local commercial
Internet service providers
· Portals and search engines such as Alta
Vista, Lycos, and Excite,
some who offer free
Internet access in conjunction with
third parties.
Exhibit 2 breaks down the market by rating each company based on product attributes.
NetZero also competes with,
and expects increased competition from,
telecommunicationsservice providers such as AT&T,
Verizon,
and Sprint. These companies
generally have far greater resources, distribution channels, brand
awareness, and lower costs
because, in certain cases, they control the telecommunications services
NetZero is required to
purchase. This cost advantage, which could result in significant discounts
to the user,
significantly increases competitive pressures on NetZero.
New competitors that NetZero
is facing, media, telecommunications, and large hardware
and software companies, will continue to enter the market. The
competition will increase as
large diversified telecommunications and media companies acquire ISPs
and as ISPs consolidate
into larger, more competitive companies. A good example of this
is the recent merger of AOL
and Time Warner.
Diversified competitors have
also bundled other services and products with a connection
to the Internet, potentially placing NetZero at a significant competitive
disadvantage. For
example, Sprint and Earthlink are offering a service that bundles unlimited
Internet access with
long distance telephone service for a fixed fee.
NetZero faces competition
from companies that provide broadband connections to users'
homes, including local and long-distance telephone, cable television,
utility, and wireless
communications companies. These companies may use broadband technologies
to include
services such as hosting a user's individual website in their basic
plans for little or no charge.
Broadband technologies enable users to access the Internet at much
faster speeds than the dial-up
service NetZero currently offers. While the market for such broadband
technologies is still
emerging, it will continue to grow and pose an increasingly significant
source of competition.
Increased competition is likely to result in price reductions, reduced
gross margins, and loss of
market share.
Competition for Advertisers
The primary competitive factors
determining success in the market for advertising
customers include the size and demographic profile of a user base,
the ability to target users
based on specific demographic criteria, pricing, and geographic coverage.
NetZero competes for revenues
with major ISPs, content providers, Web search engine
and portal companies, and various other companies that facilitate Internet
advertising. Many of
these companies have longer operating histories, greater name recognition,
larger user bases, and
significantly greater financial, technical, sales and marketing resources
than NetZero. These
competitors may also engage in more extensive research and development,
undertake more far-
reaching marketing campaigns, adopt more aggressive pricing policies,
and make more attractive
offers to existing and potential employees, strategic partners, and
advertisers. In addition,
current and potential competitors have established cooperative relationships
among themselves
or with third parties to increase the ability of their products or
services to address the needs of
prospective advertising and sponsorship customers.
In addition to web advertising,
NetZero is competing with television, radio, cable and
print media for a share of advertisers' total advertising budgets.
Creating Competitive Advantage
Becoming a market leader
within an industry is the first step. Remaining the leader,
however, becomes much more important. Since its beginning, NetZero
has established new
partnerships
and alliances with companies from different industries. NetZero’s
objective of
these alliances was to reach as many potential customers as possible
and meet its needs through
improved customization. In order to satisfy these goals and gain
a competitive advantage,
NetZero targeted companies that were market leaders in their respective
industries.
Innovative Partnerships
NetZero has made agreements
with different companies to exceed its limits and guide
itself into a new era as a market leader. Within these agreements,
a company may decide to use
another company’s product or service in order to improve its technology.
This improvement will
also allow the company to further meet customer’s needs. One alliance
was with Amazing
Media, a leading marketing
software and technology company. Their software allowed small
and local businesses to create and run online marketing campaigns easily
and affordably through
NetZero's ZeroPort
(NetZero’s main banner ad mechanism). The completely automated system
allowed businesses to create rich media advertisements or upload their
own “gif” ads (pop-up
ads) and run them to specific targets. This provided NetZero an opportunity
to provide its
customers with cost-effective, targeted marketing solutions on the
web.
Another alliance created
by NetZero was much more on the marketing side of the
business. NetZero partnered with 24/7
Media, one of the largest global Internet media and
technology companies, to make them the premier third party sales partner
for NetZero’s rapidly
growing Internet access service. Under the terms of this agreement,
24/7 Media became the
exclusive provider of targeted e-mails to NetZero users. With
the use of 24/7 Media’s opt-in
e-mail marketing program, advertisers could be assured they were reaching
consumers who are
most likely to be interested in their products and services. This efficient
marketing strategy
increased NetZero’s reach across the Internet.
Through NetZero’s alliance
with eTour, which connects more than
4 million registered
members through a personal tour guide of the Web, the new innovated
technology selected Web
sites for NetZero's subscribers by tapping information they already
recorded on their personal
interests and hobby preferences.
Strategic Partnerships
NetZero reached an agreement
with two of the computer industry’s top players, Compaq
and IBM. The goal behind this
agreement was to create alliances with strong names within the
computer industry in order to improve brand recognition and increase
customer reach. NetZero
provided free and pay Internet access for Compaq and IBM’s affinity
programs customers.
NetZero's Internet access was be pre-installed on Compaq and IBM computers
and sold through
various affinity programs. NetZero has used “strategic versioning”
to provide a uniquely
branded version of its product. The customers who sign up for
this special offer are be able to
choose from a suite of Internet access services. Through this
alliance, NetZero was given an
opportunity to become involved with two truly global and high profile
partners.
Agreements have also been
reached with many websites in order to provide more
information to NetZero’s personalized start pages for its users.
NetZero partnered with The
Weather Channel to provide its
users with the latest weather reports and forecasts for any given
location. Through a strategic partnership with Looksmart.com
the Internet’s largest directory of
quality Web sites, NetZero subscribers will gain access to LookSmart's
quality content of more
than 750,000 unique site listings in over 60,000 categories.
Very recently NetZero announced a
partnership agreement with Smartmoney.com,
a trusted source of financial news, financial
planning and market tools. Under the agreement, SmartMoney.com became
the premier provider
of financial news information to NetZero, and provided links from NetZero
to
SmartMoney.com's award-winning investing information and daily articles.
The fact that NetZero is
a free ISP is only one benefit that is offered to the customer. If
one orders the free software from NetZero, you will not only receive
the files that are necessary
to connect to the Internet, but also the CD ROM including versions
of Microsoft’s Internet
Explorer, Netscape Communicator,
and Qualcomm’s Eudora. The service
also offers another
advantage that its major competitors attempt to duplicate. NetZero’s
innovative ‘Auto-dial’
function creates a dynamic queue of local access numbers, which change
automatically and
unnoticeably based on the current network load. This results
in fewer busy signals and more first
try connections completed for each user. NetZero’s first try
connection rate is 95 percent, high
above the industry average due to its patented auto dialer. The
technology is able to
automatically detect if a user’s access line is congested.
Although thousands of customers
are joining the NetZero family each week in order to
take advantage of the company’s quality and no-cost service, NetZero
also provides numerous
incentives targeted to advertisers. The company exhibits many
innovations not only to the online
advertising industry, but also to the advertising industry in general.
NetZero’s increasing
technology allows it to be the leader in one-to-one marketing
Before beginning one’s NetZero
experience, a profile must be completed that captures
interests and demographic data. NetZero’s zCast software automatically
refines the profile by
continuously monitoring online behavior, thereby facilitating the delivery
of precisely targeted
advertising. The banner ads seen by the customer are based on
his interests as seen from his
viewing patterns.
Another innovation that sets
NetZero apart from any other ISP is its revolutionary
“Advantage Window” or NZTV. While the computer is dialing in,
the customer is exposed to a
high-quality, 30-second ad, which is in sync with the users profile
and online behavior. This ad
is identical to an ad that you would see as a TV commercial and even
provides excellent sound.
Because the window cannot be closed, this advertising time is extremely
valuable. This is an
excellent time for an advertiser to “connect” with the customer.
The strategically chosen
banner ads and the innovative NZTV are only tools that
advertisers can use in order to promote their product or service.
Because NetZero contains a
growing customer base of smart web surfers, advertisers know that they
can reach a large amount
of people compared to a smaller provider. In addition to the
numbers, NetZero’s CEO, Goldston
promotes that a study indicated that, “NetZero subscribers are 88 percent
more likely than the
average Internet user to purchase home electronics online, 45 percent
more likely to purchase
mutual funds and 64 percent more likely to purchase computer software.”
Because NetZero offers over
5,000 local telephone numbers in North America for
customers to dial into, the software the company uses is sophisticated
enough to pinpoint the
location of a customer within seven to nine miles. Because the
approximate location of each
customer is known, a new influx of advertising is available.
Large companies supplying Internet
access to the entire county could only focus on expensive ads directed
to the majority of the
online customers. Now, NetZero allows an advertising tool for
local advertisers to display ads to
customers who can easily purchase from these companies.
Because the online advertising
market focuses mainly on banner ads, and these ads end
up being hit or miss, it is extremely important for advertisers to
know that the people who see the
banner ads will be those customers whom the advertisers are looking
to target in the first place.
NetZero is also changing the scope of online advertising by eliminating
the widely used click-thru
rate (CTR) to monitor effective banner ads. Instead, NetZero
tracks, over a certain period of
time, how often its users visit the sites advertised by NetZero.
NetZero guarantees a 33 percent
increase in traffic to its advertisers sites after an ad campaign is
begun. This allows the
advertiser to be guaranteed a return on investment. This is a
more sophisticated approach to
monitoring advertising effectiveness.
Other than relying solely
on advertisements for revenue, free ISPs encounter a unique
problem that must be addressed in order for a company to survive.
A very small component of
the free subscribers account for a disproportionately large share of
the telecommunications costs
associated with providing the service. Goldston pinpoints this
problem:
“We did an analysis and found that of the 7 Million-plus
subscribers we have, roughly
5 percent accounted for 53 percent of our telecommunications
costs. We determined
that these people were probably professional users,
small offices or home office people.
And we said that’s not going to fly. We developed
this company to serve the recreational
consumer, not to serve people who are operating
a business at our expense.”
To solve this problem, the
company established NetZero Platinum. This new service costs
$9.95 per month, and gives the customer unlimited access to the web.
There are also no banner
ads when using this product. However, customers are still able
to use NetZero as a free provider,
but for only 40 hours a month. After the 40 hours are exceeded,
the customer is prompted to
either pay the $9.95 or forfeit access to the web for the remainder
of the month. After the month
is up, the user can go back to surfing for free. Exhibit
3 highlights the similarities and differences
between the free version of NetZero and NetZero Platinum.
Before 1999, NetZero had
no revenues and operating activities related primarily to the
development of their proprietary zCast software. In fiscal 1999 and
2000 revenues grew to $4.6
million and $55.5 million, respectively. Revenues are generated through
media fees, direct
marketing agreements, and recently through the introduction member
access fees. Costs of
revenues include telecom costs, network equipment, occupancy costs
and personnel and related
expenses of the network.
The success of NetZero is
dependent upon attracting memberships and advertisers.
Consequently, promotion and advertising expenses represent a major
cost of doing business.
Significant amounts have been expended on sales and marketing to develop
a national branding
campaign comprised of television, radio and print advertising, sponsorships
and a variety of
other promotions.
As illustrated in Exhibit
4, NetZero’s results of operations are negative. With cost of
sales exceeding revenues by 20 percent and marketing, promotional and
general administrative
expenses, NetZero’s cost of operations are nearly three times as much
as revenues in 2000,
which does not suggest a well managed operation. At their present “burn
rate”, NetZero will
deplete its cash resources within 18 months assuming they maintain
present revenue levels and
sooner if either revenues fall or expenditures increase.
In addition, NetZero’s working
capital management appears ineffective. Significant cash
balances are earning money market rates while NetZero maintains high
rate borrowings costly
capital leases financings. The financial statement disclosure provided
with the 2000 annual
report suggests low interest loans are made to employees and the company
maintains accounts
receivable from related parties. These actions do not portray a company
with a long-term vision
and suggest the possibility of inadequate financial management expertise.
Click here for
NetZero's annual report.
Since NetZero offers a predominately
free Internet service, its business model depends
largely on advertising revenues. Advertising on the Internet,
particularly the products and
services offered by NetZero, is a relatively new industry, and there
is no assurance that the
products and services offered now or in the future will meet with commercial
acceptance. The
NetZero business model is unproven and a number of other businesses
offering free Internet
access have failed. Increased competition has impacted Net Zero’s growth
and will likely
continue to impact growth in the future, resulting in additional sales
and marketing expenses
that increase user acquisition cost, and result in increased user turnover.
Increased competition could
also result in lower advertising revenue. Since NetZero does
not charge users membership fees
to all its users, the company may not be able to offset the effect
of these increased costs, and may
not have the resources to continue to compete successfully. The
ability of competitors to acquire
other Internet providers or to enter into strategic alliances or joint
ventures could also create a
significant competitive disadvantage.
The recent decline in the
economy is expected to have a material affect on Internet
advertising, which is likely to affect future revenues of NetZero.
This affect, coupled with the
severely diminished availability of an equity market to finance future
operations may pose
devastating consequences for NetZero. A well-considered and defined
strategy is essential to the
company’s survival.
All these difficulties bring
NetZero to a position where they have to decide how to
reevaluate their business model. In view of these difficulties,
NetZero should address the
strategy that would serve to increase revenues through establishing
user fees while at the same
time maintaining growth in advertising revenues.
How should the company structure its paid
service and free service in a way to continue the original value proposition?
The key issues NetZero is facing are as follows:
1. How will NetZero address a fee strategy that will
provide incentive to subscribers to
enroll and, at the same
time, will enhance profitability through competitive pricing and
thereby achieving critical
mass?
2. How will NetZero continue to grow the advertising
revenues in the free service despite
the new limits to be introduced,
which affect advertising reach?
NetZero was one of the first
companies to offer a free ISP service. Shortly after NetZero
began operations, other free ISPs began springing up. Soon, there
were many choices customers
could choose from. However, with the recent decline in tech stocks
and dot-com supporters,
almost all of the free ISPs have left the industry just as fast as
they entered. It was also clear that
many companies became insolvent due to liquidity problems stemming
from being under
capitalized and due to limited revenues. Since these free ISP relied
exclusively on advertising for
revenues, solvency was dependent upon the ability to sustain profitable
growth during the initial
startup period, while a profitable level of advertising base could
be developed. Due to its first
mover advantage, innovative products, and its decision to advertise
on TV with the NBA,
NetZero was able to create brand recognition that was strong enough
to continue to increase its
users. However, NetZero is losing money at a rapid rate.
Although the CEO suggests that the
reason for the creation of NetZero Platinum is to charge abusers of
the service, it is clear that the
revenues were not going to grow while operating under the “free” business
model. To continue
to grow and create a profit, NetZero is looking to gain new customers
from the paid ISP market
by offering its competitive service for almost half the price of the
competition.
Until recently, NetZero received
practically all of it revenues from advertising dollars.
These advertisers came to NetZero because of the company’s large customer
base and
advertising technology. Whenever the customer was online, he
or she was exposed to banner ads
from the advertisers. A user could be online for 12 hours a day
for the entire week, the whole
time being exposed to advertisements. Now, NetZero is limiting
the use of its free service to
only 40 hours a month. This means that for 40 hours a month,
a user of the free service will see
banner ads. However, after the 40 hours is up, the user is prompted
to either pay $9.95 for
NetZero Platinum where there are no banner ads, or discontinue using
NetZero for the remainder
of the month. In either case, NetZero is limiting the amount
of time its customers are exposed to
advertising to only 40 hours. This will cause a decrease in advertising
revenues due the decrease
in exposure.
Recommendations:
In order to address both
of the key issues presented, NetZero must take a unique approach
to reevaluating its business model. It is clear that the company
must continue to offer its free
service so that it does not alienate its current users and core customers.
It must also continue to
sustain its advertising revenues. By offering the free service,
new customers have a chance to
preview what NetZero has to offer. This attribute will provide
NetZero with the means to
continue reaching the critical mass.
To account for the loss in
revenues from the limited amount of advertising imposed by
the 40 hour fixed rate, the company must look to gain this valuable
advertising revenue
elsewhere. In addition to gaining revenue, the company must look
to differentiate its product in
other ways than its price. If consumers perceive NetZero to be
of less quality due to a price half
as much as the competition, the company must educate them. It
is imperative that NetZero show
that its product is worth any switching costs incurred by the customer.
One recommendation that
would serve both purposes is to allow the users to choose what advertising
they would like to
see. For example, people may want to limit their searching for
new software products or updates
on vacation packages. They could choose to receive advertisements
from companies or
industries that interest them. This would be an additional value
added to the customers. This
function would be similar to a personalized Priceline.com or Pricewatch.com
in that the
customer gets the best deal after doing little to no work. In
addition to the value added to the
customers, NetZero would benefit from the advertising revenue that
this would induce.
Advertisers would be willing to pay more money to advertise to people
who request their
products or information. This adds to NetZero’s current innovations
to one-to-one marketing.
In addition to the recommendation
above, NetZero must also look to increase revenues
even further by offering a high-speed service, such as DSL. NetZero
could charge more for this
service and, at the same time, keep up with the increasing demand for
high-speed Internet
access. Earthlink is already working under this model, and it
is imperative that NetZero do the
same. Also, NetZero must continue to gain subscribers by increasing
its brand awareness. With
this affiliation, a stickiness will be created which will give customers
incentive to remain NetZero
subscribers. Customers will begin to recognize that NetZero is
a true competitor in the ISP
market if the company continues to provide more features, customized
innovations, and
partnership agreements that allowed NetZero to be the leader and one
of few survivors of the
free ISP market.