GenuineVC David Beisel's Perspective on Digital Change

January 9, 2006

Consumer-facing internet service business models can be boiled down into three simple steps – acquire users, add value, then monetize these users. In other words, buy traffic cheaply and then sell it for a richer price.

This traffic cycle continues from one ad-supported site to the next until it reaches a cash-point node in the chain, where the user either pays for a service outright or purchases an offline good. While paid advertising can constitute either or both “acquire”/”monetize” steps (i.e. you can buy ads to attract users or sell ads to monetize them), buying and selling can take other forms as well. For example, engaging in blogging and other PR activities which attract users takes time, and therefore money, to “buy” them.

I become frustrated when people use the term “arbitrage” to describe the types of business which buy traffic at a low price and sell it at a higher one. Isn’t that what all business do? Buy raw inputs, assemble them to create value, and then sell the end result? Wikipedia defines arbitrage as “the practice of taking advantage of a state of imbalance between two or more markets: a combination of matching deals are struck that exploit the imbalance, the profit being the difference between the market prices.” Sure, there are many examples of online arbitrage opportunities (for example, exploiting the differential in pricing among CPM, CPC, and CPA ad markets through affiliate programs). However, the majority of online services are creating real value for users, and, as such, aren’t arbitrage per se. Semantics, perhaps, but a clear and reasonable distinction in the conversation about the economics of traffic and online services.

  • JH
  • Keshava

    Another reason why this may not be considered arbitrage – in many cases, these sites will acquire traffic at a premium to the amount of revenue they get from that one visit. The key to those business models lies in creating compelling content that will cause visitors to come back over and over again (presumably without clicking through an ad each time).

    In these cases, it become more of the standard model, with up front acquisition costs eventually driving repeat revenues. Hard to confuse that with arbitrage.

  • just.a.guy

    the piece missing from your definition of arbitrage is that arbitrage is entering into the buy and sell side of two transactions for the same asset without assuming any risk.

    you can arbitrage currencies when the exchange rates fluctuate.

    the traffic analogy and the manufacturing analogy are NOT arbitrage by any stretch of the imagination because there is risk in the assets required to produce the opportunity. be it inventory, building a site or content, or even the probability that bought traffic converts to sold traffic (another type of inventory risk, actually), the examples cited all entail risk and are therefore strictly NOT arbitrage.

    yes, it’s a semantic difference, but it’s an important one.

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