Are Social Networking websites the Next Bubble?

It seems to be a universal mantra of Social Networking websites: “We’re more interested in growth than making money.” This is great in theory. The thought process is logical: 1) Don’t worry about money 2) Become the “next big thing” 3) Then figure out how to make money (or in the vernacular: “Monetize the offering”). However, there is a flaw. While these Social Networking sites (Facebook, Twitter, YouTube, etc…) are gaining popularity and amassing user base, they are operating at a loss (Twitter hasn’t tried to make a profit yet, Facebook continues to operate in the red, and YouTube is expected to lose up to $470 Million in 2009).

Looking at the broader value equation, Social Networking websites are providing value to users by streaming content to them. However, the users are not providing enough value (in the form of advertising revenue) to the Social Networking websites. The equation doesn’t balance – see the chart below.

In order to balance the equation (or even flip the equation and start making a profit) Social Networking websites have to find a way to get more value from users. The catch is that they have to find a way to get more value from users (e.g. more ad revenue) without lowering the value that they are providing to users (user experience, bandwidth). Attempts to increase ad revenue at the expense of user experience have been met with outrage from the user base (see Facebook’s Beacon). The challenge is to simultaneously grow value on both sides of the equation (e.g. by offering advertisements that enhance user experience). The concern is this may not be possible and if the above diagram is indeed a zero sum game, Social Networking websites will be the next bubble.