A Social Strategy for Kiva - Part 2

In Part I of this post we blogged about how Kiva stands to benefit greatly by adopting a more social design and, more importantly, incorporating game-like mechanics to expand its user base and create a rich, engaging environment for lenders.  On Friday, GamesBeat (VentureBeat) published a post on the trend in "gamification" of applications, and how VCs are increasingly putting money into this space.  While not expressly referencing microfinance, or Kiva, the post does cite financial services as one industry ripe for gamification.

Then, in the midst of our research on gamifying Kiva, we ran across something very interesting - UNICEF's new Facebook app, Help a Child, which allows users to adopt a virtual child and to purchase virtual goods such as vaccines and clothing.  The revenues then go to support real-world UNICEF programs.  Help a Child appears to satisfy two goals - to raise awareness of UNICEF's important mission, and to raise money.  Users (i.e. donors) are kept more engaged (giving) through the game environment, and UNICEF gains a revenue stream through microtansactions generated from the sale of virtual goods.

We've decided that this topic deserves a bit more attention than what can be presented in a blog post or two.  So rather than focus solely on Kiva, we're taking this problem to our drawing board and working on designing a gamification strategy for micronfinance in general.  And we're going to publish it.  Soon.  Stay tuned. 

A Social Strategy for Kiva - Part 1

In her widely-read report on Internet trends, current Morgan Stanley (soon to be Kleiner Perkins) analyst Mary Meeker poses an interesting question: Do humans want everything to be like a game?  Given what's happening across the Web, it's hard to answer anything but yes.  Life, as we well know, is largely a game, yet it's difficult to imagine certain aspects of life acquiring game-like features.  Money is one of those aspects (with the exception of online trading which, more than ever, resembles video gaming).

But back in July we shared our opinion that financial services represents the next frontier for social gaming.  Imagine our excitement when recently we learned how Kiva, theP2P microlender, views social game juggernaut Zynga, not other nonprofits, as a competitive threat.  Kiva sees the user engagement of Zynga's wildly successful social games as mounting a competitive challenge to its growth strategy.  Games such as FarmVille command large audiences of highly engaged users, users who might otherwise peruse Kiva's website to look for microlending opportunities.  Kiva concedes that if they are to raise their forecasted $1 billion in microloans by 2015, then it must integrate more game-like mechanics and social features into its business model.

The success of Zynga games such as FarmVille, FrontierVille, and CafeWorld is truly breathtaking.  FarmVille alone commands a Facebook audience of over 53 million monthly active users.  How can Kiva, with a (respectable) 300k monthly uniques and 802,571 users (of which 507,302 have funded a loan), possibly hope to compete with such a Goliath?  Our recommendation is simple:  Don't beat them - join them.   We believe a Kiva-Zynga strategic partnership is Kiva's best bet for rapid and cost effective deployment of the social architecture it seeks.  But a knock-off ("MicroVille") of one of Zynga's social games would not be advisable.  The space is already overcrowded, and a simple game, if not carefully crafted, could potentially undermine the legitimacy of Kiva's social mission.

In part 2 of this post we will share some ideas on how Kiva can become more social, as well as some Kiva-Zynga deal structures designed to help put an effective social microlending strategy in motion.

In Defense Financial Engineering

These days it's fashionable to beat up on financial engineers and financial innovation in general, and understandably so - this discipline has been at the epicenter of the crisis we are currently facing.  The creation of "financial weapons of mass destruction" is, perhaps, not the most noble of pursuits, much as, say, the design and development of nuclear weapons.  There are surely people who would argue that better, more efficient nuclear weapons are necessary for the safety and security of our nation (or the world), whereas others will argue what's the difference: they're just going to kill people regardless, and why can't we devote the resources to the design and development of things that promote peace.  Interestingly, this argument appears to have been taken to an extreme when debating the need for financial innovation and Wall Street as a whole.  It seems that the horrific effects (and very real threat, as we see on the Korean peninsula) of a nuclear war, while highly undesirable, are no match for the clear and present danger of lost incomes and lost homes.

Whether we need nuclear weapons or not is not the subject of this post, however it is somewhat relevant as we ask ourselves whether we need financial innovation, or whether financial innovation adds value to everyday life.  If we believe such notable economists as Paul Volcker, the answer is no.  Mr. Volcker, you'll recall, was the one who asserted that the only useful financial innovation of the last 20 years was the ATM.  Google "financial innovation" and you'll see a slew of articles, papers, and reports skewering the industry and calling into question financial engineering as a discipline.

But to condemn the discipline of financial engineering as a whole is like condemning mechanical engineering for its contribution to the development of nuclear weapons.  It's just not fair.  Believe it or not, financial engineering isn't (and doesn't have to be) limited to the development of highly complex structures with little apparent regard for social good.  Securitization, for example, is regularly employed in the microfinance space as a means to distribute credit risk and ensure liquidity and funding availability.  Financial engineers are helping to wage the war against global climate change through the development of financial instruments used in the trading of carbon credits.  And financial engineers regularly contribute to the successful operation of institutional investors such as pension funds and charitable trusts which, last we checked, contribute significantly to the social good.

In fairness, Volcker's attack on financial engineering was from an economic growth perspective, not the betterment of society.  But are these goals mutually exclusive?  Maybe there isn't a "shred of evidence" that financial innovation has made a meaningful contribution in this regard, but some perspective is desperately needed to inform the public debate.

The Tyranny of Friction

My kids have the day off today, and they each invited a friend over to "hang out" (we dare not call it a "playdate" anymore). Eventually the question of lunch arose.  The question was not so much what to have (it would be pizza), but where to get it. In all there are around 8 different pizza brands that deliver to my neighborhood, but my family's choice is driven by 1) taste and 2) reliability of delivery. Personally, I place a higher value on the latter, however taste usually rules the day.  In general don’t care how great the pizza tastes, if you can’t get it to me in under 45 minutes when I have hungry mouths to feed, you’re off the list.

Flippin’ Pizza is currently my family’s favorite, so I picked up the landline and prepared to phone in my order as I always do. Unlike Domino's (the other family favorite), Flippin’ Pizza does not offer online ordering.  However, in the interest of reliability (and taste!), I'm willing to accept the hassle of dialing, waiting on hold, placing my order, saying no to the various cross-sell offers, then reciting my 16 digit credit card number, expiration date, and 3 digit security code.  That is, as long as someone picks up the phone, and they do not put me on hold.  For more than three minutes.  Twice.

While I was on hold for the second try with Flippin' Pizza, I picked up my iPhone and went to dominos.com to see if Domino's had a mobile website as well.  They did.  I logged in (I have multiple locations stored at Domino's for delivery - home, pool, skating rink, etc.), and began to enter my order.  Other than a slight delay due to bad reception, my order was entered, credit card info entered, and order submitted before Flippin' Pizza even came back on the line.  I hung up.  Domino's arrived 30 minutes later.

Flippin' Pizza had lost my business due to something those in the business world know well – friction. Other than competition, friction is the mortal enemy of revenues. Friction is what keeps customers from buying your product or service because, well, it was just too damn difficult. In my case, the friction came in the form of a deceptively straightforward landline phone call.  Not only did Flippin' Pizza lose my order, they are potentially losing countless others not only due to customer frustration, but by not adopting a by-now widely accepted sales channel - the Internet.

So what does pizza have to do with financial services?  Actually, a lot.  The financial services industry, being largely a commodity industry, is highly sensitive to friction and the need to mitigate, if not entirely eliminate it from the business equation.  The competition is simply too fierce to do otherwise.  This is why our industry is so often an early adopter of cutting edge technologies designed to further mitigate friction.  We see this in retail banking, in securities trading and processing, and in electronic payments.
 
There is, however, one space within financial services which has, until recently, been able to skate by with considerable friction - capital formation.  Why?  Imagine a marketplace with almost unlimited demand and a relative handful of suppliers to meet that demand.  We would expect to see high prices for that product or service, and we would expect to see little if any effort to grease the sales machinery.  This is exactly the case today with venture capital.  If we think of entrepreneurs as buyers, and funding sources (angels, VCs) as sellers, then clearly there is not much incentive to provide a frictionless marketplace.
 
While it's true we are living in times of unprecedented uncertainty, we are also living in times of incredible innovation and pent-up economic growth.  The problems of the world are many, but there are also many highly driven, smart people willing to solve these problems through market-based solutions, and who are willing to create meaningful jobs for people who, like them, want to change the world for the better.  What they lack, however, is capital.  The capital formation process is, in its current form, rife with friction.  Part of this is due to the apparent lack of liquidity opportunities for strategic investors, part of this is due to perceived risk, and part of this is due to the need for innovation targeting the friction at the very core of the process.

Sites such as GoBig, DealHorizon, TheFunded, MyVenturePad, and AngelList are examples of the type of innovation necessary to minimize or eliminate friction from capital formation.  But even greater opportunities exist in the development of social financial structures which would enable individual investors to participate directly in the funding of new ventures.  We have seen how the "democratization" of investing in established, publicly traded companies has been a key driver in economic growth during the 20th century.  Mutual funds, for example, were in fact one of the first "social" financial instruments by pooling the assets of anyone with a few hundred to a few hundred thousand dollars willing to share in the risk and potential reward of stock ownership.  And thanks to the explosion in the social and mobile Web, the 21st century has witnessed an incredible acceleration in social financial innovation in the personal finance space with P2P lending and mirrored investment management, as well as mobile payments, banking and trading.

The next frontier looms large - getting capital in the hands of start-ups and growth companies who will lead us out of this economic malaise.  Innovators in this space are already hard at work, but considerable friction remains - reactionary regulators, entrenched business models, economic uncertainty.  The infrastructure is in place - witness Facebook with 500 million users.  Clearly a more social model for frictionless capital formation is not only possible, it is essential.

Game On

Once upon a time, finance, like health, was a private matter.  Discussions regarding personal financial decisions were conducted largely behind closed doors - between spouses or between individuals and their financial planner, broker, or accountant. With the advent of the World Wide Web and the creation of investing chatrooms and personal finance websites such as The Motley Fool, financial matters began to become a bit more public.  Perhaps it was the perceived anonymity of the Web, or the interaction with strangers who would not pass judgement, but having personal financial discussions in cyberspace became increasingly acceptable.

As finance in general became a social matter, a parallel phenomenon unfolded in the retail securities brokerage space.  Information technology revolutionized and even democratized financial services in the roaring 90s, and the rise of daytrading gave birth to the idea that "playing the markets" was a potential way for patient, disciplined traders to eke out a living.  The wild bull market of the latter 90s, and a frothy IPO market only served to bolster this belief, and "casino capitalism" continued to progress.  Surprisingly the eventual dot com explosion did little to dissuade the day trading appetite among investors, and as opportunities in equity markets dried up, enterprising companies sought to democratize a new asset class: foreign exchange.  A multitude of brokers popped up during the early and mid-2000s offering access to this trillion dollar marketplace at affordable rates.  Whereas the highly volatile FOREX markeplace was once the province of central banks, banks, and multinational corporations, it is now a playground for small investors with as little as $250 to trade.  FOREX is now one of the most popularly traded asset classes among retail securities traders.

Today, finance is truly social.  KaChing, Covestor, Zecco, and TradeKing are examples of both brokers and asset managers whose business models are actually built on a social media platform. Others have bolted on social media to enhance their value.  Despite the explosion in social media over the past three years, however, brokers and asset managers have lagged behind in terms of innovation, adoption, and the number of home runs in the space.  Of course, they can be forgiven for this - the industry has had bigger fish to fry.  Things like solvency and survival have understandably trumped IT spending..

What, then, is the next phase in the evolution of retail brokerage?  As finance continues to become more social, more interactive, and brokers offer increasingly lower commissions and cutting-edge trading technology, the securities brokerage landscape is changing.  Lowering commissions means emphasizing volume, and that means encouraging not an old-school buy and hold approach, but high frequency trading.  This fundamental change in philosophy is justified on a daily basis by unprecedented volatility in the financial markets, and reinforced daily by the new financial media - bloggers, twitters, and vloggers who publish up-to-the-second trade ideas designed to exploit short-term movements in stocks and FOREX.  This, coupled with social features that enable traders to mirror the trades of other "players," provide real-time ideas and analyses to followers, and even compete for prizes and a spot on the "leaderboard" can only mean one thing: financial services is rapidly become the next frontier in social gaming.

RIP Wesabe

It's always sad when any business is forced to shut its doors.  More than just a cash-generating entity, a business is also the manifestation of a dream, the real-world expression of an original idea and the unending toil necessary to bring it to life and to sustain it.

Wesabe is an example of a company with the right idea, at the right time, but with incomplete execution.  Wesabe's early success was impressive, and was largely due to the novelty of what it offered: the ability to manage the entirety of one's personal finances in one place.  The aggregation of personal financial data - credit cards, bank accounts, bills - was truly revolutionary, and in an era of increasing economic uncertainty and complexity, was embraced by many consumers.  Online personal financial management (PFM) seemed to have almost unlimited growth potential.

But Wesabe faced a host of challenges along the way, not only in the form of competitors (Mint, Geezeo, Jwaala, and Yodlee, to name a few), but a lack of revenue model.  In those "early" days of Web 2.0 (four years ago), the prevailing business model was (and in many cases, still is) free.  That is, offer the product for nothing to generate buzz and a sizeable user base, then monetize later.  Of course, sustaining operations in the absence of meaningful revenue can be a true test of faith (and capital), and investor patience is only so long.  Mint, Wesabe's chief competitor, realized early on how to leverage its data to generate substantial revenue via targeted ads.  Nine months ago Mint was acquired by Intuit for $170 million.

Wesabe went a different route, seeking to white label its product to credit unions.  Springboard, as it was known, only generated moderate success, and Wesabe signed on a handful of licensees.  Fierce competition from Yodlee and Geezeo posed a sizeable challenge to market penetration, and the Mint acquisition meant that Mint would be deployed to the 1,800 banks and credit unions serviced by Intuit.  As resources were allocated to the development of an institutional market for its product, Wesabe's ability to service its consumer user base slowly degraded.

Wesabe's failure may be due to a host of factors, but surely at the center lies a fundamental crisis of business identity.  The lesson for start-ups in any industry is clear: know who your customer is, and have a viable revenue model from the outset.

What Next for Bebo?

While the world ponders the breathtaking value destruction resulting from AOL's sale of Bebo to Criterion Capital Partners, we have been pondering the value of an ailing social network to an obscure private equity firm, one which, according to an AOL employee memo, "specializes in facilitating growth plans and turnarounds."

Since AOL acquired Bebo two years ago, site numbers have been dropping fast in the face of formidable competition from Facebook and MySpace.  AOL's $850 million bet on outsize ad revenues stemming from user growth never materialized.  Recognizing that Bebo would require a "significant investment in order to compete in the competitive social networking space,"  AOL threw in the towel in last April.

The question, then, is how does Criterion intend to realize any value from Bebo?  Assuming Criterion paid the reported amount of $10 million, that's less than $1.00/user (some media outlets are reporting a sale price as low as $2.5 million, in which case the cost/user drops to around $0.21). We've developed a few possible scenarios.

Scenario 1: 
Criterion paid less than replacement cost for Bebo.
Criterion may be planning to liquidate Bebo and sell off the underlying technology IP to the highest bidder.  The Bebo brand lacks any meaningful value.  However, given the scale, depth, and complexity of the site's architecture, the technology powering Bebo could conceivably be quite valuable to a company looking to quickly deploy a social network.

Scenario 2: 
Criterion intends to flip Bebo.
Criterion may have been in the right place at the right time as AOL was anxious to offload an underperforming asset.  Bebo's young (18-24), 12 million member user base could be extremely valuable to a trendy teen or twentysomething media company looking to buy a social media audience.  With a minimum additional investment (or maybe none), Criterion could realize a respectable return in a very short holding period.

Scenario 3:
Criterion believes Bebo can be saved in its current form.
Criterion may believe that Bebo has been the victim of uninspired management, and that, by implementing a creative, imaginative turnaround strategy, could be rehabilitated.  As pageviews have fallen off a cliff, Bebo's ad revenues have surely followed suit, so the difficulty here would be creating a unique, engaging user experience - one that is sufficiently sticky, that can be monetized efficiently (see scenario 4), and cannot be obtained via other social networks.  Perhaps Criterion intends to reinvent Bebo as a social network devoted exclusively to gaming or music or other interest.

Scenario 4:
Criterion believes Bebo can be monetized virtually.
Until recently, advertising was key to generating revenue on social networks, which meant constant pressure to grow the user base and generate pageviews.  Nowadays, however, networks are gradually diversifying their revenue stream by adopting a model driven more by user engagement.  Gifts and social games integrating virtual goods are increasingly becoming the standard for social network monetization.  This may very well be Criterion's plan for Bebo.  Given the young demographic, and the explosive growth in (profitable) social gaming, Criterion could be looking to redeploy Bebo as a game-centric social network similar to myYearbook.

Regardless of the outcome, AOL's sale of Bebo at a near-total loss serves as a cautionary tale for social network acquirers going forward, and could have a chilling effect on future transactions.

Our kaChing Presence is No Longer

If you've been monitoring the DRS Advisors portfolio on kaChing as of late, you may have been shocked, as we were, when our portfolio jumped nearly 1500% overnight.  It didn't take long before we zeroed in on the cause:  Our position in E*Trade had not been properly adjusted for the company's recent 1 for 15 reverse stock split.  We chalked it up to a bug, and waited for a day for the problem to be resolved (presumably other portfolios had experienced the same problem).  When two days went by without a fix, we became curious and when we went to the application to alert tech support, we were greeted with some unwelcome news.  As of Monday, June 7, kaChing would no longer be supporting its Facebook application, InvestingIQ.  Going forward, the company would be fully devoting itself to providing a one-stop, turnkey solution for small money managers.

Needless to say we are disappointed.  kaChing has been an integral part of our social media presence, enabling us to conveniently publish our equity research and manage a virtual model portfolio.  Our "IQ" was on the rise, and we were steadily on our way to qualifying as a "Genius" and moving from virtual asset management to running real money.  Sadly, our trajectory has been altered by kaChing's decision to focus solely on established Registered Investment Advisors. 

We have launched a search for a suitable replacement, but kaChing's unique business model, clean interface, and reliability may be hard to duplicate.  There is no shortage of virtual stock trading services populating the Web, but, unlike most, kaChing's provided aspiring money managers with a legitimate platform to prove and promote themselves, to cultivate a following and build a track record.

We hope to have our investment research back online soon.  Stay tuned.

And We're . . . Back

You may have noticed that I've been way for a while.  My seven month sabbatical was both an unplanned and unwelcome one.  Last October my wife was diagnosed with breast cancer, and for the past seven months I've been managing her care, as well as much of everyday life at home.  I simply had no choice but to put DRS Advisors on hold while we worked through this battle.  In addition to exacting an enormous physical and emotional toll on its victim, cancer is a full-time job.  Fortunately, this story has a happy ending.  After two surgeries and radiation (but, mercifully, no chemotherapy) my wife is cancer-free and on the road back to her normal life.

In the brief moments between accompanying my wife to doctor appointments, battling with insurance companies, or getting the kids out the door in the morning, I thought about DRS Advisors.  I knew the business model had to change.  If the last seven months has taught me anything, it is that life can pull the rug out from under you at any time.  And for me, more than anything else, my business needs to conform to my life, not the other way around.  There needs to be balance.

The result is a new structure which I believe is a more accurate expression of what I am seeking with DRS Advisors.  We will no longer focus exclusively on advising clients (though we will still do so on a select basis). Our focus will be exactly what our tag line says: Insight. Innovation. Solutions.  We will be focusing more on generating high-quality content focused on social media investment banking.  We will be focusing more on the research and development of innovative financial structures and transactions.  And finally, from time to time, we will provide financial advice and solutions.

What exactly does this mean?  This means that DRS Advisors is now a "digital" investment bank - a unique hybrid of financial services firm and digital media company.  We will conduct our business almost exclusively on the Web across an integrated array of social media (alt.capital, Facebook, Twitter, SlideShare and the like).  We will provide timely and actionable ideas for deployment by leading financial institutions - boutiques, full-service firms, sovereign governments, and multilaterals.  We will provide a welcome and original voice on financial matters in an increasingly crowded and watered-down blogosphere.

Can we make it work?  Time will tell.  But there's something about renewing a personal commitment that is uniquely empowering.

Here's to the future.  It's good to be back.