Do you remember that old Toys R' Us jingle? "I don't wanna grow up. I'm a Toys R' Us kid..." Lately I've been hearing that in my head but with slightly different lyrics. "I don't wanna grow up. I'm a Web 2.0 kid..." It's time to grow up Web 2.0 kids. It's time to go out an actually earn some revenue from paying customers. It's a big step I know but failing to take this step means you'll be living in your parents house forever, with mom doing the laundry and dad giving you dirty looks each time you head to the pub for a pint.

I know that the Web 2.0 hipsters don't actually live with mom and dad. Well maybe some do. Most are living in lofts in Williamsburgh or cramped apartments in whatever hip sections (the Mission District?) there are in the San Francisco area. And instead of mom and dad you're being scrutinized by your venture capitalist investors or (even worse) the friends and family who emptied their bank accounts hoping for a shot a internet millions. Stop the insanity and start generating a return on their investments now.

Who Funds Web Based Services?

I think that the general understanding of the economics of doing business via the web has been distorted over the past few years. When the dot com bubble burst back in 2000, earning revenue via web based services seemed like the sensible thing to do.  The door to public investment dollars closed tight. After a few years private investments began to flow back in to the internet space. All it took was a couple of high profile acquisitions of web companies (like Google's acquisition of Blogger in 2003) to start a new gold rush.

The dot com bust had dashed the dreams of many a big thinker who hoped to take an idea with little prospect of revenue and turn it into a windfall. Now the prospect of initial private investment and a later acquisition emboldened them once again. Ditto with the VCs. Once again a genuine path to a profitable exit existed.

To a large extent the current Web 2.0 phase has been funded by tech giants like Amazon, Google, Microsoft, AOL and Yahoo! These companies are like the Fannie Mae and Freddie Mac of the internet industry. They sat there waiting to buy or heavily invest in fledgling companies (like Flickr, Delicious, Jaiku, YouTube, Facebook, Audible and more) to add to their portfolios. The problem is that these internet giants don't have the same appetite for acquisitions anymore. So even though venture capitalists have been funding internet companies they have been emboldened by the expectation that the bigger fish will come along and swallow them up.

Another phenomenon certainly added to the pool of capital available to intrepid internet entrepreneurs. Former Google employees whose bank accounts were bursting due to Google's fantastic stock price gains left the company to become venture capitalists or start internet companies (like FriendFeed, Twitter and Howcast) of their own.

So venture investments lead to companies being acquired which then creates more investors who either create their own web services or invest in others, which increases the demand for more internet services which provides generous incentive for would be internet gazillionaires who want their piece the pie. Got it?

Who Gains From This Economy?

It works much like a good ole pyramid scheme. Those who get in early have the highest chances of cashing out big. The venture capital deals are structured so that the investors are very protected and have the first crack at any capital generated by an acquistion. So the VCs certainly have gained over the last few years.

Companies that offer services to these fledgling web companies also gain as well. It seems like every web company that has popped up over the last couple of years has relied on Amazon Web Services to power their infrastructure. And Google Adsense has become the default revenue source for many Web 2.0 services.

The rush of new web services has also given way to a monetized tech blog phenomenon as people seek to find a guide to the shiny new services and inside information on the deals that may or may not occur. Sites like TechCrunch, Mashable, ReadWriteWeb, Engadget, Alley Insider and many others have grown from the blog category into revenue generating digital publications, read by hundreds of thousands, and supported by fledgling web services who either pay for advertising or supply juicy information. It's a real circle of life folks.

What's Changing?

A lot is changing. You see, the financial world has it's own circle of life. And no matter where you touch the circle you see changes. For example, I'm sure that their are lots of people in Silicon Valley whose wealth was derived in part from real estate. Some took home equity loans in order to invest in venture funds. Some sold homes for outrageous gains and that provided capital to invest in (or start) web companies. Now that the real estate markets have collapsed those folks are hurting bad right now if their investments haven't already cashed out. In the past these people could go to the banks to get money to tide them over but the banks have crashed too. Because of this situation the traditional tech fund investors are much less likely to invest. That's dead end number one.

Because people have been hurt in real estate and don't have the stomach for investing many stocks have fallen sharply over the past year. And the fall in stock price has caused all manner of debt tied to company valuations to come due. So most big internet players have to focus on cutting back to shore up their balance sheets. That means no paying $800 million for the hot social network of the week. The big internet players have put the brakes on acquisitions. That's dead end number two.

The people who worked for big internet companies, especially Google, could count on big bonuses and payoffs when stock options mature. They could also count on being wooed by venture capitialists to run companies who need people with some sort of a big interent history. Since many of the early people have left these companies, those people left behind have less professional cache and less financial incentive to depart and invest in a risky venture. Strike three, you're out.

Moving To A Real Web Economy

It seems to me that all signals point to the need for existing and future internet companies to rely on something other than investment or a big name executive to help create a sustaining business. The name of the game is now revenue. Web companies that have sources of revenue other than advertising will be attractive investments in a world where investment dollars are limited. Likewise revenue generating web companies will be more attractive to the big internet companies who are seeking to add to the bottom line.

A real and sustaining web economy can be created when web services routinely sell something of value to customers who are willing to paying for the products and services delivered. Such an economy requires that investors and entrepreneurs develop a long-term attitude towards web businesses. Those who attempt to flip companies that rely on a free or advertising based business model will often find themselves on the losing end of the proposition, running out of capital with no additional sources of funding available.

Don't Fight What's Necessary

Companies are already starting to make the move. Sprout Builder announced this week that they would be charging a fee for their previously free widget creation and delivery services. Tech bloggers began to cry and complain about the change calling the news "sad" and a "tragedy" that threatens the "democratization" of media. To the bellyachers I say this. The current model doesn't work. If an educational institution or non-profit organization doesn't have the budget to pay $15 per month then there are larger issues at play.

Sprout Builder is certainly not alone in their desire to get involved in the new web economy. Brian Gardner announced that he would be moving all of his Revolution 2 WordPress themes to a paid model. Many others will follow the lead of Sprout and Revolution 2 in 2009. Those who attempt to sustain the free model will falter.

In order for a true, sustainable web economy to exist people must learn to pay for services and web companies need to get in the habit of creating quality services that people are willing to pay for. If that doesn't happen then we should all learn to live with an endless stream of mildly useful services that move into and out of existence at an ever quickening pace. That's not a future that I would like to see.

The Jingle