Chez Serge

I have seen many people, many post, many blogs, talking about the long tail.

It is not my purpose here to explain what the long tail is. Well, it was  not. Until I realized that many people did not understand exactly what the long tail is. To make it brief, many people confuse the long tail with Pareto distribution, or, in a broader sense, Power law. But the paradox is that long tail effect is, in fact, somehow flatening the power law.

Long tail is about something slighty different : long tail is about the size of the catalog. This is visible in the october 2004 original article by Chris Anderson, but it has been mathematically formalized in a paper published in october 2003 at MIT – Sloan School of Management, called “Consumer Surplus in the Digital Economy : Estimating the Value of Increased Product Variety at Online Booksellers“.

What is interesting in this paper ?

First, it states that the size of the Amazon catalog, when it is about books, is about 23 times the size of the Barnes and Noble catalog, and 57 times the size of an independant bookstore. This is true also for CD, DVD, etc…

Amazon has a very interesting sentence : “everyday, we sell more books that we did not sell yesterday than books that we sold yesterday”. This is the opposite of mass marketing, which tends to sell the same thing everyday.

Second very interesting idea : the pareto law still applies, but it moves from 80-20 to roughly 70-30. The distribution tail is growing. This can be seen on table 4, which shows that books after position 250.000 (which means 90% of the catalog) accounts for 29,3% of sales. The tail is flatening.

Third very interesting point: a huge catalog increases consumer spending. In this case, the paper estimates a move from 731M US$ to 1 billion US$.

This was in 2003. What about now ?

Let us make this experiment : let us type ipod in the search engine of some online and brick and mortar store.

• bestbuy.com : 94 products

• Amazon.com (electronic department) : 32356 products

Let us search books about ipod.

• Barnes and Nobles : 141 items

• Amazon.com : 13926 items.

The size of the catalog keeps on increasing. What would be the impact of this ? Huge customization, community marketing, nich marketing, but, overall, a flatening of the tail. Which would mean somehow the end of power law, the tail would no longer be a tail, the statistical distribution transformed, clusterd into category of products, of course some being more bought than others, but not that much.

How can traditional brick and mortar manage this ? This is the question.

Traditional business is usually a vertical one: companies buy raw material, assemble them, and create products and / or services which they deliver to customers. Even Google, one of the most recent powerful enterprise, is following this model : Google buys computers, adds an algorithm, and deliver a set of services (this is of course a simplified vision, but not a wrong one). The innovation of Google relies in its business model: the core service (the search engine) is free, while the peripheral service (advertisment) is paid. But it is not a paradigme shift.

However, there are some interesting little signals of traditional industries moving from this vertical model to another one: an enterprise who manages a market place. Here are a few exemples.

• A traditional auctioner sells goods to people. Ebay creates a world wide community of people who trade together.
• A traditional bank loans money coming from its suppliers to their customer. LendingClub, like many other social lending companies (Prosper, virginmoney, zopa, ppdai, dhanax, fynanz, etc..) creates a marketplace where people loan to other people.
• A traditional major record musics from artists, and delivers it to customers. Sellaband, like many other sites (SliceThePie, spidart, indiegogo, etc…), creates a platform for people to invest into music, or film, and get revenus on the sale of the album, or the movie.
• A traditionel telecommunication operator buys products to create a network infrastructure to sell minutes, or bandwidth, to customers. Fon creates a marketplace where people do exchange their Internet access.

The underlying business is not yet huge. The social lending market was 647M dollars in the US in 2007. Not big, but it was 269M in 2006; a very good progress. Could this move amplify ? Well, there is no reason it could not, except if traditional businesses, or the regulator (when not the two..) fights againts this; the social lending space has been recently shaked: Zopa is closed in the US, Prosper halts operations, all because of non compliance to SEC regulation. Only LendingClub resists so far.

But I still believe that this move may generalize. I recently discussed with a retail brand who sells food products in many shops over the country. The trend is there: customers want fresh products coming from less than 100 miles away. Well, what happens if, economic crisis helping, people start producing fruits, vegetables, in their own gardens. What happens if the retailers becomes an intermediate between, on one side, his customers-consumers, on the other side, his customer-producers ? He then starts a local market place…

Therefore, I would propose to work on a new economic indicator of a “Enterprise 2.0″ : the ratio of the horizontal money which flows between customers, to the revenue of the company. This indicator shows how many dollars are exchanged between customers in the marketplace for one dollar of revenue.

There is a case where this indicator can be easily computed: when a company earns a percentage of a transaction, the indicator is the reverse of the percentage. If we assume that ebay is a company which earns 2,5% as an average, the ratio is 40.

Linden Lab is another interesting company: if we assume that it generated 40 M dollars of revenu in 2007 (my guess after talking to them), and if we assume the SLifers exchanged 400 Millions dollars, the ratio is 10. Not bad.

On the other side of the scale, a traditional telecommunication operator, though delivering a service which is personal communication between people, is totally unable to generate any financial flux between his customers. I once proposed to a telco to create marketplaces where customers could exchange SMS, or even trade phone minutes. The answer was “are you crazy? We do not want to see a decrease in our revenues”. For telcos, the ratio is zero…

Interestingly, in traditional business, companies who already do trading between customers want a high percentage, therefore a low ratio.

The indicator I propose does not mean a low percentage, but rather the capacity to create a dynamic marketplace between customers.

It is a totally new approach.

Some times ago, I was doing a conference for Lunch@Circle, a French think tank. And they interviewed me.

It is a condensed form of all my thoughts about the fact that innovation carried by Internet takes its sources on the way Internet was built. Looking at the governance of the Internet enlights the dramatic paradigm shift that we are just starting to experience.