Startup Review

Grouper Case Study: Dual go to market strategy pays off

written by Jay Parkhill, posted on December 25th, 2006

Note from Nisan Gabbay: This week’s case study was authored by Jay Parkhill, who will be a regular contributor to Startup Review. Jay is an attorney who serves as “outsourced general counsel” to growth-oriented businesses. You can read more about him on his website and blog.

Why profiled on Startup Review

Grouper Networks is the developer of a consumer video sharing site, www.grouper.com, and a provider of white label video hosting solutions to other consumer facing websites. Grouper has created a variety of easy to use tools to support online video creation and distribution. Grouper was acquired by Sony in August 2006 for $65M in cash, at which time it claimed approximately 8M unique monthly visitors.

Interviews conducted: Dave Samuel, co-founder and President; JD Heilprin, entrepreneur, technology and media consultant, founder of RioPort.

Key success factors

Changed product direction from offering a download-based peer-to-peer sharing network to a web-based platform

Grouper launched its first product, a P2P network designed to facilitate sharing of media among small groups, in October 2004. The founders, Dave Samuel and Josh Felser, believed strongly that media sharing would be an important phenomenon, but that it should be done without the massive copyright violations of other P2P networks. As such, the product was designed to permit only 30 people to be part of any network.

In April 2005, the company realized that online video was becoming increasingly important and that the closed “darknet” P2P model would likely not generate sufficient business for the company. Grouper retooled its product and re-launched in December 2005 as a destination site for online video. As a result, Grouper’s user traffic increased from 100,000 to ~8M (as reported by the company).

The tremendous increase in user adoption is best explained by removal of the barriers to viral adoption inherent in the initial product. Version 1.0 was limited to 30 users per network and required a download. It was therefore difficult for users to share either the content or the platform itself. Version 2.0, by contrast, allowed users to share video simply with just about anyone.

Provided simple tools to enable sharing

Almost from the launch of version 2.0, Grouper sought to emphasize ease of use. They took clues from Flickr and other companies by making Grouper’s APIs simple, prominent and easy to integrate into other web sites. Grouper was also one of the first, if not the very first, to offer one-click posting of videos to MySpace, Friendster and blog pages. Most sites, including YouTube, generated HTML code for users to drop into their page in order to stream a video. Grouper instead streamlined this process by automatically inserting the HTML code on behalf of users. While seemingly a small difference from what YouTube was doing at the time, it actually enabled a large audience of less tech savvy MySpace users to post videos to their profile pages.

Pursued twin goals to be a consumer destination site and a technology provider to other sites

At the same time that it grew the consumer-facing website, www.grouper.com, Grouper also developed co-branded video hosting sites for other online communities, most notably Friendster. These co-branded sites helped to drive more video traffic and positioned Grouper as a player in the video ad network market.

This base of technology for creating distributed video hosting solutions was an important factor in Sony’s interest in acquiring the company. The other interesting piece of technology Grouper developed was its P2P application, which does not use the BitTorrent technology common to many other P2P clients.

It is noteworthy that Grouper was able to effectively pursue the consumer-destination and the back-end approaches simultaneously. Most start-ups struggle to achieve one set of goals with the limited resources they possess. It helped that Grouper was reasonably well-funded with a $4M round of financing in March 2005.

Focus on copyright-legal material

Providing online content without violating copyright was an important component of Grouper’s business from the outset and continues to be a differentiator between Grouper and many of its competitors. It seems likely that this strategy increased the company’s appeal to Sony. At the same time, I find this point to be a bit of a double-edged sword. Without trying to suggest that copyright infringement should be condoned, it is nevertheless clear that a major factor in YouTube’s runaway success has been the availability of content with little apparent regard for ownership rights. It seems unlikely that another video business will be acquired for anything close to YouTube’s valuation, but the line of thinking leads to some fascinating questions. Would Grouper have taken off more quickly if it had been less scrupulous about content? Conversely, would higher traffic tempered by greater litigation risk have affected Sony’s purchase valuation?

Launch strategy and marketing

As described above, Grouper’s success came in the second iteration of its product. Dave explained that the 2.0 launch and marketing strategies were focused entirely on viral distribution efforts. The company did not have a formal marketing program, although it did engage in a sustained PR effort in order to get word out about the site. Grouper coupled its emphasis on viral distribution with search engine optimization tactics that also yielded good results. Grouper developed video indexing and search optimization tools that gave a big boost to traffic in the time before every major internet portal, especially Yahoo!, had its own video area.

A major challenge Grouper faced was the difficulty in re-tooling completely and changing from a behind-the-scenes P2P application to a public-facing web business. While I noted above that Grouper’s ability to maintain the P2P component probably helped its exit valuation significantly, it is equally important to note that had Grouper re-tooled sooner they may have captured a greater share of the online video market.

Grouper decided to refocus on video in April 2005, but did not launch version 2.0 until December of that year. YouTube launched in June 2005, meaning that it had a six month headstart before Grouper launched its competing product. In our interview, Dave explained to me that it was both practically and emotionally difficult for the company to let go of the previous strategy and restart in a new direction.

The Xfire case study provides a useful contrast here. Xfire also changed direction, requiring about six months to introduce its IM gaming product. The key differentiator, in my opinion, is that Xfire entered a market that competitors had not yet figured out how to effectively serve. Grouper did not have that luxury due to the rapid rise of YouTube and other online video sites.

Exit analysis

Prior to the sale to Sony, Grouper discussed further rounds of venture investment, and received a term sheet that was rumored to value the company at approximately half of what Sony paid. I asked Dave what caused the decision to sell, and he told me that when management reviewed the increasingly crowded video space and the amount of VC money looking to enter it, they decided that the best way to “win”, i.e. increase traffic to the site, was to partner closely with a company that could provide cash as well as a unique set of complementary assets, especially video content. The Board likely reached the conclusion that given the competitive nature of the market, it probably made the most sense to take a solid return rather than to keep swinging for a homerun and risk striking out.

No one factor made the deal compelling to Sony, but the aggregation of several elements added up to a successful exit. Specifically, (i) the site’s traffic was in the top 15 among video sites, ahead of at least 200 others but well behind YouTube and several other sites; (ii) the P2P platform is likely useful to Sony, but I find it difficult to believe that Sony could not have bought or developed another distribution platform for less than $65M; (iii) copyright compliance is an important differentiator for Grouper, though again not difficult to replicate; and (iv) the Grouper management team had established its credentials in the online media space. Sony did not acquire Grouper for any one of these attributes more than the others, but all together they added up to a business Sony felt it could use as a launch platform for its online video/media efforts.

Food for thought

It is rare to find a company in the Web 2.0 landscape that has successfully created a destination site and an OEM service. Grouper executed well on both of these product lines, and having both businesses played a key role in their acquisition by Sony. We asked Dave to comment on the benefits of pursuing this dual model: “at Spinner we had this program called “faceplate” … it was our OEM program for Internet Radio. We built Snap (cnet’s) radio. We built Comcast radio. We built Yahoo radio. When AOL came knocking, they purchased us. At Grouper, the OEM partnerships (Friendster, Buy.com, Pure Digital) were all very important for the company. They demonstrated our willingness and ability to integrate and partner with 3rd parties. Which is what happens when you are acquired. I definitely recommend that any entrepreneur examine how they can partner with companies. And many times, these partnerships will help find the acquirers.” Thus, OEM partnerships help to validate the likelihood that a start-up can be successfully integrated into an acquirer.

Reference articles and further reading

Sony Reels in Grouper, Light Reading, August 23, 2006. Timeline of company and discussion of balance between P2P and website-based video sharing.

Wow – Grouper Sells for $65 Million, TechCrunch, August 22, 2006. Discussion of Sony acquisition and basis for purchase price.

Ruthless enough for a startup? Geeking with Greg, November 14, 2006. Blog post questioning whether anti-social behavior is required for a Web 2.0 success. Amusing, if unresolvable question in regard to Grouper’s stance on copyright.

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