Reinventing HOTorNOT, Part I

Reinventing HOTorNOT, Part I

Wednesday, June 27, 2007

Ever since I came back to HOTorNOT in October 2006, people have been asking me what the company is up to. For the previous 6 years, HOTorNOT had pretty much been steady along the same course: A picture rating site with a dating-like application built on top (without the seriousness of a dating site) that generated healthy amounts of cash for my cofounder Jim and I. For the first 3.5 years, it was Jim and I working about 10 hours a week each, with the company earning many millions of dollars per year.

Then 2 things changed, and we realized we had to change with them:

1) Startup economics improved, making it harder to keep good people

2) The Online Advertising Market improved, making free competitors a reality

1. Startup economics improved, making it harder to keep good people

Three and a half years into running HOTorNOT, Jim and I grew tired of having our personal lives dictated by the health of the website. So we decided to hire employees to help us run the cashcow… but as I have mentioned in the past, getting really smart people to be happy running YOUR cashcow in silicon valley is nearly impossible. You have to either decide to grow a large organization and institutionalize things (but also recognize that the average caliber of the team is likely to drop… and these are the people you have to work with every day), or you have to recognize that those people are going to eventually leave. By late 2006, all of our employees wanted to leave to go do their own things. They recognized that the costs of doing a startup had gotten so low, it made less sense for them to stay at HOTorNOT than start their own startup.

This was of course our own doing.. after all, we hired them BECAUSE we thought they were smart and entrepreneurial. Most of our employees were also younger and have nothing to lose, due to the fact that we mostly recruit straight out of Berkeley. We learned a big lesson here: don’t expect smart, young people to do anything that you wouldn’t do yourself. Jim and I both had to admit, if we were 22 years old, we wouldn’t stick around running someone else’s cashcow for no equity, even if we earned salaries 2-3x the normal wage. We either had to let them go or give them equity.

Problem: We needed top talent, but working at HOTorNOT sucked. Employees shared no upside. To make matters worse, they were encouraged not to take risks because Jim and I were overly concerned with preserving cashflow, making the job boring.

Solution: We finally created a stock option plan for our employees. I will explain in greater detail in a future post why we did not give options to employees in the past, but for now I will just mention that we were an S corporation and that that caused complications. Giving the team a large cut of equity has aligned their interests with ours and we’ve seen it breathe an incredible amount of new energy into them… as it should. They are now working for themselves now and not for us, and we think that is a better situation for everyone.

The other thing we did is start encouraging innovation again, rather than squelch it in fear of our any changes hurting the cash cow. Changes are now made to the site that I don’t always agree with, and in some cases I don’t even know about… and as long as the team is measuring and testing the effectiveness of everything, that’s ok.

(as an aside: our original vision was to become an incubator and to enable our employees to work on new ideas, and let them spin those off as separate companies.. basically let our employees graduate into becoming funded entrepreneurs at a time when funding was hard to get. Our first and only attempt at this was back in 2003 when we hoped to work with Steve Chen and Mike Solomon to start Yafro.com, which was going to be a social networking site with media sharing applications built on top.

In the end things did not work out because some members of our board were uncomfortable with the idea of giving the employees of a spinout majority share and control… so Jim and I agreed with Steve and Mike that it was a no go. It’s hard to say what would have happened if things had moved forward with them, but given Steve and Mike’s huge success with YouTube, it is easy to presume that this was a huge mistake. In general, Jim and I both believe (especially now) that it is better to find people you believe in and take a chance on them than in trying to control and own them. People will work a lot harder if they are working for themselves and feel in control of their own destiny than they will for you.

In the future of the web, the majority of value is in innovation and the quality of execution, not in the funding resources a company can provide… giving employees a healthy share, and a majority share in the case of spinouts they are primarily responsible for is not only not a bad idea, it’s the BEST idea. Another example of this is Yelp, which was a spinout of Max Levchin’s incubator.)

2) The Online Advertising Market improved, making free competitors a reality

The second thing that changed was the development of online advertising. When we launched HOTorNOT, we had no choice but to charge subscription fees for it. That was the only way to pay our server bills because CPMs on ad networks for sites like HOTorNOT dropped to about 3 cents (that’s 3 cents per 1,000 ad impressions shown). So we developed a subscription service on top of our dating service, and that quickly became very profitable.

But what happens when an advertising model DOES provide an adequate amount of revenue, even if just for 2 or 3 people? That means it is now possible to offer the same scale of services and still be profitable, entirely on an ad model… and from the customer’s standpoint, if they can do something for free versus the same thing for charge, which do you think s/he is going to pick? This has enabled free sites like Myspace, Facebook, and PlentyofFish.com to pop up, and it is a real long-term threat to most subscription sites.

There is no doubt in my mind that HOTorNOT’s traffic started to drop around 2004 due to free alternatives, primarily social networking sites. It’s not that these services made HOTorNOT worthless to users, it’s just that they had alternatives occupying their time.

While HOTorNOT’s profitability was still extremely strong thanks to a large loyal base of paying users we’d built up over the years, we saw the writing on the wall.

Problem: Free competitors

Solution: We decided we had to stop being conservative in our actions, and in our desire for cashflow. Earnings became like a drug addiction to us, to the point where we stopped innovating and we became more focused on making sure our next dividend check was coming (and to hell with longer term trends!)

So the first decision we made was to go cold turkey and make HOTorNOT free. If Subscriptions were our past and Advertising and Digital Goods were our future, we had to take the plunge at some point, no matter how painful.

This has much broader implications than you think. First, we now had less to lose by being aggressive (countless right moves were killed in the past because we were worried about what it would do to our bottom line). The other thing this did was it enabled us to let users create more user generated content on the site. User generated content is the real power of the web… but when you run a dating site, one of the things you have to do is screen ALL content to make sure nobody is hiding their contact info in their profile somewhere. Screening all content on a UGC site doesn’t scale…. but under an advertising based model, letting users upload more data doesn’t threaten the business model, it helps it. If a user wants to put their contact information in there, so be it.. it probably only helps us now.

Stop Clinging to the Past and Jump into the Future

While these changes may sound small and incremental in theory, in practice they are not. HOTorNOT is a completely different company to work at than it was just 6 months ago.

It used to be a cashcow where the employees didn’t hold any equity, and where innovation generally took a backseat to income preservation. It was so miserable to be at, even the founders left.

Today, it’s a pretty different story. Things are not boringly comfortably, they are more risky and exciting… but that’s ok because employees now hold equity, so they work hard and they think about and build things for HOTorNOT with general guidance but low supervision… They take more initiative now and are encouraged to take risks… and they feel a larger sense of ownership and pride in their work. On the side, they’ve even built 2 major Facebook apps (Moods, which has almost 2 million users in only 3 week, and Pets, which has 200k very active users). Both of these products may be spun-off as separate companies in the future, with employees involved likely keeping a substantial amount of equity in order to give them a majority of the control and a majority of the upside.

Most importantly, working at HOTorNOT is a lot more fun. Traffic has doubled in the past 3 months (doing about 20 million pageviews per day now), people are building cool new things that users love, our newer employees are learning more here than they could ever learn at a big company, and people are now working hard for their own upside.

Making these internal structural changes was essential to reinventing the company for our employees. Once these changes were in place, our newly motivated team started getting to work on reinventing the company for our users. We are now pointing HOTorNOT in a strange new direction that some have called crazy, others have called brilliant, and a few have called both crazy and brilliant at the same time. I’ll be following up on this post shortly with another blog entry revealing those changes.

In the meantime, if you are a coder and want to work somewhere that doesn’t suck (in fact it’s downright fun now), be sure to check out our job postings. We are trying to add 3 more coders to the team. (We are about 14 people now.. the jobs page is outdated :) ). We are also looking for a business hire to help run things, as well as an ad sales person.

posted by james @ 12:04 PM

James Hong: http://www.hotornot.com/pages/about.html  

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