Investors who bid the stock 33% higher in its first day of trading must love the idea of buying into a network of sites that produces more than 100 million monthly page views, including Cracked.com, eHow.com, and Trails.com. Too bad they're missing the point.
When it comes to Demand Media, investors should focus on just two numbers: 2 million and 13,000. The network published 2 million pieces of content from 13,000 freelancers last year. Yahoo! (Nasdaq: YHOO ) , through Associated Content, and AOL (NYSE: AOL ) , through Seed, are trying a similar model.
But Demand Media is the poster child for this type of business, which my freelance colleague Erik Sherman over at BNET calls a content mill. Here are three reasons why I believe investors should consider shorting the stock:
- Demand's numbers don't support its mission. In its prospectus, Demand Media says it profits by aggregating and distributing professional content. Sounds good, right? Sure, but doing the math you would find that Demand pays its freelancers a maximum of $60 to $70 per article. However, its service costs include a number of factors, meaning the actual pay to writers should come in well below that number. Some reports have put content pay as low as a penny per share for most articles. How many pro writers and videographers do you know who work for rates that low? I've done it, but not on a regular basis. I like food too much.
- Nor does Demand produce professional content. The trick is that Demand seeks and pays peanuts for content that's (a) easy to create, and (b) evergreen. If only it acquired more content worth reading. Click through to Jeff Bercovici's article at Forbes to see what I mean. Try not to laugh. I dare you.
- Search engine marketing is under attack. But these are relatively minor threats compared to what Google (Nasdaq: GOOG ) has planned. Last week, The Big G announced plans to cut back on search spam. Junk that ranks high in a search when websites "cheat their way into higher positions" than they should occupy.
There's a phrase for this: search engine optimization (SEO). Few companies have ever profited from SEO as much as Demand Media has. But don't take my word for it. Here's what the company says about search engines in its prospectus:
Our proprietary technology and algorithms are dependent on analyzing existing Internet search traffic data ... The failure of our proprietary technology and algorithms to accurately identify content that generates traffic ... would have an adverse impact on our business, revenue, financial condition and results of operations. [Emphasis added.]
Demand Media may very well figure out how to attract top creative pros, produce award-winning content, or figure a way to placate Google. I just wouldn't bet on it. I'd rather bet against it, which is why I've shorted the stock in my CAPS portfolio.
Now it's your turn to weigh in. Do you think Demand Media has a winning business model? Please vote in the poll below and then leave a comment to explain your thinking.
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