This week we’re getting meta by breaking down Substack’s business model. (For those that don’t know, I used Substack to send you this newsletter.)
Substack is a platform for independent writers to distribute subscription newsletters. The company makes this easy, even I figured it out.
The 1,000 True Fans Business Model
Business models can be like Rorschach tests. When I look at Substack, I see author Kevin Kelly’s 1,000 True Fans. The core of Kelly’s argument in this essay is that:
To be a successful creator you don’t need millions…To make a living as a craftsperson, photographer, musician, designer, author, animator, app maker, entrepreneur, or inventor you need only thousands of true fans.
The definition of a true fan here is anyone who buys everything that you produce. Underlying his argument are two criteria and some basic algebra:
First, you have to create enough each year that you can earn, on average, $100 profit from each true fan...Second, you must have a direct relationship with your fans. That is, they must pay you directly.
The algebra is that earning $100 from 1,000 fans equates to $100,000 a year, which is a decent living. Where this idea starts to get interesting is when you combine it with internet assumptions.
The internet reshapes business rules, requiring an entirely new playbook. As tech analyst Ben Thompson notes, while the physical world is dictated by scarcity the digital world is one of abundance. For example, compare your local drug store to Amazon. One has limited shelf space, the other infinite. Additionally, geography and distribution are no longer constraints online. Returning to 1,000 True Fans:
If you lived in any of the 2 million small towns on Earth you might be the only one in your town to crave death metal music, or get turned on by whispering, or want a left-handed fishing reel. Before the web you’d never be able to satisfy that desire. You’d be alone in your fascination. But now satisfaction is only one click away. Whatever your interests as a creator are, your 1,000 true fans are one click from you. As far as I can tell there is nothing — no product, no idea, no desire — without a fan base on the internet.
There are infinite niches out there: the death metal fans, the whisperers, the left-handed fly fishers, and on and on. The internet allows these niches to connect, creating new opportunities. This is the wave Substack wants to surf.
The Scarcest Resource
Some of the largest online businesses are ad-driven business models like Facebook and Google. These companies want to maximize your time on site so that they can serve you more ads. The ad model, combined with algorithmic feeds has some negative consequences, like YouTube pushing users to more extreme content.
Yuval Noah Harari, the author of Sapiens, argues that we should be cautious about free information. In an interview with The Guardian, Harari said:
The idea of free information is extremely dangerous when it comes to the news industry. If there’s so much free information out there, how do you get people’s attention? This becomes the real commodity. At present there is an incentive in order to get your attention – and then sell it to advertisers and politicians and so forth – to create more and more sensational stories, irrespective of truth or relevance...We’re willing to pay for high quality food and clothes and cars, so why not high quality information?
The answer to that question will determine whether Substack succeeds or fails.
In a world of the infinite scroll content is unlimited. However, time and attention are finite, so filtering and trusting information are becoming more important. Substack’s bet is that some people will get sick of empty calories from bottomless candy bowls like Facebook and will be willing to reclaim their attention.
How Substack Makes Money
Substack is a platform where writers can host and distribute newsletters. It’s free to publish but writers can elect to charge. Writers who charge set their own prices and are paid directly by their readers, satisfying the 1,000 True Fans criteria. Subscriptions can be monthly or annual, with annual subscriptions often offered at a discount. The minimum price is $5 per month and the most expensive newsletter is $7,000 per year. Most top paid newsletters charge between $5 and $20 per month:
Source: Lenny Rachitsky, How I Launched A Paid Newsletter. Note: Lenny has a fantastic Substack newsletter called Lenny’s Newsletter.
The platform creates a direct relationship between writers and their audience and writers own their audience. Substack makes money by taking a 10% cut of subscription revenue. The company also takes out payment processing fees, which go to Stripe. At a high level, the business model looks like this:
The subscription model creates an incentive for writers to provide readers with as much value as possible. Contrast this to an ad model where the incentive is to gobble up as much of the users attention as possible.
Here’s a more detailed breakdown of Substack’s business model:
A key feature of this is that Substack only makes money when writers make money.
The company’s levers for increasing revenue all flow through getting writers more revenue. This can happen by increasing the number of readers who pay for a subscription (free to paid conversion rate above), increasing the average number of subscriptions that paid readers have, or increasing the average cost per subscription. The best way for Substack to make more money is to have more writers producing more content that readers want to pay for.
What Could Be Next For Substack?
Understanding Substack’s business model can help us guess at where the company may be headed. On one side of the platform, writers want to be connected with more readers who’d enjoy their work and they want more subscribers. On the other side, readers are looking for the next great thing to read.
Because writers want a larger audience and readers want more good content, building discovery tools like a recommendation engine is likely on Substack’s product roadmap. The aim here is to help readers to find interesting content, similar to how Amazon recommends books or Spotify recommends music. Of course, discovery is difficult and this may become one a critical determinant of the company’s long-term growth.
Another likely item on the roadmap is bundling. According to CEO and Co-Founder of Coda Shishir Mehrotra, the value of a bundle is in monetizing casual fans:
Source: Shishir Mehrotra, Four Myths of Bundling
Returning to the 1,000 True Fans framework, the super fans above are analogous to Kevin Kelly’s true fans. They’re going to pay for whatever you create. If done well, bundling would help Substack and writers generate more revenue getting some casual fans to purchase bundles. While the company currently doesn’t support bundles, that hasn’t stopped writers from hacking together workarounds.
Further afield, podcasting is another opportunity. Substack already allows creators to host and distribute free podcasts. Typically podcasts are monetized through ads, typically from ZipRecruiter. Adding a paid subscription option would create a new revenue stream. However, companies like Luminary that have tried building subscription podcast services haven’t found much success so far.
Making Herb Simon Proud
Last July, Substack had over 50,000 paying subscribers. Today that number is over 100,000. How much higher it can go will depend on execution, strategy, and luck. Facebook and Twitter aren’t going anywhere, but at the margin it does feel like some consumers are starting to question social media and look for ways to regain their attention. Examples of this are downtime and screen time monitoring in iOS and the time well spent movement. Some advertisers are taking a break from social media as well. If these ripples turn into a wave, Substack could benefit.
👉 If you enjoyed reading this post, feel free to share it with friends!
For more like this once every weekend, consider subscribing 👇
Source: Photo by Joanna Kosinska on Unsplash