How to Discover a Promising Internet Business Niche

This chapter discusses the five key principles of niche research in some detail, with the goal of making the research task clear:

Principle 1. Make Your Knowledge and Passion Work for You

Principle 2. Identify a Niche that Is in Sufficient Demand

Principle 3. Discard Niches with Too Much Competition

Principle 4. Make Sure Your Niche Has Adequate Profit Potential. This section discusses the research goals involved in assessing potential revenue from (1) online sales of tangible products, (2) affiliate commission revenue, and (3) advertising revenue.

Principle 5. Create Your Site's Own Uniqueness and Voice

The chapter also includes two sidebars: The Myth of Online Franchises and Sidebar: Opportunities in Fads, Trends, and Opportunities.

These days it seems like everyone is looking for a way to earn easy money on the Internet. There are lots of promises, most of them bogus. The key for small business is not to compete head-to-head with the Fortune 500 companies and top retailers on the Internet. It is to find an unfilled or only partially-filled niche, a narrowly-focused area that offers potential. Essentially, you're looking for a niche that will allow you to earn good money without too many competitors. The more competitors there are in a business sector, the more they drive prices down and advertising costs up.

Finding a niche opportunity isn't easy, but it is possible. There are thousands of opportunities for those who will search for them. What are the principles of this research? Let me suggest five principles or five steps to the process.

Principle 1. Make Your Knowledge and Passion Work for You

Can you imagine doing a job for 20 years that you hate? Don't select an online business that you don't have a passion for or at least enjoy some aspect of. What do you care about deeply? What do you enjoy? What are you good at? In what field will your knowledge help you? Don't just pick something because it promises to be lucrative. If you enjoy fishing, would you enjoy running a narrowly focused fishing supplies store? Make sure you select an area you will enjoy and to which you bring something to the table besides greed.

Anyone can build a niche website. But your passion and experience will add value. And earning money comes down to helping customers find what they're looking for -- adding value for customers.

The exceptions to this principle are entrepreneurs who develop a string of five or ten niche stores selected purely for their profitability. Then they employ others (often drop-shippers) to fulfill orders and provide customer service. Yes, this is possible, but don't start here. You'll need good solid experience before you can be successful as a serial online entrepreneur. For your first foray into online sales, select a niche that you'll enjoy and in which you have something to offer.

(Note: The exercises given in this chapter should be copied into a notebook or loose-leaf binder. There's not enough space in each box for the research data you'll need to accumulate. So start that research notebook now.)

Principle 2. Identify a Niche That Is in Sufficient Demand

If there isn't enough demand for your product or service, you won't make much money. The easiest way to judge the degree of demand is to find out what people are searching for on the Internet -- the keywords they're using and the frequency with which a particular keyword search takes place. Lots of searches mean lots of demand for the topic.

Here's where keyword research software can help. Let's say you want to sell something related to your hobby -- model railroading. Let's see how Wordtracker -- the granddaddy of keyword research software, and still one of the best packages -- can help us.

First, you insert an initial keyword to get the process started -- "model railroading."

On Wordtracker's first screen you insert your keyword

Then the program generates a number of synonyms using a built-in thesaurus as well as extracting keywords from a number of websites that rank high for this keyword.

Screen shot of Wordtracker's initial list of keywords

You can choose one or more synonyms to generate lists of keywords that contain that synonym. Then clean up these lists to delete the irrelevant words that inevitably creep in. Among the many hundreds of keywords, here are some of the top words. I've just included a few of the many in the table below. The "Count" column in Wordtracker indicates the number of times a word has been searched on over the last 130 days (4-1/3 months).

How can you tell if there is enough demand in this field? Ken Evoy in his Site Build It! Action Guide suggests a demand of at least 10,000 for your main keyword. If your main keyword has a demand less than 3,000 to 5,000, it probably isn't enough to sustain a good business. Of course, there may be other factors at play. Some keywords get most of their searches during a certain season, so if you're researching off-season you may get lower numbers. The numbers for "model railroading" and "model trains" seem low, though I've seen several viable sites selling model trains. (Note: Some sites are related to brick-and-mortar stores, so they survive both on their local retail business plus some business from the web.)

Of course, the true demand is found when you add up the number of searches for all of the hundreds of relevant keywords you have identified. How does the total number of searches compare with other business niches you are exploring? This kind of keyword research gives you some idea of the demand for the business idea you're studying. Save this list of keywords and number of searches for possible use later.

Principle 3. Discard Niches with Too Much Competition.

After you've researched the demand for several possible business concepts, now is the time to consider the competition. Business concepts with excessive competition make it hard to generate sufficient traffic to your site -- in spite of demand -- due to competition for the top ranked spots in natural search and higher bid prices for PPC keywords on search engines. Ideally, you want to find a niche that has sufficient demand and not too much competition.

Anything you do on the Internet, of course, will have some competition, causing you to market smarter and differentiate your offering clearly from your competitors. But you don't want to enter a field with thousands of competitors; dozens are plenty! In a field of a dozen or so serious competitors, it is often quite possible for you to carve out a spot of #2 or #4, if you are willing to work hard at marketing.

To assess the overall degree of competition consider:

1. How many webpages contain the main keywords for this niche?
2. How many text ads show up on the search engines for the keywords?
3. How high is the bid price for keywords in this niche?

From the lists of keywords you've already developed (e.g., for "model railroading"), Wordtracker and similar keyword research tools will compile in a few seconds a list showing, for each keyword, the number of corresponding webpages found in the search engine's index -- considered the number of competing webpages for the topic. But just the number of competitors doesn't help much when you are trying to look at the big picture across hundreds of keywords.

One way to judge the viability of a business concept is to compare the demand (number of searches for the keyword) to the supply (the number of webpages that contain this keyword).

Most research tools sort the resulting list of keywords in order of a demand / supply ratio. Where S = supply in number of websites and R = requests in number of searches. The easiest to understand ratio is the R/S ratio

When you convert demand (R) and supply (S) into a ratio, now you can sort a list of keywords and quickly see which keywords have the highest ratio of demand to supply.

I don't want to confuse you -- and I'll explain these in greater detail in chapter 2 -- a similar and related ratio is called the KEI (Keyword Effectiveness Index).

KEI (Keyword Effectiveness Index) = (R² * 1000)/S

This ratio multiplies the demand or count (R) by itself, that is, squares the number. Squaring the count has the effect of drawing special attention and weight to keywords that have a higher demand. When you multiply the result by 1000 you get rid of decimal points that can confuse the issue (though Wordtracker doesn't do this). Of the two, KEI seems to me to a better predictive tool, but either can be helpful at this gross research stage.

On the Google search engine, a study of "model railroading" keywords shows the highest KEI is 9.0, which is in the range of "poor keyword" on Wordtracker's guidelines to the KEI. Moreover, the best KEI-scoring keywords had very little demand ("count"). The only reason they score high is that they have no competing websites. "Model railroading" just doesn't look like a good prospect for a new online business. So let's consider "cell phones" to see if there are better possibilities here.

Again, the reason for these two formulas is to turn raw numbers of demand and supply into a single number that compares demand and supply and shows you the most promising keywords. For example, here are some keywords in the general area of "cell phones," sorted in descending order by KEI.

Note: "Count" means demand, number of searches in 130 days. "Competing" means supply, webpages on Google with that keyword. "KEI" refers to the Keyword Effectiveness Index. S/R Ratio is the ration between demand and supply.

There's no magic here. But when the lists are sorted, the more promising keywords show up towards the top. Often the most obscure term will occur at the top of a list. Ignore it; it's just an artifact of the system. But in general, the keywords near the top of the list should be explored further to look for niche opportunities. Some of the keywords for "cell phones" have plenty of demand, but it's too soon to say if that's my best opportunity.

What is a good KEI or S/R Ratio? There are no absolute standards, since everything depends upon what search engines or databases your research tool is drawing from for supply (competing webpages) and demand (search requests). Here's Wordtracker's screen showing the best search terms for my search of "cell phones." A few of the keywords look interesting.

Note: If you feel a little bit lost at this point, that's normal. Don't despair. Keep reading and it will begin to become clearer. We'll discuss more about what the S/R ratio and the KEI actually signify in the chapter on "Formulas and Ratios to Judge Profitability and Potential."

Screen shot of Wordtracker's dialog box to allow you to select the
search engine(s) to use to determine the supply side, the competing
websites using your keywords.

Another judge of the degree of competition is how many people are bidding on your list of keywords. The screen shot below is a portion of the results screen on which Wordtracker shows bids on Overture (now called Yahoo! Search Marketing). I've highlighted the bids in yellow.

Screen shot from Wordtracker showing bids for keywords related to "cell phones"

The presence of bids is another indicator of demand, since other companies are bidding to get a piece of the market. The price per click of the bids helps you see if PPC is a possible way to drive traffic to your site.

Principle 4. Make Sure Your Niche Has Adequate Profit Potential

Make sure that you've explored a number of online business approaches in Principles 1, 2, and 3 before you consider how to monetize (that is, generate revenue from) your website. If you fix on a particular approach to earning revenue before exploring various possibilities, you could easily miss some great ideas.

Once you've identified some areas of interest, you need to make sure they have the potential to yield adequate profit. Let's look briefly at three types of sites: product sales, affiliate sites, and ad-driven sites.

A. Selling Products, E-Commerce

Both affiliate fees and PPC ads are forms of advertising for merchants. You earn a small slice. But when you learn how to generate sufficient traffic to sell products that you manufacture or youmore money. Of course, you have the struggles of dealing with customers, purchasing, inventory, pick-pack-and-ship, and returns. There is more work, but there can be greater profit, too -- if you're careful.

There are three common approaches to sales of tangible products (as opposed to electronic products such as software, information, entertainment, online services, or photos that are digitally delivered). Digital sales are great, but the following table for tangible products compares the relative profitability between selling your own products, buying wholesale, or drop-shipping.

One of my interests is developing online Bible studies and then turning the lessons into e-books and print-on-demand books for sale to pastors, small group leaders, and teachers. There is considerable interest in this field. Currently I'm running an online Bible study, "Great Prayers of the Bible," that has attracted 3,100 participants from over 90 countries. Unfortunately, this is not a field where I'm likely to make much money. Few people are willing to pay much for online, interactive Bible studies unless I were to offer an academic model, that is, a certificate or diploma at the conclusion. And there are a great number of Bible study books in print. A typical sales total is under $10 for e-books and under $13 for printed books. Since I've created the products, the mark-up percentage is high. But I'll have to sell 300 to 400 books a month to bring in $3,000 in revenue, and my books have no where near that kind of demand. For me it's a mission rather than a business. Some would call it a hobby. But as a way to earn a living, it has a long way to go.

I spoke with my friend Matt Ledford, a marketing and e-commerce strategist from Ydesigns.com. When he's researching a product area for a client, his ideal is to find products with an average sales total above $200. As a minimum -- to justify advertising spending and cover order handling and still make a good profit -- he looks for a minimum 2% conversion rate and $50 average sales total, with 100% mark-up from wholesale.

Of course, you can sell less expensive products, but the time you invest on order fulfillment eats into your profits. You can use drop-shipping to cut your order fulfillment time, but you aren't likely to find drop-shippers who offer a low-enough reseller's price to allow you a 100% mark-up and still sell at competitive retail prices.

To research a product or product group, you have three additional steps:

• Determine the wholesale price for which you can obtain the product. The best place to do this is through a directory from WorldWide Brands. The Drop Ship Source Directory (www.wilsonweb.com/afd/dropship.htm) is a directory of manufacturers and authorized distributors who will accept orders from you and drop ship to your customers. The Light Bulk Wholesale Source Directory (www.wilsonweb.com/afd/lite-bulk.htm) lists manufacturers from whom you can purchase small to medium quantities of a product that you can ship from your own inventory of the product. The WBI General Wholesale Directory (www.wilsonweb.com/afd/gen-wholesale.htm) and the Thomas Register (www.thomasnet.com) help you find wholesalers from whom you can purchase larger quantities for low prices.
• Determine the average retail sales price and average shipping price. You do this by identifying the prices offered your by chief competitors (who are probably making money). You can find chief competitors to survey from the top 3 natural search results and the top 3 PPC search results. Record their sales prices and shipping costs for the product you're reviewing. You might also find final bids from recently closed eBay auctions. Be aware that some retailers advertise lower retail prices which are made up by higher shipping prices, so always get both figures for your research.
• Subtract the wholesale price from the average retail price to determine your actual profit margin.

Two pieces of research software specialize in product profitability research: WorldWide Brands' Market Research Wizard (www.wilsonweb.com/afd/wwb_wizard.htm) and P.I.P.E. Product Idea Profitability Evaluator (www.wilsonweb.com/afd/pipe.htm), both of which are reviewed later in this report. They work a bit differently, but each is helpful in determining which products may be profitable.

Note that you're ultimately going to be looking at groups of products rather than just a few single products. And you'll probably be driving traffic by both natural and paid search, so consider the costs of groups of keywords, not just one or two. Does the group of products seem to be profitable? If so, then you have a clear direction.

For example, you may find that selling a wooden rocking horse looks like a good opportunity. How about other wooden toys? If "wooden rocking horse" has a high KEI, how about related keywords, such as "rocking horse," "wooden toys," "pine rocking horse," etc. You're looking for groups of products and keywords that seem to have an opportunity.

B. Affiliate Commission Model

Affiliate microsites (small, targeted sites focused on revenue from affiliate commissions) are typically websites consisting of 10 to 50 webpages that provide a great deal of information about a very specialized topic, product, or service. Visitors read information and reviews and click-through on affiliate coded links that take them to merchants on other websites that actually sell the products or provide the services described on your site. Based on a contract with each merchant, a commission, referral fee, or affiliate fee (these are used synonymously) is paid when a sale is made. Typically no payment is made until the level of accumulated commissions reaches a certain threshold, such as $25, $50, or $100 depending on the merchant. Affiliate commissions vary a great deal. On tangible commodities such as apparel, sporting goods, electronics, computers and the like, they may run 2% to 8%. On high ticket items they may be 10% to 15%. For digital information products such as e-books, commissions may run as high as 20% to 50% since the items delivered are essentially electrons that can be downloaded and printed out by the recipient -- there is no manufacturing and shipping cost.

A variation of this type of an affiliate site is one that provides lead generation prospects for other companies. Let's say you are trying to generate leads for a life insurance company that will be used later for sales calls by company sales personnel. You'll be paid a fixed commission for each lead you generate. Of course, life insurance is intensely competitive on the Internet, so I'm not trying to point you in that direction, only provide an example.

When you want to find an appropriate niche for an affiliate microsite, you want to find areas that aren't too competitive. The R/S ratio or KEI indexes we'll be discussing in a later chapter give a rough idea of supply and demand.

To see if a particular business concept would work as an affiliate site, determine the typical affiliate commissions that would be paid on sales resulting from links on your website. If the average sales total for a merchant is $50 and you earn 3% of that, your fee is $1.50 per sale. If the average sales total is $97 and you earn 25% of that, your fee is $24 per sale. How do you estimate how many sales your site will generate? You can only determine this by tracking click-throughs once your site is set up. But to make a guesstimate, let's assume a 20% click-through rate from your site and a 1% conversion rate on the merchant's site. Your actual numbers may vary significantly.

From this little exercise you can see that traffic is the primary driver of your revenue for this kind of site. To succeed you'll need to drive a lot of traffic. This comes about in three ways:

1. Natural Search. Great content which generates high rankings and click-throughs from "natural" search. This traffic is essentially free (if you don't count your time to generate great content). By content I mean articles, reviews, comparison shopping guides, travelogues, industry information, etc.
2. Paid Search. Paid search starts at about 10¢ per click and goes up from there. Unless you're promoting high ticket items or no one is bidding against you, it's unlikely that you'll be able to afford much PPC advertising to drive traffic to an affiliate mini-site. If you're careful, you might generate considerable traffic at relatively low cost from hundreds of 10¢ per click keywords.
3. E-mail Marketing. You can rent legitimate targeted e-mail lists for 3¢ to 4¢ per name for consumer lists up to 45¢ per name for B2B lists. The affiliate commissions that merchants offer are likely to be directly related to the cost of names -- lower commissions for less-targeted consumer lists, higher commissions for more targeted B2B lists. Anything less than 3¢ to 4¢ per name is surely a spam list. Generally, e-mail marketing from legitimate rented lists isn't a cost-effective way to attract new customers unless you have a high mark-up item.

The "sweet spot" of the affiliate microsite game is great content which attains high natural search rankings for your niche site.

After you've determined some promising niches, you'll need to do two additional kinds of research:

• Determine typical affiliate commissions for the products or services you'll be providing content about in your website. Are they high enough to generate enough revenue for you?
• Determine the cost of PPC ads, especially if you'll be driving traffic to your affiliate site using paid search. Remember, you'll be competing for PPC bid prices against merchants who may have a higher margin than your affiliate commission. Several software tools provide bid prices for your list of keywords.

C. Google AdSense / Yahoo! Publisher Network Revenue Model

The third major type of site revenue is from advertising. Some people naturally think "banner advertising," but frankly, old-style banner advertising is dead, so far as being a major revenue generator. Since the average click-through rate is perhaps 0.3%, the price paid a site owner (termed a "publisher" in this context) is quite low, perhaps $1 to $2 per thousand page views (that is, $1 to $2 CPM), unless it is a very targeted site with high price content. (There are exceptions to this, but most smaller sites won't be able to attract the higher paying advertisers.)

A much better approach for new sites is revenue from text ads from either Google AdSense or Yahoo! Publisher Network. Here's how they work. You apply. If your site is accepted, you'll be given some JavaScript code to paste into all your webpages that will generate ads directly related to the content of the individual webpage.

Let's use Google AdSense as an example. Google will spider your webpage and figure out which keyword or keywords best describe the content. Then it will place ads on that webpage from its advertisers that are bidding on the keyword or keywords prominent on that webpage. If someone clicks on the ad from your page, you'll receive a percentage of the ad revenue.

What percentage is that? I don't know. And if I did know and told you, Google would sue me. I'm guessing it's 25% to 50% of total revenues, but that's only a guess.

Google makes contracts with tens of thousands of content providers but never discloses the percent revenue share. Why would you sign a contract without fixing the revenue split with the ad agency? Because Google AdSense is the only real show in town and can get away with it, that's why! Yahoo! Publisher Network has begun to solicit publishers to sign up with them, too, so a little competition may make both parties a bit more forthcoming -- or not.

One other factor to be aware of: Keyword bid prices for ads that show up on the results pages of search engines tend to be substantially higher than bid prices for ads that show up on content sites like yours. People using a search engine are in a search-find-and-execute state of mind. They're ready to find a solution to their problem. People reading articles on a content site are in a learning, research mode, not as ready to buy as searchers. Consequently, conversion rates from ads on content sites are typically lower than on search sites. For our purposes, let's assume that bid prices for content sites are 65% of bid prices for the same keywords on search sites.

Though we don't know actual revenue share, bid price discount, and click-through rate on content sites, let's do some estimates so you can see some numbers. Your mileage may vary.

Again, the key is to drive lots of targeted traffic to your site. You do this, as described above, through natural search -- probably not PPC ads or renting e-mail lists.

Your research task for a site relying on ad-revenue is:

• Determine the cost of PPC ads. Do a number of the keywords have a fairly high bid price? If so, you'll receive a greater advertising check. But if most of the bids in this field are only 10¢, that's you're clue that an advertising model isn't the best way to monetize this site.

A couple of the research tools described in chapter 4 are designed especially to spot high-priced Google AdSense keywords -- Keyword Burner and Keyword Country.

D. Combine Several Revenue Models

Some sites will have one predominant revenue model. But many sites will include two or three different models, such as affiliate and advertising. Site Build It! suggests a number of other possible monetization models, including: information publishing, service businesses, local offline businesses, sales and rental agents, lead generation, etc.

Principle 5. Creating Your Site's Own Uniqueness and Voice

After you've decided on a online business niche and monetization plan, the next step is to develop your own unique approach and "voice." This step is partly researching your competition and partly creating something new and needed. As you assess the competition, what is missing? Where are the holes?

Don't base your competition strategy on being the low price leader. Unless you can buy and sell in large volumes, you probably can't get a low enough wholesale price to provide enough margin to make a profit.

Instead, make your site the best in some area. Which features that you've seen in other niches seem to be missing here? What value can you add?

Is there a robust online forum? If not, perhaps you can create one. How about unbiased product reviews? Perhaps you can write them? Perhaps the rest of the sites are dull and boring. Yours could add humor and a lighter touch in both words and graphics. Or perhaps the other sites provide just a surface approach. Yours can be the in-depth site.

You need to match what the best of your competition is doing (except perhaps in price), but then really stand out in some important feature or set of features that distinguish you from your competitors.

I've explained the principles of the research process above. In addition there are many tips along the way that you can get from user instructions of the research software I'll recommend below.

I'm a real fan of Ken Evoy's Site Build It! -- especially for those new to online business. The Action Guide that comes with his system outlines the entire research process on a step-by-step, day-by-day basis. It explains how to use the included research tool Brainstorm It! with all its ins and outs. If you're serious about doing it right the first time, Site Build It!, with its included instructions and tools, should be high on your list.