The Value of Networks

Abstract

The economics of the Internet are often tied to determining the value of a communications network. However, there are several different kinds of communications networks, each with their own method of valuation. These networks are named by the laws that describe their valuation: Sarnoff's, Metcalfe's, and Reed's. This note describes each network type and its method of valuation.

Excerpt

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The Value of Networks

The economics of the Internet are often tied to the value of a communications network. However, there are several different kinds of communications networks, each with their own method of valuation. The laws that describe their valuation name these networks: Sarnoff's, Metcalfe's, and Reed's.

Sarnoff's Law

The simplest communications network employs a model of “one-to-many,” such as broadcast networks. Examples include television, radio, and publications like newspapers and magazines, where content is transmitted by one or a few, but consumed by many.

Sarnoff's Law, named for broadcast pioneer David Sarnoff, governs the valuation of such a network. Sarnoff's Law states that the value of a network grows in proportion to the number of viewers. For example, the value of a television network during the broadcast of the Super Bowl is significantly higher than the value of a network that broadcasts reruns of Gilligan's Island during the same time-period, because the network that carries the Super Bowl will have a much larger audience and thus can charge advertisers a higher fee for commercials.

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Keywords: network analysis, technology strategy, valuation, e-business