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The air seems to be coming out of the Web 2.0 bubble, squeezed by the economic downturn and the absence of many solid short-term business plans.

Dire market conditions have forced virtually all social-networking firms to scale back. In October, the third most popular social-networking site, Hi5, announced that it would cut between 10 and 15 percent of its staff. And in November, the business-focused networking sites LinkedIn and Jive said that they would slash their workforces by 10 and 40 percent, respectively.

The dominant social-networking sites are certainly better equipped to weather the storm: MySpace and Facebook have estimated revenues of $750 million and $300 million, respectively, while LinkedIn is expected to pull in between $75 million and $100 million this year. However, the overall value of these companies is still largely based on growth potential, which now seems shaky. Microsoft’s investment in Facebook valued the company at a massive $15 billion. But in November, Twitter refused to be bought by Facebook for a reported $500 million of its stocks plus some cash.

The past week has also seen the demise of two prominent (and promising) Web startups: Pownce and Values of n. Pownce, which offered a microblogging and file-sharing platform, was acquired by the blog software company Six Apart, while Values of n, which produces organizational and social-networking tools including Stikkit and I Want Sandy, was sold to Twitter. Both new owners promptly announced that they would shut the original services down, suggesting that their acquisitions were more about acquiring talent and technology than about investing in viable new businesses.

Chris Alden, chairman and CEO of Six Apart, says that there simply isn’t enough capital in the current market to sustain so many social-networking companies. “You’ll see more consolidation in the next year or two,” he predicts.

The current situation might seem gloomy, but the first signs of a coming shakeout appeared before the market took a turn for the worse. In August, for example, both the social news site Thoof and the social music site Social.fm ceased operating. Also, long before the downturn began, investors started raising concerns about how social media firms might make money.

“People don’t really know how this is going to work,” says Nicholas Economides, a professor of economics at New York University’s Stern School of Business. Companies are trying many different approaches, but he says that a solid business model for social networking has yet to emerge. “There’s no formula for success,” he says. Even Twitter, for all its notoriety, has virtually no revenues.

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Credit: Technology Review

Tagged: Business, Web, Facebook, social networking, startups, MySpace, Pownce

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