Advertising, App install ads, App stores, Facebook, Google, Google Play, Mobile advertising, Twitter, Yahoo

The limited opportunity for app install ads

12 Comments

Today, Twitter formally introduced its new mobile app install ads product, joining Facebook and Google in what is becoming a crowded space, with Yahoo apparently waiting in the wings too. I had a quick look at this space in the context of Facebook’s Q1 earnings a few weeks ago, but wanted to drill down deeper, especially now that we know more about app revenue through Google Play. The upshot of all of this is that the opportunity for mobile app install advertising, though growing rapidly, is not big enough to provide a significant revenue stream for all these companies. In other words, there’s gold in them there hills, but not enough to justify the gold rush we’re seeing into this space.

First, a quick primer on mobile app economics. Some of the major app companies are public, and report data themselves, while several third parties also report data on the topic regularly, allowing us to draw a few conclusions:

  • Revenue from advertising is a factor for some apps, but the vast majority of revenue today (likely between 80% and 90%) comes from pay-per-download and in-app purchases. As such, the revenue numbers for the two major stores – Apple’s App Store and Google Play – likely account for a significant proportion of total revenues from apps 1.
  • Developers pay Google, Apple or other stores 30% of their gross revenues from these stores, keeping 70% for themselves. Thus, if they’re to make a living, it will be by keeping their other costs contained within that net revenue figure. That needs to cover development costs, ongoing operating costs (salaries, hosting, care, etc.), and costs to promote apps.
  • Sales and marketing costs for most successful app makers sit between 10% and 20% of gross revenues. App install advertising will come out of this budget, and may indeed make up most of it. This percentage may be significantly higher for apps early in their lifecycle and therefore promoting themselves heavily without yet seeing significant revenue, but it will tend to return to that average over time.
  • Thus, anywhere between 40% and 50% of a typical app developer’s gross revenue may go to the store commission plus sales and marketing, leaving about half for all the other costs of running the business.

Given these facts, let’s look at total gross revenue opportunity from the two major app stores. I’ve added 15% to my estimated gross revenue from the two stores to account for the advertising opportunity.

Total app store revenues from Google Play and App StoreNow, let’s think about the size of the market for mobile app install ads, which as we’ve already said will have to come out of that sales and marketing budget. To put it in context, we’ll compare it to Facebook’s mobile advertising revenues, since Facebook is the largest player in this market today and a substantial proportion of this revenue comes from app-install ads today. In the chart below, I’ve plotted Facebook’s mobile ad revenues against two views of the app install ad opportunity – one a bull case and one a bear case. The bull case assumes that the app install opportunity is 25% of total gross revenues, and adds 15% to store revenues to account for ad revenues. The bear case assumes that the app install opportunity is 15% of gross revenues, and adds a smaller 10% to store revenues to account for ad revenues. My own view is that the bear case is likely closer to reality.

App install ad revenue opportunity chart

The most obvious message of the chart is that Facebook mobile ad revenue alone is now either very close to the total app install opportunity, or has in fact surpassed it, depending on whether you focus on the bull case or bear case. Either way, the total revenue opportunity today is somewhere between $1 billion and $2 billion per quarter, and growing at a decent clip. But Facebook has had this space largely to itself to date, whereas with Twitter, Google and Yahoo entering, it will have to split this opportunity with these other players.

In the context of total revenues for these four players, this is a small new opportunity. Together, these four companies generated $72 billion in revenue in the four quarters to March 2014, so an additional $4-8 billion is not enormous – amounting to 5-10% or so in additional revenue. If the four companies were to split the opportunity equally, only Twitter would see a more than 25% uplift in revenues.

Much has been said about Facebook’s reliance on app install ads, and I think it’s been overblown. Though it’s clearly benefited from the growth in this category, I think it’s unlikely that these ads make up far more than half of Facebook’s mobile ad revenues in total. But to the extent that this is going to become a much more crowded space with the entry of Twitter, Yahoo and Google, Facebook’s ability to benefit from this opportunity will diminish. As such, it will be very interesting to watch the growth rate in Facebook’s mobile advertising revenues in the next few quarters as it sees increased competition. At the same time, though, these new competitors shouldn’t overestimate the size of the addressable market, which will always be capped at a quarter or less of the total revenue from apps as a matter of basic economics.

 

Notes:

  1. For simplicity’s sake, I’m excluding the revenue opportunity through other stores, because they account for a tiny proportion of overall revenues. Adding them in would not significantly affect the numbers. ↩
  • Walt French

    @JanDawson wrote, “But Facebook has had this space largely to itself to date, whereas with Twitter, Google and Yahoo entering, it will have to split this opportunity with these other players.”

    This is obviously correct, but that doesn’t mean that the new entrants will be able to generate the same engagement that produces Facebook’s remarkable (to me, near-unbelievable) share of mobile ad revenues.

    Google has created an identity around search, and they report excellent results tied to that identity. They have less of an identity in Android®—and it seems when people search on mobile, they’re actually using a dedicated app such as urbanspoon or yelp instead of a generic “pizza near here!” search. I have no idea what the “engagement proposition” is for Yahoo!, but for the twitterati, it seems they value very targeted messages, very different from “I guess I’ll hang out a while in Facebook—see what friends are doing, catch up on the ‘news’ about people I follow; burn some game time.”

    Maybe my sense of users’ intents are off-base, but to the extent that they’re right, they make Facebook a much more natural environment — a portal — for ads. And with Google’s inability to provide the sorts of services (games; infotainment; entertainment & related personality news; …) that Facebook does, I don’t see anybody actually threatening Facebook’s dominance.

    • Walt – absolutely. I thought about addressing the different companies’ ability to compete in this space in the post too, but didn’t want to get off-topic. Facebook’s key value proposition in mobile advertising is twofold – it knows tons about its users, and users spend a lot of time in the app. No-one else on the list can quite match this combination. Yahoo has tons of users who spend lots of time in its apps, but I doubt it knows all that much about them. Twitter has a smaller base of users, knows a little about them, and then has MoPub with a much bigger audience but much less user data. Google knows tons about its users, but those users tend to get in and out of apps very quickly or do a quick web search where an app install ad is not going to be a good fit. Each has different challenges, but FB is likely still best positioned in this market.

      • Walt French

        For a break, I’ll make a note about the limits to Facebook’s ability to monetize its users.

        Facebook generally knows that its users go to Disneyland/DisneyWorld in approximately the percentages that you’d expect —umm, that ABC actually knows more precisely than Facebook does. An ad for Disneyworld is pretty unlikely to generate new trips; perhaps it could encourage people to plan longer or more pricey trips. But again, you’d expect the ads to be about as effective as billboard ads for the general population of a zipcode… because that’s who Facebook users are.

        Facebook knows some very odd facts about me…ads repeatedly emphasize pictures of busty women touting language courses. Yes, I’m a guy who travels to places where people don’t primarily speak English, and I *have* studied Chinese, Japanese & Italian for various trips, but carpetbombing my timeline with generic language-learning ads seems pretty bizarre. Today’s spots, pushing the rentacar company I *always* use, a World Cup-themed promotion to enter and win Glad kitchen wrap prizes (as if?!?) seem almost as bizarre as the absence of camping gear ads (since my photo was from a backpacking trip and timeline feature outdoors scenery).

        In other words, I think Facebook wins ad revenues by being in people’s faces for hours per day when they’re not terribly engaged otherwise, not because they can show advertisers that I will buy products that I would NOT in the absence of an ad.

        eBay commissioned an interesting study recently, in which they found that yes, people clicked on their Google Search ads to come to eBay, but that people also clicked on the “organic search” results going to eBay almost as often without the ads, and with much lower cost to eBay. In other words, people sure, use an ad at the top of Google search results, but advertisers mightn’t get more hits as a result. Big national advertisers — Coke, P&G, drugs, autos, … — very likely would have the same result on Facebook: maybe it’d generate an “oh yeah, I need to pick up some beverages for Saturday’s party” but not actually cause a sale overall.

        So I’m pretty skeptical about the “knows its customers” line. I haven’t seen that it really increases advertisers’ results much, and there are lots of examples such as Facebook’s, where the size of the market, times the hours engaged, basically explain the results without the special sauce.

  • ESeufert

    “Though it’s clearly benefited from the growth in this category, I think it’s unlikely that these ads make up far more than half of Facebook’s mobile ad revenues in total.”

    What leads you to believe this?

    • It’s based on the comments on Facebook’s last earnings call, e.g. this:

      “…we are excited about our mobile app install ads and our mobile app engagement ads. It’s a small, but growing category we don’t split out by segment. But one thing that’s really important to note is that our mobile ad strength is very broad-based. Our mobile ads are not just bought by people who are looking to drive engagement or usage of mobile apps, but is very broad-based. We’re being used by SMBs, brand advertisers and direct response advertisers as well.”

      That sounds like a very deliberate attempt to defuse the idea that all their mobile ad revenue is from app install ads, and that although it’s growing fast it’s not the majority by any means. It’s characterized first off as “small”.

      • ESeufert

        Hmm, I’m not sure I buy that app install ads are a “small” component of FB’s mobile ad revenues. I obviously recognize that Facebook said that, and I understand why they would want to downplay the idea that AIAs represent a large proportion of total mobile ad revenues, but I simply find it hard to believe that’s the case. The fact that they’re trying to draw attention away from it while not releasing revenue numbers for that ad unit makes me think it’s probably more than 50% of mobile ad revenues.

        There are a 2 reasons I think the opportunity in AIAs is bigger than some estimate:

        1) Facebook’s new Audience network will allow it to syndicate ads to 3rd-party apps — that opens up an incredible amount of inventory, which is the major constraint to the largest app developers. If you give King, Supercell, Glu, etc. more inventory to advertise in, they will; the market will expand. Once Facebook proves this out — and its success is by no means guaranteed, as they could face fierce backlash from platform owners — I think other large companies will follow suit.

        2) As Tim pointed out, the largest developers don’t cap spend at 25% (or some arbitrary percentage) of net revenues. In its F-1 filing, King indicated that it spent $377MM on marketing in 2013 on revenues of $1.9BB, but I think they would have spent far more had inventory not been limited (an increase in inventory would have reduced CPIs and allowed them to spend more, profitably). I think the largest developers will see marketing as a percentage of total net revenues increase in the next few years as they expand into Asia and their games get much larger.

        • Totally agree that Facebook has reasons to play this down, but they can’t be dishonest about it either, especially not in formal disclosures to investors. As such, I said I doubted it was far more than half their mobile ad revenues, but didn’t say it was tiny. I just think there are other components to their mobile ad revenues and that these may be significant in their own right.

          Secondly. expanding the addressable market will bring down prices, as you seem to suggest, which in turn may lead to less growth in revenues than you seem to foresee. Unless you think doing massively more app install ads will actually grow revenues significantly, the overall market will still be capped by that revenue envelope, and for all the reasons I outlined above I think there are natural limits to how big that can get.

          Thirdly, I’m not convinced King would have spent massively more if there were more inventory – at some point you hit the law of diminishing returns. A brand like King already has such massive penetration for its big games that it won’t see the same benefits from spending another $377m that it saw from spending the first $377m.

          The other thing we’re seeing is that the big developers are struggling to replicate the success of their first big hits – only in very few cases is a massive smash that makes a company followed up by another similarly big smash. As such, even though these companies have to spend even more on subsequent games because they’re not getting the same viral growth, they’re not seeing the same return on investment.

          • ESeufert

            “expanding the addressable market will bring down prices, as you seem to suggest, which in turn may lead to less growth in revenues than you seem to foresee”

            With its Audience network, Facebook isn’t selling the inventory but merely facilitating the purchase. And with its own newsfeed inventory, declining prices would obviously hurt revenues but I don’t think Facebook has reached a saturation level yet where an increase in inventory would be met with an equivalent drop in prices (in other words I believe if it could open up more inventory on the news feed, despite a drop in prices it’d generate more aggregate revenue).

            “A brand like King already has such massive penetration for its big games that it won’t see the same benefits from spending another $377m that it saw from spending the first $377m”

            Here we’ll have to agree to disagree, because I don’t think King’s brand helps it much in UA. I recognize the diminishing return on marginal UA spend but I think for very large developers, that marginal spend could be profitable to an extent far beyond what they’re able to achieve with current inventory levels (which is why some have moved to TV, which has FAR higher CPMs and effective CPIs than mobile ad networks — they’ve completely saturated Western mobile ad networks).

          • Yeah, I think we’ll have to agree to disagree in general on this one, but it’s been an interesting discussion! Thanks for chiming in.

          • ESeufert

            Cheers, keep up the good work on the blog!

  • Why wouldn’t app advertisers spend on app advertising until it represents almost 70% of total revenue? Marginal costs are close to zero, there are returns to scale, etc.

    The “bull case” that you’ve outlined is quite bearish. Most advertisers I know will spend much more aggressively on acquisition in a quest for growth.

    • There are several points here:

      First and most important (which I could frankly have spelled out more clearly in the post itself) is that the vast majority of app developers likely don’t use app install ads at all – they get plenty of users through other means, either because they’re established brands, because they get promoted in the App Store, because of word of mouth, because of real-world advertising, or through cross-promotion from their own other apps. Hence, for these apps, the percentage is zero, and that drags down the overall average, so that even if apps that were using app-install ads were at 70%, the overall number would still be far lower.

      Second is that you only need to spend such a high percentage (and likely far higher – i.e. over 100%) of your revenue on app install ads at a certain stage of your lifecycle. Once you get big, you can dial it back. As such, the biggest mobile app companies (including DeNA, King, Glu, GREE and Zynga) all spend less than 30% of their revenues on sales and marketing. These big companies drive a huge chunk of overall revenues from app stores, so their percentage is likely a good proxy for overall averages among this group. As I said in the piece, though the percentage may be higher early in an app’s lifecycle, once it actually starts generating revenue, it will fall rapidly.

      Also, there are sometimes big up-front costs from development that need to be recouped, so even if the marginal cost is zero, developers can’t afford to spend every penny of revenue on ongoing operating costs.

      In short, there are lots of reasons why – even if some app developers are spending a far higher percentage of revenues on advertising, the overall percentage would be much lower.