Category Archives: Facebook

Facebook, Ad Load, and Revenue Growth

Note: this blog is published by Jan Dawson, Founder and Chief Analyst at Jackdaw Research. Jackdaw Research provides research, analysis, and consulting on the consumer technology market, and works with some of the largest consumer technology companies in the world. We offer data sets on the US wireless and pay TV markets, analysis of major players in the industry, and custom consulting work ranging from hour-long phone calls to weeks-long projects. For more on Jackdaw Research and its services, please visit our website. If you want to contact me directly, you’ll find various ways to do so here.

Facebook and ad load have been in the news a bit the past few days, since CFO David Wehner said on Facebook’s earnings call that ad load would be a less significant driver of revenue growth going forward. I was listening to the call and watching the share price, and it was resolutely flat after hours until the moment he made those remarks, and then it dropped several percent. So it’s worth unpacking the statement and the actual impact ad load has as a driver of ad growth a bit.

A changing story on ad loads

First, let’s put the comments on ad load in perspective a bit. It’s worth looking at what’s been said about ad loads on earlier earnings calls to see how those comments compare. Here’s some commentary from the Q4 2015 call:

So, ad load is definitely up significantly from where we were a couple of years ago. And as I mentioned, it’s one of the factors driving an increasing inventory. Really one thing to kind of think about here is that improving the quality and the relevance of the ads has enabled us to show more of them and without harming the experience, and our focus really remains on the experience. So, we’ll continue to monitor engagement and sentiment very carefully. I mentioned that we expect the factors that drove the performance in 2015 to continue to drive the performance in 2016. So, I think that’s the color I can give on ad loads.

Here’s commentary from a quarter later, on the Q1 2016 call:

So on ad load, it’s definitely up from where we were couple of years ago. I think it’s really worth emphasizing that what has enabled us to do that is just improving the quality and the relevance of the ads that we have, and that’s enabled us to show more of them without harming the user experience at all. So that’s been really key. Over time, we would expect that ad load growth will be a less significant factor driving overall revenue growth, but we remain confident that we’ve got opportunities to continue to grow supply through the continued growth in people and engagement on Facebook as well as on our other apps such as Instagram.

Some of that is almost a carbon copy of the Q4 commentary, but note the second half of the paragraph, where Wehner goes from saying 2016 would be like 2015 to saying that over time ad load would be a less significant driver. This is something of a turning point. Now, here’s Q2’s commentary:

Additionally, we anticipate ad load on Facebook will continue to grow modestly over the next 12 months, and then will be a less significant factor driving revenue growth after mid-2017. Since ad load has been one of the important factors in our recent strong period of revenue growth, we expect the rate at which we are able to grow revenue will be impacted accordingly

These remarks turn “over time” into the more specific “after mid-2017”. Now here’s the Q3 commentary that caused the stock drop:

I also wanted to provide some brief comments on 2017. First on revenue, as I mentioned last quarter, we continue to expect that ad load will play a less significant factor driving revenue growth after mid-2017. Over the past few years, we have averaged about 50% revenue growth in advertising. Ad load has been one of the three primary factors fueling that growth. With a much smaller contribution from this important factor going forward, we expect to see ad revenue growth rates come down meaningfully….

Again, it feels like there’s an evolution here, even though Wehner starts out by saying he’s repeating what he said last quarter. What’s different now is the replacement of “less significant factor driving revenue” with “much smaller contribution from this important factor”, and “the rate at which we are able to grow revenue will be impacted accordingly” to “ad revenue growth rates come down meaningfully“. Those changes are both a matter of degree, and they feel like they’re intended to suggest a stronger reduction in growth rates going forward.

Drivers of growth

However, as Wehner has consistently reminded analysts on earnings calls, ad load is only one of several drivers of growth for Facebook’s ad revenue. The formula for ad revenue at Facebook is essentially:

Users x time spent x ad load x price per ad

To the extent that there’s growth in any of those four components, that drives growth in ad revenue, and to the extent that there’s growth in several of them, there’s a multiplier effect for that growth. To understand the impact of slowing growth from ad load, it’s worth considering the contribution each of these elements makes to overall ad revenue growth at the moment:

  • User growth – year on year growth in MAUs has been running in the mid teens, with a rate between 14 and 16% in the last year, while year on year growth in DAUs has been slightly higher, at around 16-17% fairly consistently
  • Time spent – Facebook doesn’t regularly disclose actual time spent, but has said recently that this metric is also up by double digits, so at least 10% year on year and perhaps more
  • Ad load – we have no metric or growth rate to look at here at all, except directionally: it rose significantly from 2013 to 2015, and continues to rise, but will largely cease to do so from mid-2017 onwards.
  • Price per ad – Facebook has regularly provided directional data on this over the last few years, but it’s been a highly volatile metric unless recently, with growth spiking as mobile took off, and then settling into the single digits year on year in the last three quarters.

So, to summarize, using our formula above, we have growth rates as follows: 16-17% user growth plus 10%+ growth in time spent plus an unknown growth in ad load, plus 5-6% growth in price per ad.

The ad load effect

Facebook suggests that ad load is reaching saturation point, so just how loaded is Facebook with ads today? I did a quick check of my personal Facebook account on four platforms – desktop web, iOS and Android mobile apps, and mobile web on iOS. I also checked the ad load on my Instagram account. This is what I found:

  • Desktop web: an ad roughly every 7 posts in the News Feed, plus two ads in the right side bar. The first ad was the first post on the page
  • iOS app: an ad roughly every 12 posts, with the first ad being the second post in the News Feed
  • iOS web: An ad roughly every 10 posts, with the first ad being the fourth post in the News Feed
  • Android app: an add roughly every 10-12 posts, with the first ad being the second post in the News Feed
  • Instagram on iOS: the fourth post and roughly every 10th post after that were ads.

That’s pretty saturated. You might argue that Facebook could raise the density of ads on mobile to match desktop density (every 7 rather than every 10-12), but of course on mobile the ad takes up the full width of the screen (and often much of the height too), which means the ceiling is likely lower on mobile. I’m sure Facebook has done a lot of testing of the tipping point at which additional ads deter usage, and I would imagine we’re getting close to that point now. So this is a real issue Facebook is going to be dealing with. I did wonder to what extent this is a US issue – in other words, whether ad loads might be lower elsewhere in the world due to lower demand. But on the Q2 earnings call, Facebook said that there aren’t meaningful differences in ad load by geography, so this is essentially a global issue.

So, then, if this ad load issue is real, what are the implications for Facebook’s ad revenue growth? Well, Facebook’s ad revenue has grown by 57-63% year on year over the past four quarters, and increasing ad load is clearly accounting for some of the growth, but much of it is accounted for by the other factors in our equation. Strip that ad load effect out and growth rates could drop quite a bit, by anywhere from 10-30 percentage points. Facebook could then be left with 30-50% year on year growth without a contribution from ad load. Even at the lower end of that range, that’s still great growth, while at the higher end it’s amazing growth. But either would be lower than it has been recently.

Of course, it’s also arguable that capping ad load would constrain supply of ad space, which could actually drive up prices if demand remains steady or grows (which Facebook is certainly forecasting). Facebook has dismissed suggestions in the past that it would artificially limit ad load to drive up prices, but this is a different question. Supply constraints could offset some of the slowing contribution from ad load itself, though how much is hard to say.

Ad revenue growth from outside the News Feed

Of course, Facebook isn’t limited to simply showing more ads in the Facebook News Feed. While overall impressions actually fell from Q4 2013 to Q3 2015 as usage shifted dramatically from desktop to mobile, where there are fewer ads, total ad impressions have been up by around 50% year on year in the last three quarters. Much of that growth has been driven by Instagram, which of course has ramped from zero to the significant ad load I just described over the course of the last three years. Multiplied by Instagram user growth (which isn’t included in Facebook’s MAU and DAU figures) and that’s a significant contribution to overall ad growth too. As I understand it, the ad load comments apply to Instagram too, but there will still be a significant contribution to overall ad revenue growth from user growth.

And then there are Facebook’s other properties which until today haven’t shown ads at all: Messenger and WhatsApp. As of today, Facebook Messenger is going to start showing some ads, and that will be another potential source of growth going forward. WhatsApp may well do something similar in future, too, although Zuckerberg will have to overcome Jan Koum’s well-known objections first.

Growth beyond ad revenue

And then we have growth from revenue sources other than ads. What’s been striking about Facebook over the last few years – even more than Google – is how dominated its revenues have been by advertising. The proportion has actually risen from a low of 82% of revenue in Q1 2012 all the way back up to 97.2% in Q3 2016. It turns out that the increasing contribution from other sources was essentially down to the FarmVille era, with Zynga and other game companies generating revenues through Facebook’s game platform. What’s even more remarkable here is that these payments are still the bulk of Facebook’s “Payments and other fees” revenues today, as per the 10-Q:

…fees related to Payments are generated almost exclusively from games. Our other fees revenue, which has not been significant in recent periods, consists primarily of revenue from the delivery of virtual reality platform devices and related platform sales, and our ad serving and measurement products. 

As you can see in the second half of that paragraph, Facebook anticipates generates some revenue from Oculus sales going forward, though it hasn’t been material yet, and later in the 10-Q the company suggests this new revenue will only be enough to (maybe) offset the ongoing decline in payments revenue as usage continues to shift from desktop to mobile.

Of course, Facebook now has its Workplace product for businesses too, which doesn’t even merit a mention in this section of the SEC filing. Why not? Well, it would take 33 million active users to generate as much revenue from Workplace in a quarter as Facebook currently generates from Payments and other fees. It would take 12 million active users just to generate 1% of Facebook’s overall revenues today. And that’s because Facebook’s ad ARPU is almost $4 globally per quarter, and $15 in the US and Canada. Multiplied by 1.8 billion users, it’s easy to see why Workplace at $1-3 per month won’t make a meaningful contribution anytime soon.

Conclusion: a fairly rosy future nonetheless

In short, then, Facebook is likely going to have to make do with ad revenue for the vast majority of its future growth. That’s not such a bad thing, though – as we’ve already seen, the other drivers of ad revenue growth from user growth to price per ad to time spent by users are all still significant drivers of growth in the core Facebook product, and new revenue opportunities across Instagram, Messenger and possibly WhatsApp should contribute meaningfully as well. That’s not to say that growth might not be slower, and possibly quite a bit slower, than in the recent past. But at 30% plus, Facebook will still be growing faster than any other big consumer technology company.

Facebook’s Sharing Problem

Last week, Amir Efrati at The Information wrote about the decline in “original sharing” at Facebook. That’s a reference to the more personal type of posts that people might share using the status box on the service, as opposed to sharing links or other less personal information or status messages. The data shared in the article suggests that this original sharing was down 21% year over year in mid-2015, and down around 15% year on year more recently.

The interesting question here is whether this matters, and why. The article suggests that this is the most important type of sharing on Facebook, because these personal posts bring the most engagement. That’s likely true, and I think there’s also an element of FOMO (fear of missing out) associated with knowing what friends are really up to which drives Facebook usage. To the extent that friends are no longer sharing this personal information on Facebook, that reason for using its apps starts to go away.

However, what’s increasingly clear is that Facebook has evolved from a social network to a content hub over the last several years. Yes, it’s a content hub where the content you see is largely driven by what those you’ve deemed “friends” (whether they really are such or not). But increasingly the driver of which specific things you actually see is Facebook’s algorithm, which is driven a lot more by your interests than by your friends per se. And much of the content you’re consuming is likely not those personal videos but articles (perhaps increasingly hosted on Facebook itself), videos (including the recently introduced live videos), and other forms of content which aren’t personal in nature.

That evolution from a social network to a content hub has coincided with a growth in many other forms of more personal communication, most notably messaging. Facebook clearly saw this trend coming several years ago, and acquired Instagram and WhatsApp while also turning Messenger into a standalone product. But it also failed to acquire Snapchat, and faces competition from a number of other products in this area. To the extent that more personal communication is happening outside of the News Feed, Facebook remains a participant in several ways.

But I also wonder if we’re seeing something of a maturing of the Facebook experience. I always come back to a really insightful post written by venture capitalist Fred Wilson back in 2011. In the context of Twitter, he wrote:

“Let’s remember one of the cardinal rules of social media. Out of 100 people, 1% will create the content, 10% will curate the content, and the other 90% will simply consume it.”

In some ways, what’s important about Facebook isn’t that it is seeing lower sharing, but that it ever had such high sharing in the first place. Even at the lower rates of sharing Facebook is seeing today, the Information article says “57% of Facebook users who used the app every week posted something in a given week, the confidential data show. But only 39% of weekly active users posted original content in a given week”. That’s much higher than the numbers cited by Wilson, even if it’s come down a bit recently. I’d also argue that, to the extent that users are sharing URLs or videos rather than personal content, they’re simply shifting into that curation category, and that still benefits Facebook.

The article talks about live video as one of Facebook’s responses to the sharing problem, but I’d argue that Facebook is working on lots of other stuff that can be seen as a response too. I’ve written elsewhere that the Notify app Facebook launched a while back is an example of this. The new Videos tab Facebook is introducing is another example. It’s clear that Facebook has been planning to deal with this issue for some time now.

This gets back to another thing I’ve written about previously, which is the role Facebook plays in our daily lives. From a jobs-to-be-done perspective, I’ve argued that the problem Facebook really solves is killing time. At some point, I suspect Facebook will truly embrace its new status as a content hub and start serving up content that wasn’t even shared by your friends. At that point, the personal sharing will matter less, and what will matter the most is that you care about the content being shared and engage with it.

Thoughts on Facebook’s Q2 2015 earnings

Yesterday, I covered Twitter’s earnings, and today I’m following up with a post on Facebook’s earnings. The two companies are very different – one is a social network that’s first and foremost about connecting with people you know in real life, and the other is a communication platform that’s more about catching up with the news and public figures. The former now has just shy of 1.5 billion monthly users, while the latter seems to be stuck at around 300 million. I’m not going to focus on the direct comparisons here, but you’ll note some stark contrasts as I review some key numbers from Facebook’s results.

The importance of Asia

One of the most striking things to me from Facebook’s earnings is the importance of Asia. Firstly, user growth in Asia over the past year has been accelerating:

MAU growthOther regions picked up a bit this quarter too, including the US & Canada (which is hard to see at this scale on the chart), but the Asian story is far more consistent.

As a result, Asia also contributed in an outsized way to overall MAU growth, along with the “Rest of World” region, which obviously includes Africa as well as Latin America:

MAU percentage splitAsia and Rest of World combined accounted for 82% of the growth, with the US and Canada and Europe making up just 18%. Now, before you start ascribing all this growth to WhatsApp and other platforms that don’t monetize as well, no, those MAU numbers exclude WhatsApp, so this is all for the core Facebook platform. However, Asia is still monetizing at a much lower rate, with just 16% of ad revenues in the quarter, but a third of Facebook’s users. Part of that is because Asian users still engage with Facebook less than their peers in other regions, as measured by the DAU:MAU ratio:

DAU MAU ratioThere are two ways to read that: Asian users continue to find less value in the platform, which is a bad thing, or the number is rising and Asian engagement today is almost where US engagement was five years ago, and will in time rise to similar levels. I’m inclined to believe the latter, though WhatsApp in particular but also things like allowing phone-number-based signup for Messenger are clearly moves to extend Facebook’s Asian base beyond its legacy product.

Mobile *is* Facebook today

It’s not a new story, but mobile clearly *is* Facebook today, as it accounts for more than 100% of its growth as the desktop business declines. As an interesting thought experiment, imagine what might have happened to Facebook had it continued to dither on mobile ads back in 2012 rather than pursuing them aggressively as the IPO forced it to do:

Mobile desktop revenue splitEssentially all of Facebook’s growth in the intervening period has come from mobile, propelling it from a billion dollar a quarter company to a four billion dollar a quarter company in the process, while non-mobile revenue declines. A big part of this is the transition in the way people use Facebook, as illustrated by its three major groups of users:

Active users by deviceAs you can see, mobile-only users just fell short of eclipsing mobile plus computer users as the largest single group by the end of Q2, but chances are they’re the biggest group by now, and the trend here is only going to accelerate. Both groups were about 44% of the total at the end of the quarter. One number Facebook doesn’t share is the split in time between computer and mobile usage for those users who spend time on both. But it did say that in the US Facebook accounts for 1 out of every 5 minutes people spend on smartphones, and that globally users spend 46 minutes per day on average across its properties (excluding WhatsApp). It’s likely that even for many of those multi-platform users, mobile dominates usage, which helps to explain the increasing dominance of mobile advertising.

The new businesses

The only ongoing challenge at Facebook is these new businesses it has acquired or launched which aren’t yet generating revenue in meaningful numbers, while adding significantly to costs (especially in the R&D category). WhatsApp, Oculus, and Facebook’s search product are all generating very little revenue while costing a great deal to build. There’s apparently no urgency about monetizing search or WhatsApp better, while Oculus will ship its first consumer product early next year. But in the meantime R&D spend (which includes salaries for employees that aren’t working on monetized products) is skyrocketing:

R and D spendA big part of that is hiring in R&D – of the 873 net new employees Facebook added in Q2, a majority were apparently in R&D. This, and the general investment in these new areas, is taking Facebook’s non-GAAP margins (which exclude stock based compensation) steadily downwards, though they’re still at fairly healthy levels. With the core business continuing to perform so well, I don’t think there’s any worry about this yet, but it’s something to watch going forward.

Facebook’s payments trojan horse

Facebook’s announcement of person-to-person payments through Facebook Messenger last week has a lot of people scratching their heads. The most puzzling part? It’s not charging for these payments, even though there’s a cost to Facebook, which means it’ll lose money on every transaction. So why would Facebook do this, and what implications does it have for payments and other services at Facebook?

Take a step back for a minute and look at Apple. For years, signing up for an iTunes account was almost impossible unless you were willing to provide credit card details for potential music purchases. As such, Apple collected credit card information for hundreds of millions of users, which enabled the later introduction of purchases of other forms of content such as TV shows, books and movies, and much later enabled the easy introduction of Apple Pay. Having a payment method on file makes creating new paid-for services much easier and more seamless, but getting the credit card information for the first time is the big hurdle. Just look at Google – it’s struggled for years to get users to pay for apps and content. There are certainly other reasons for this, but one of the key reasons is the fact that users don’t provide credit card information when they sign up for either a Google account or an Android device. In markets where Google has added carrier billing as a payment option, app purchases rise significantly, according to one of the companies I’ve spoken to which provides the underlying technology.

So, back to Facebook. Other than its fairly limited previous payments play with partners such as Zynga, Facebook has never really given users a reason to add payment information to their accounts. And that’s been fine, because Facebook’s main business model has been advertising, with payments and other fees dwindling as a source of revenue. But as Facebook attempts for a second time to create a platform for developers and businesses, payment information will be a critical element of many of the potential implementations. The biggest barrier? Most of Facebook’s users don’t have payment information on file. How, then, to incentivize these users to add their credit card details? I suspect fee-free person-to-person payments may well be the trojan horse Facebook is using to catalyze users into adding their payment details to their accounts. Give users a compelling reason to add their details, and then you’ve got them for other purposes too. Now all it requires is getting their permission to use the same credit card for other transactions.

So, what transactions could we be talking about here? Well, last year Facebook trialled some basic commerce solutions, such as a Buy button, and at last year’s F8 conference it announced Autofill with Facebook, in partnership with several other payment providers. But at today’s F8 event we got a much better sense of what it has planned. The Buy button together with Facebook’s Messenger platform announcement highlight various ways in which Facebook could benefit from having users’ credit card details on file. If that platform is to make money, in fact, it’s almost certain that it’ll need some way to allow users to make payments for various products and services, of which Facebook would naturally take a cut. But even beyond the platform announcement, Facebook is planning to bring more video and news content into Facebook natively, and having ways for users to pay for such content on a subscription basis would also be attractive, just as Apple allows its users to do today. In fact, almost all of the ways in which Facebook could diversify away from advertising require it to have ways for users to pay for things through Facebook, and that requires getting their payment details.

All of this brings us back to Google, which we touched on briefly earlier. Google clearly plans to get into the payments business itself with Android Pay over the coming months, and it would obviously love to increase users’ spend on apps and content as well over time. But Google has struggled throughout its history to get users to pay for things, especially since it’s taught them so effectively that its most useful services will be free, supported by advertising. What will Google’s vehicle be for getting users to add their payment details to their profiles? It could arguably take a leaf out of Facebook’s book here – find a way to incentivize users to add their credit cards to their accounts through a service that’s compelling in its own right. Once that’s done, all kinds of new opportunities will open up.

Quick thoughts: Defragmenting media on Facebook

Facebook seems to be working on two fronts to bring content from third party sites natively into the Facebook experience. This began with video, where Facebook has been quietly bringing both major traditional brands and smaller content creators into the core Facebook experience. But there are now reports that Facebook plans to do the same with news articles from major publications like the New York Times, Buzzfeed, and National Geographic.

I’ve talked previously about the video efforts, and in that piece I said this:

Facebook has become a massive destination for video, but almost all the video is actually hosted on other platforms. That obviously has cost advantages for Facebook, but it means that it doesn’t own the content, and therefore can’t monetize it effectively. It also means that engagement around videos on Facebook is fragmented, with popular YouTube videos attracting millions of comments scattered across hundreds of thousands of different user shares of the same video.

There are lots of aspects to all this, and Facebook is no doubt talking up the performance and monetization benefits of publications hosting their content directly on Facebook. But I think one of the other key benefits is the ability to overcome this fragmentation, and that applies just as much to news as it does to video. So let me expand on that a bit. The problem as things work today is that there’s no single version of either a video or an article on Facebook, just the original on the third party site. Meanwhile, there could be thousands of individual shares of that video or article on Facebook, with no connection between them. On the third party site there might be an indication of the number of third party shares, but the site has no easy way to digest what’s happening on each of those shares, and Facebook users have no visibility into how many shares, comments or other metrics the article or video is capturing in total across Facebook. Sometimes Facebook takes an article shared my multiple friends and bundles it into a single card with a single link, but there are still two entirely separate discussions happening among two separate groups of friends.

What Facebook could do if these things were being shared natively through Facebook is start to aggregate all this activity much more effectively, both for the content owners and for users, with commenting, stats tracking and so on happening much more effectively. And of course Facebook could share much more data about the users sharing the content with the content owners, so that they’d get a much better picture of who’s viewing the content. One of the key challenges with Facebook (in contrast to Twitter) is that sharing is inherently private, which provides almost zero visibility for content owners. With native sharing on Facebook, that could change, though of course it raises some interesting privacy implications. If you’re commenting on my video or article on Facebook, does that mean I now get to see your comments, even if they’re only shared with your friends and not public?  And in a world where many news sites have either switched off comments or left them on but failed to curate them effectively, could Facebook help to provide a better class of discussion?

There are so many aspects to all this, including some significant risks for the brands involved. But it seems to me that they would at least in part be making the following tradeoff: ceding control over hosting and branding the content itself in favor of better visibility and tracking of the engagement with that content. For some of them, at least, I’m guessing that’s a tradeoff worth making.

YouTube and its alternatives

Eric Blattberg at Digiday has been doing some great work reporting on both some of the newer video initiatives at Facebook and Vessel as well as developments at the current industry powerhouse, YouTube. Eric’s latest piece today is about YouTube’s new effort to clamp down on sponsorships and advertising which bypasses its official ad products, and it’s this that I wanted to cover briefly today. I have two things I want to talk about: firstly, the potential of the newer video platforms; secondly, what Google’s YouTube moves suggest about the company as a whole.

Potential for newer platforms

I’ve been broadly skeptical of some of the newer video initiatives out there – YouTube’s lead has seemed so enormous, its position as the de facto standard for online video so entrenched, that it was hard to see how others could make a dent. Several things are starting to change my mind about this.

Firstly, Facebook’s embrace of video, and especially auto-playing video, has leveraged its massive audience into a very strong position as a video player. I’ve written elsewhere recently about the fact that every major sharing platform slowly migrates from text-based to photo-based to video sharing, but none has pursued this transformation quite as effectively as Facebook. From last month’s earnings call:

Five years ago, most of the content shared on Facebook was text and some photos. Today, it’s primarily photos with some text and video. Over the next five years, we want to keep developing new products and features to help people share the way they want.

Two things have allowed Facebook to make this leap to prominence as a video provider: the massive base of users, an the fact that Facebook is a destination, somewhere users go to spend time, rather than get something specific done. In the process, Facebook has become a massive destination for video, but almost all the video is actually hosted on other platforms. That obviously has cost advantages for Facebook, but it means that it doesn’t own the content, and therefore can’t monetize it effectively. It also means that engagement around videos on Facebook is fragmented, with popular YouTube videos attracting millions of comments scattered across hundreds of thousands of different user shares of the same video. This is starting to change, with ABC News, The Young Turks and others launching videos directly to Facebook rather than exlusively through YouTube. I think Facebook is finally in a position to be the first really large-scale platform to seriously challenge YouTube for dominance in video. The biggest challenge will be how to incorporate advertising into videos when they auto-play – pre-roll clearly isn’t the answer, but what is?

The other thing is that YouTube, with moves such as those Digiday covered today, is actually making it tougher for content creators to monetize on YouTube in the way they see fit. Videos on YouTube generate tiny amounts of money per view for content creators, and one of the ways they’ve overcome this challenge is through sponsorships. That’ll now be banned under YouTube’s new terms of service regarding advertising. At the same time, Vessel, AOL and others are targeting YouTube content creators with an emphasis on better monetization of their viewership. I’ve been skeptical of these efforts, but YouTube is playing right into their hands with some of these moves, which makes me more open to the idea that it might actually start to suffer as a result of competitive inroads from Facebook but also these smaller platforms.

What all this says about Google

Which brings us on to what this all says about Google. YouTube’s management must understand the risks associated with these moves, so why are they doing this? The only thing I can think of is that YouTube’s revenue growth has become so critical to Google’s overall performance that they have to keep squeezing harder and harder to get more money out, despite the longer-term strategic costs. Because Google doesn’t break out performance by business, we have essentially zero visibility into YouTube’s performance, but it’s been one of the strongest growth drivers for the company for years, and as the other parts of the business face increasing headwinds, it’s all the more important that YouTube continue to deliver strong growth.

On the positive side, YouTube’s management under Susan Wojicki is clearly thinking about how best to monetize much of the usage on the site that currently goes unmonetized or under-monetized. That includes YouTube Music Key and the work YouTube is apparently doing on building subscription models for content creators. The challenge is that almost all the moves YouTube is making are either content-creator-friendly at the cost of being user friendly (charging for content users have been receiving for free) or hostile to content creators. There’s very little that YouTube is doing which seems likely to please both users and content creators. I’m curious to see what else we see from YouTube in the coming months, but my worry is that Wojicki has been sent in to crank the handle on revenue in the short term and that this will have long-term strategic costs as other video platforms snatch away both viewership and content creators.

Why I’m more bullish on Facebook than Google

This is mostly a Facebook earnings post in disguise – part of my series on major tech companies’ earnings. Google reports this afternoon and it’s my hope to get this out before their results hit the wires. I did a big deck full of charts and comparisons for Facebook for subscribers – sign up or read more about that offering here.

Google and Facebook are the two largest online advertising businesses in the US, and as such face similar market conditions. But they’re coming from very different places, while managing the challenges in very different ways. I maintain that the best way to look at Facebook’s growth potential (and Twitter’s, incidentally) is through three key metrics:

  • User growth: measured in growth in monthly active users (MAUs) year on year
  • Engagement: growth in DAUs as a % of MAUs
  • Monetization: growth in average revenue per user.

The chart below summarizes the state of affairs with regard to Facebook according to these three metrics:

Facebook core growth leversAs you can see, two of the three look very healthy over the longer term, with engagement growing steadily and monetization increasing rapidly. User growth has slowed a little from past rates, but Facebook still adds over 150 million new MAUs every year, and the number’s actually begun to tick up slightly. Engagement stalled a bit this past quarter, as DAUs appeared to plateau at 64%. That was driven by slight declines in Asia and the Rest of World segment, along with flat numbers elsewhere. But it’s a one-quarter phenomenon for now, so we shouldn’t get overly worked up about it. We’ll see what happens next quarter. Engagement is, at any rate, merely a means to an end, as one of two drivers of monetization, which is doing fine. In short, Facebook’s core levers for growth are going well.

At the same time,  this can’t go on forever:

  • Facebook’s user growth can’t keep going at the same rate forever – almost all services eventually start reaching saturation of the addressable market, and with 60% penetration of the total population and 75% penetration of the mobile population in the US and Canada, it’s already bumping up against a ceiling in some regions. Elsewhere, notably in Asia, penetration remains low, but isn’t growing rapidly either.
  • Engagement can’t keep going up forever either – some users will always be occasional rather than regular visitors to Facebook’s properties, and they can only spend so much time on the core Facebook experience in a day.
  • Monetization will start to slow eventually too – both the limits to overall ad spend and increasing competition from other companies in mobile advertising generally and app-install ads specifically will start to eat into Facebook’s growth prospects.

I believe Facebook is aware of all these things, which is why it’s invested in several new businesses, among them WhatsApp and Instagram in the messaging/photo sharing space and Oculus Rift in the interfaces business. It’s also broken Facebook Messenger out as a separate service, which has been controversial but seems to have paid off in spades. Here are the user numbers for the three messaging apps:

Facebook messaging MAUsNone of these is generating significant revenue today, but as Mark Zuckerberg said on yesterday’s earnings call, they all have potential to to do so in future, and Facebook will be very careful about turning the profit spigot on for each of them in the meantime. In other words, Facebook has invested for the future, and has several products waiting in the wings which can start to generate additional revenue (mostly through advertising though potentially through payments or other streams) when they’re needed to shore up overall growth.

Perhaps the most heartening thing about Facebook, though, is that it’s been so clear about two things: the strategy behind these products, and the metrics associated with them. The underlying drivers behind both Facebook’s business today and its business tomorrow are clear for all to see, and we’ve just looked at them. You can draw different conclusions about where those trends might be going longer term, but at least you’re looking at the same data Facebook is looking at as an outsider, and especially as an investor.

This is where Google comes in. I’ve written elsewhere, and especially in a couple of recent pieces on Techpinions, about the fundamental risks to Google’s business in the near term. But I’m more worried than anything else about the fact that Google (a) doesn’t provide good enough transparency into the drivers of its current business, and (b) hasn’t articulated a clear vision for how and when its equivalent investments for the future will pay off. It is neither providing outsiders (including investors) with the understanding they need of how its current business will develop, nor is it telling a compelling story about how its business will evolve over time.

Meanwhile, there are significant headwinds coming up for Google: despite its efforts to shore up its control of Android, it’s arguably in greater danger than ever of losing control over this core platform. Between Chinese OEMs, Amazon and Samsung each customizing the platform to meet their own needs, Cyanogen threatening to take it away, and Microsoft investing in Cyanogen, there are several threats to Google’s ability to continue to control and drive revenue through Android. Internet growth is slowing worldwide, and the new users who come online will have and command far less spending power, while gravitating towards local alternatives and app rather than web models in their usage. Google really doesn’t seem to have an answer for any of these. So far, their earnings are holding up (we’ll see what happens today), but I think it’s only a matter of time before these cracks begin to show.

For those interested, below is a screenshot of the Facebook deck, with some of the metrics described above and many others. Again, click here to find out more or to sign up.Facebook deck overview

Quick thoughts: Instagram at 300 million

Facebook today announced that Instagram now has 300 million monthly active users. This has invited inevitable (unfavorable) comparisons to Twitter, which had 284 million MAUs at the end of last quarter. I wanted to talk about a couple of things in relation to those comparisons.

Facebook and Instagram

Firstly, I wrote a post a year ago which I titled “Instagram’s advertising problem” which was really about the challenge of serving relevant and timely ads, and the degree to which various services struggle to hit that sweet spot. Instagram’s core challenge as a standalone business was that it knew next to nothing about its users, especially before brands started being a big presence on the service. What’s becoming increasingly clear since then is that one of the biggest forms of synergy between Facebook and Instagram is the ability to use the data Facebook has on users to target Instagram ads. See this quote from the Wall Street Journal’s interview with Instagram CEO Kevin Systrom today:

We use Facebook to serve the ads to Instagram. Basically, we’re making it very clear that data is shared between the services under Facebook’s roof. Facebook helps us provide relevant ads to the users. You don’t want a 50-year-old male who’s interested in autos seeing an ad for a beauty-care product targeted at teens. If you ask users what they hate most, it’s not having relevant ads being served to them.

It’s also very clear that information doesn’t flow back the other way:

WSJ: Does my activity on Instagram affect the ads I see on Facebook?

Systrom: I don’t think we have plans for that right now.

That’s likely because there’s almost no useful information that could be sent back the other way, because Instagram activity provides almost no insight into user demographics or interests (except to the extent that users have explicitly followed brands). All this also raises an interesting question: to what extent do the two user bases overlap? Are the vast majority of Instagram users also Facebook users, who’ve built up enough of a profile there to provide targeted advertising on Instagram? For now, I think the answer is likely yes: many of the teenagers now swarming to Instagram likely had Facebook accounts already (even if they’re not using them as often), but what if future teenagers (or other Instagram adopters) skip the Facebook stage entirely, or never bother populating their Facebook profiles with enough material to effectively target ads?

Twitter and Instagram

So, on to that unfavorable comparison to Twitter. I actually want to talk about two things here: one is why Instagram is growing so much faster, and the other is addressing the idea that Twitter should have bought Instagram instead.

First, why is Instagram growing so much faster? I think the answer is that it basically mirror the network effects of Facebook itself, in that it’s built around a community of friends and family. It benefits hugely from the fact that once a critical mass of your friends joins, it becomes inevitable that you will join too, to avoid missing out. This is especially the case among what is (likely) one of Instagram’s strongest-growing demographics: teenagers. Twitter entirely misses out on this phenomenon, by being a platform that’s largely about connecting with people, brands, news sources and so on that you have no existing personal connection to. It also suffers from the fact that so much of its content is easily available to its famous “logged-out users”. Because it’s inherently a public platform, there’s no great benefit to being logged in (or even registered) for much of the content shared there.

As I’ve written about previously in various posts on Twitter (e.g. here, here and here – full archive here), Twitter’s focus seems to be on talking up the size of its existing audience, partly by expanding the definition of what that includes, but what it really needs to do is find ways to keep growing the core base. And it’ll do that only if it (a) lowers the barriers to entry (as I described in this piece), and (b) taps into those viral and network effects that true social networks enjoy.

Secondly, the issue of whether Twitter should have bought Instagram instead. Arguably, Instagram might have helped Twitter solve the very problem I’ve just been talking about: as a true social network, Instagram enjoys network effects Twitter doesn’t, and it could have both plugged a gap and served as a focal point for Twitter’s messaging and other efforts. Instead, it’s now trying to build those things around the core Twitter experience instead, and that’s going to be tough. So there are some good arguments for such a combination. But the biggest counter-argument goes back to the point I started with, which is that without Facebook, Instagram really had no way to monetize effectively, because it had no way to display timely, relevant ads.

With Facebook’s help, it now scores very highly on the relevancy side, because it can leverage Facebook’s data on its users where the two user bases overlap. Twitter, on the other hand, suffers from a very similar problem to Instagram itself: it knows something about its registered and logged-in users, though arguably not that much, but knows almost nothing on its own about the logged-out users. Instagram wouldn’t have helped with that, and without its own data on those users, and likely relatively small overlap between the two bases, it would have found it very difficult to effectively monetize Instagram. For all these reasons, though there is some logic behind a combination of Twitter and Instagram, it would have been enormously tough to justify financially for Twitter. I think it’s a much better fit for Facebook, but unfortunately that leaves Twitter struggling with the same old problems.

Thoughts on Facebook earnings for Q2 2014

Note: This is part of a series on major tech companies’ Q2 2014 earnings (e.g. Google here, Microsoft here, Apple here and here, Netflix here). My post about Facebook’s earnings last quarter is here.

Given that I covered a lot of elements of Facebook’s business last time around, I thought I’d try to take a slightly different tack this time. Firstly, look at this dramatic transformation in Facebook’s desktop versus mobile business, in three charts:

Facebook ad revenues by device

That’s a good chart for getting a handle on just how dramatic the rise of mobile has been at Facebook, both as a percentage of revenues and as a dollar amount. But have a look at this one too:Facebook ad revenue by device - 4-quarter

Continue reading

The limited opportunity for app install ads

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. Continue reading


  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.