The tentacles of the fiscal cliff debacle are long-reaching, even extending to the advertising business. For internet companies that derive the bulk of their revenues through advertising, the fiscal crisis has the potential to throw a monkey wrench into their efforts.
Tech giants that could be affected that immediately come to mind are those whose businesses thrive on display advertising. The top two are Google (GOOG) and Facebook (FB). Yahoo (YHOO) and Microsoft (MSFT) also depend on display advertising for a considerable portion of their revenues. Any pull back in advertising by businesses should be particularly worrisome to them because they lag the leaders and haven't enjoyed the rapid growth in display advertising, such as Google and Facebook.
Ad Industry Warnings
Like companies in other industries, those in the ad world have started to sound the horn over the negative impact the looming fiscal cliff is having on their businesses. They echo so many others who say their operations are already being affected by the impasse in Washington over how much to raise taxes and cut spending. Concerns that an agreement will not be reached are further aggravating their situations. Businesses are simply cutting back or contemplating cutting back on ad spending.
Earlier this month, ZenithOptimedia revised downward its projections for global ad expenditures. It now expects those expenses to increase 4.1% instead of the 4.6% it had previously projected earlier this year. Other market research firms have also lowered their estimates for next year.
The little growth that is coming in the advertising industry is coming from internet advertising. Businesses are seeing social media, games and online videos as the perfect sites to advertise their goods and services.
ZenithOptimedia expects Internet advertising to grow by 14.6% next year, while traditional media will grow by just 1.7%.
Ad Revenue Importance
To give you an idea of how much these companies rely on ad revenue, consider Google. Roughly 97% of its revenue came from advertising last year. The interesting thing about Google is that investors seem to be not giving much weight to reports that the advertising industry could experience a slump next year. The stock continues to trade at or near all new highs.
While I'm impressed with Google's growth due to the benefits it's reaped from display advertising, I'm just as impressed with Facebook. It's the relative new kid on the block and it has managed to make quite a mark through display advertising. Its market share in the area surpassed Yahoo's years ago, and it beat out Google this year.
If any company represents the case for the importance of ad revenue, it is Facebook. It has been under a huge amount of pressure from shareholders who want it to capitalize on the nearly billion users of its network. So when the company reported advertising was up 36% to $1.09 billion in the third quarter, investors and even naysayers cheered. Ad revenues now account for 86% of its total revenues, which is up from the 84% it accounted for during the second quarter.
Internet Companies Could Escape the Worst
It's not all gloom and doom for internet companies like those I mentioned above, however. That's mainly because their ad revenues don't come from one source. In addition to display and search ads, their revenues also include mobile and social ads.
Compared to your typical media like newspapers and magazines, internet advertising is expected to grow at a much faster pace. ZenithOptimedia projects internet ad spending to increase by 18.1% to $36.2 billion next year. It predicts that newspaper ad expenditures will sag 8% next year to $22.9 billion while magazine spending will slip 3.3% to $17.3 billion. Advertising on television is expected to do slightly better, as ZenithOptimedia expects it to rise 2.8% to $63.8 billion.
Of all the media that rely on advertising for their financial health, internet companies are the best positioned to deal with any fallout from the fiscal cliff. It is clear that companies will adjust their budgets based on the outcome of negotiations in Washington, and this includes cutting back on advertising if need be.
I think Steve King, Global Chief Executive Officer for ZenithOptimedia Group, summed it up best when he said, "Advertisers are willing to increase their budgets wherever they can achieve a strong return on investment."
For now, that includes internet companies.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.