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Many Wall Street analysts have touted Focus Media (NASDAQ:FMCN) as a great buy for investors. Targeting China’s burgeoning middle class has been a notoriously difficult venture for marketers as TV, radio, and print campaigns on state-run shows and papers have been the main channels for advertising. Because of regulatory issues, China does not have long-running dramas and comedy shows like NBC’s Friends or Cheers. Instead, shows are filmed and episodes are shown every day for a month or so. Thus, it is difficult to determine in advance which shows will be the most successful to advertise on.

Only in the past year have marketers been able to leverage the popularity of the internet in China to conduct advertising through Chinese search engine Baidu (NASDAQ:BIDU). Bolstered by nationalistic consumers and backed by a war chest after last year’s IPO, Baidu has been able to extend its lead in China over Google, which has floundered in the past year.

But then came Focus Media to the delight of marketers. The company provides companies a new advertising medium in China by deploying thousands of LCD monitors to office buildings, retail stores, and apartment complexes. While people queue for elevators or wait on appointments they are inundated by advertising content provided via the screens.

The tantalizing part for marketers is that they believe more affluent Chinese consumers are in the targeted buildings where the display screens are set. Supporters of Focus Media argue that the screens capture the attention of people wracked with boredom, waiting for elevators.

So far Focus Media’s performance in 2006 has been impressive as marketers have bought into the theory and allocated larger portions of their budgets away from TV ads towards Focus Media. 2006 Q2 earnings highlights include total revenue of $50.6 million USD a year-on-year increase of 246.8%. In the second quarter, net income reached $16.7 million USD, a year-on-year increase of 283.4%. Nevertheless share prices have declined slightly as Focus Media has forecasted Q3 revenues of between $58-60 million USD, which is at the lower end of analysts’ estimates.

Positive financial data suggests a bright future for Focus Media. However, upon closer inspection, Focus Media’s business model has some shortcomings that will hamper the company’s long term growth prospects and make me wonder how long marketers will continue to buy time with them. Investors should accordingly pay close attention to the potential volatile rises and falls that might befall Focus Media in the coming quarters.

Focus Media’s immediate problem is that their mechanism for updating commercials is limited. At present, the company has to physically upload commercials weekly to each monitor using a USB drive. This method requires a lot of manpower and is extremely time consuming. Content constantly goes on short-track. Thus, even if consumers actually look at the commercials, they get tired of seeing the same images over and over for one week. They stop looking for updated images and forget the service altogether.

For Focus Media’s type of advertising to work, monitors need to supply a steady supply of fresh advertising to maintain viewer interest. To update efficiently Focus Media would have to be able to change content to monitors remotely. The company needs to acquire a network license, which would turn the company into a broadcasting station. This is a difficult proposition.

Unfortunately for Focus Media, competitors are gearing up to tear into its market share. Beijing All Media and Culture Group [BAMC] is hoping to trump Focus Media by leveraging its mobile license. The mobile license is critical for expanding broadcasting services and quickly updating advertisements. BAMC is partly owned by the Beijing Broadcasting Authority giving the company a leg up when faced with the task of obtaining licenses.

Secondly, I would be very interested in seeing the actual utilization rate of the screens themselves. In my apartment complex, a significant portion of the screens are damaged or simply turned off. The same was true in a study I made when I walked around Shanghai and visited a dozen or so buildings in key sites along Huai Hai Rd. I would be interested in knowing the exact number of screens that are actively running commercials – and I am sure marketers would too when they buy time. Pollution problems that plague China will necessitate the screens being replaced more often that I think analysts have predicted, most have said every 5 years.

Another problem my firm the China Market Research Group CMR has found is that people’s eyes are more drawn to the Focus Media logo than they are to the actual commercials on the display screens. We have run eye-checking tests and one-on-one interviews to see what consumers absorb. Our findings suggest that would be consumers see the Focus Media name and remember that more than the actual content of the commercials. Areas around and in elevators are too loud and bustling for consumers to focus their attention on the commercials. They are not the captive audience that many think they are.

It is very hard to tell who is actually viewing commercials. In fact, during the day, white-collar workers are not the ones going up and down elevators and seeing the commercials – it is the legions of couriers that are going up and down, not the plum target market for most marketers.

Mobile phone ad technology will emerge soon will have a much better barometer to determine retention numbers. Marketers can also leverage Web 2.0 to target specific segments better.

What Focus Media has done very well is market the company to advertisers and investors. If they can use their cash pile and brand name to enter more sustainable businesses like more billboard and mobile phone advertising, then Focus Media has a good chance to grow. Before they do that, I would bet on the prospects of France’s JC Decaux, which has been putting its tentacles throughout China.

Shaun Rein is the Managing Director of the China Market Research Group CMR, a Shanghai based firm that helps foreign firms entering or expanding in China get the market intelligence they need to make smarter decisions in China.

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