An article in The Wall Street Journal highlights the biggest challenge for online advertising: Web content is growing exponentially, creating a potentially infinite amount of advertising space. The “content deluge” has been putting pressure on advertising rates, which now hover at about $6.50 per thousand for Yahoo (NASDAQ:YHOO). This is a 15% drop from July 2010, and contributed to the 23% drop in revenues last quarter.
There is no real limit to the amount of content that can be created online, and there are many ways to game the system and get into the news feeds. If you need evidence, go to Elance and look at the hundreds of job postings for web writers. They pay a penny per word, which is all you need to know about the articles they produce. Content like this is produced fresh daily, and is optimized for search engines. It’s a 21st century sweatshop, and it degrades the entire web experience.
My point is that content is growing exponentially in quantity and degrading rapidly in quality. Web search doesn’t solve the problem, and popularity rankings tend to highlight odd, extreme, and sensational stories. At some point, people will begin to hunger for higher standards from their search engines, and greater editorial input. The most likely method of achieving consistently better content is a subscription-based model, which allows content creators to spend time on editorial oversight. This won't happen until we reach a tipping point: People get so fed up with worthless spam called content, and opt into subsciption models that offer consistently high quality. Until then, we are in a free-for-all where search is king and content is free.
Based on this, here are what I see as the winners and losers of the content explosion.
- Google (NASDAQ:GOOG): Navigation and web search is more valuable than the content it points to. This is the primary driver of the stock, since search ads account for 65% of discounted future cash flows, according to data from Trefis. Trefis uses a $596 target for GOOG, which assumes continued erosion in revenue per search, but it also assumes continued growth in Google’s market share for search.
- Facebook has critical mass in social media, where success begets success, due to network effects and first-mover advantage. Text and display ads account for 60% of the stock’s PV (data here). The market assumes very rapid growth in Facebook’s unique visitors, which it expects to reach two billion by 2017, up from about 800 million now.
- WebMD (NASDAQ:WBMD) is a leading provider of health information, with over 100 million unique users per month. Articles are written by doctors and supported by pharma advertising. I like the stock since the firm offers premium content and a targeted advertising base. Trefis doesn't have data for WBMD, but according to the 2Q release, advertising accounts for 85% of revenues and the company has $1.1 billion in cash. The stock fell sharply after a poor 2Q, but I think it’s worth a look as a play on premium content in a growing sector.
- Neo-traditional Media: Properties like The Wall Street Journal (NASDAQ:NWS) are figuring out how to mix subscription revenue with advertising revenue, which allows them to maintain a certain level of quality. Top media brands are still valuable properties in the Internet age, since they benefit from journalistic standards, editorial oversight, and curated libraries of organized content.
- Yahoo (YHOO): Second-tier firms suffer in a winner-take-all environment of search and aggregation, and Yahoo has been steadily losing market share. Display ads, partner search and other advertising account for about 43% of discounted future cash flows, while strategic investments are 36% and cash is 15% (data here). Cash and strategic investments now account for about half of the value of Yahoo. This is a sign that the core business is no longer driving the stock, and the market is putting its emphasis on the potential break-up value of the company.
- AOL faces the same headwinds as Yahoo. Display ads account for 55% of the stock’s value, with search only 9%; dial-up and other businesses account for 11%, with cash accounting for 23% of the stock’s PV. (Data here.) The core business at AOL is still driving the stock price, but with cash at almost one-fourth of the stock's PV, the market is signaling a strong desire for a restructuring. Alternatively, the company could buy back stock or offer a special dividend, though these steps don't solve the problems of its core advertising business.
- Small companies with unique content: The staggering growth in content has not been matched by the growth in robust methods to screen for quality. Small companies with unique ideas tend to give away content and hope they get paid for other products and services. This encourages the creation of even more content, making reliable search results even more problematic.
Disclosure: I am long WBMD.
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