Diane Mermigas'  Instablog

Monaco--Advertising will not pay the freight for digital media, like it has for newspapers and television, as it morphs into an interactive experience riveted on transactions, according to Publicis Groupe Chairman and CEO Maurice Levy.

"Advertising cannot cover the cost of everything in the new digital media world. Other sources of generating revenues will have to be created, such as having consumers pay for some content. It cannot all be free or paid for with advertising," Levy told me in a weekend interview at the Monaco Media Forum, co-sponsored by Publicis.

"There is no reason why digital media should give away information and other content, when it can target its value to the consumers it is reaching," Levy said. The same is true with advertising, "which can and must be transformed into a link that is brilliant and relevant to specific consumers. It will take creativity to make targeting more precise in a way that is not intrusive, "but creates digital value for content owners, advertisers, agencies and consumers."

Although advertisers and agencies continue paying for the right to use professional music, video and other content, the issue of paid versus free will become even more explosive. It will be difficult, but imperative to change the expectations of Interactive consumers taking all they want gratis.

"Free content devalues everything in the food chain. It is disintermediating everything, including ad agencies and advertising revenues," he said.

"As consumers take ownership of brands and transform them, we are losing control of the message," Levy said. "Advertisers and agencies must make more aggressive use of the Internet as a tool for reinventing themselves."

They can begin by purging the Internet of what Levy refers to as "dreadful, insulting" banner ads. "You bring that banner to life with motion. We must use much more creativity and interactivity in all that we do," he said.

"Five years from now, agencies and advertisers will be very different as they move their messages along the digital food chain. They ultimately will lead to and incorporate transactions," Levy told me during a relaxed discussion.

Publicis Groupe has taken its own advice by redesigning its Web site with more intuitive, interactive features. Over the next 18 months, Publicis will continue experiments and strategic alliances aimed at transforming "from a communications service provider to a value creator for clients that shows them how to change their business models and stretch their brands," Levy said. "In turn, we want a share of the risk and the profit of the client."

That will require a laser-like focus on developing new targeting measurement and dynamics, "the absence of which represents lost revenues and profits," he said.

How quickly transactions become the ultimate goal of interactive advertising depends upon the creation of refined consumer targeting, which is eluding media and marketing companies. "We all are desperate to have measures and metrics to reassure advertisers that when they are investing money, there are people at the other end reacting to their message," Levy said.

The gradual recovery from the global recession may be a catalyst for creating such "fundamental analytics" as reviving consumers and ad dollars continue their digital migration. The creation of new strategic media players, such as the anticipated merger of General Electric's NBC Universal and Comcast that could be announced this week, also will hasten the development of new digital metrics and pricing.

"Advertising as we know it will change more dramatically as a result of the economic crisis. But not without the metrics," he said. That includes newspaper and television advertising, which also will come to rely more completely on interactive advertising and payments, he added.

Levy is less optimistic about the ability to monetize even the most prominent online social networks. "There will be terrible disappointment in the end about Facebook and Twitter and their real value and strategy, which will evaporate. When you do the math, there is no way Facebook can be worth $15 billion," Levy said.

During his on-stage presentation at the forum, Levy made the point that, despite more than two decades at the top of Publicis, neither he nor the agency is standing still. In fact, he was noncommittal about the role, or even existence, of advertising agencies 10 years from now.

"I come here to learn as much as to share," he told me, following a panel I moderated on audience targeting. "Targeting is a conundrum. Like so many things fundamental to us now in this new digital environment, it is a catch-22. And the sooner we solve these puzzles and we meet these challenges, the better."

 Diane Mermigas does not directly own media or Internet stocks.

Cable networks are a sweet spot in a media industry struggling to find its financial footing. They are driving conglomerates' earnings as well as richly priced deals, and will be a growth vehicle for branded content across all digital platforms.

Whether it is Comcast's bid for 51% ownership of NBC Universal or Scripps Networks Interactive's 65% control of The Travel Channel, cable networks are commanding mid- to-high-teens earnings multiples at a time when most media values are in flux.

The complex structure of the Travel Channel deal implies around a $1 billion price that is 14 times 2010 earnings, according to Morgan Stanley. Analysts initially estimated that The Travel Channel was worth between $600 million and $700 million. A proposed $30 billion-plus stand-alone NBCU, to include all of Comcast's content assets, would rely on cable networks for 75% of its earnings, analysts say.  

Cable networks will account for nearly 70% of Time Warner earnings next year, 60% of Walt Disney s earnings in 2009 and 40% of News Corp.'s overall operating profit this year, analysts say.

There are many ways that cable networks will be a catalyst for change:

*Cable networks' established dual subscription and advertising revenues, which generally have been recession-proof, inspire new paid content models.  ESPN and other cable networks, as well as single programs, command the kind of affinity and relevance for which increasingly selective consumers will pay. 

This is no small point considering that the bottom 50% of the U.S. population lacks discretionary income and credit, according to Bernstein Research. That means they are unable to support existing and rising paid-content options, from monthly cable TV and on-demand fees to rising box-office ticket prices and video games.

*Cable networks' economic power is best illustrated in Scripps Networks Interactive, which was publicly spun off from E.S. Scripps more than a year ago. Closing the gap with its peers between its audience and revenues (from advertising and subscriptions) represents a $300 million incremental opportunity, which would be about a 20% boost to 2012 earnings, according to Goldman Sachs analyst Mark Wienkes. Scripps Networks Interactive converts about 60% of its earnings to free cash flow. That allows it to bring $183 million cash to its new Travel Channel venture with Cox, buy up the 31% Food Network stake owned by bankrupt Tribune Co., and invest in international network joint ventures.

*Cable networks will be a catalyst for robust asset sales and acquisitions. Other cable networks and their owners also have cash resources to consolidate cable networks and other content assets.  Scripps Networks Interactive, Discovery Communications, Lions Gate Entertainment, DreamWorks and Sony Pictures Entertainment are among the content compared identified as potential merger and acquisition targets in 2010, according to UBS.

Consolidation could result in the formation of cable-network super hubs. Time Warner has downsized to cable networks and magazines. It has $7 billion in cash (from the spinoff its cable systems) to acquire more cable content after it jettisons AOL by year's end. Viacom, News Corp., Walt Disney and Liberty Media also are buyers.

*Cable networks could provide a way out of deteriorating broadcast networks. For instance, a  new controlling owner like Comcast could opt to convert the peacock network into several more financially viable cable networks supported by both advertising and subscription revenues. It also could seek to relegate NBC TV's sports, news and entertainment elements to existing NBCU cable properties (such as MSNBC, CNBC and USA). Alternatively, Comcast could sell the NBCTV Network and TV stations could be sold to major NBC affiliated group owners such as Hearst, Gannett, Belo and E.W. Scripps.

*Cable networks are providing a template for more affordable program production and faster, more assured return on investment. With more than 90% of all new prime-time broadcast network series never surviving to a second season and hour-long episodes costing into the millions, cable networks have a better way. USA, TBS, TNT and other cable networks judiciously produce series cycles for particular calendar and audience windows. They are not bound by broadcast network prime-time schedules or seasons. Continuously rerunning original programs on-air generates enough ad revenues to more than cover production costs.

Many cable networks, such as Scripps Networks Interactive, have low and controlled production and talent costs on how-to and other evergreen programming. The result is spending an estimated 25 cents per viewer annually to create programs compared with generating 85 cents per viewer in advertising revenues, according to Wienkes.

*Cable networks whose programs have universal appeal and endless shelf life will continue to experience rapid international growth. This includes food, travel and home improvement, as well as news and sports. Global markets will eventually comprise as much as half of cable network revenues in some cases, analysts say. More than one-third of Discovery's revenues come from global markets. Scripps Networks Interactive, whose cable networks had 26% domestic ratings growth in October, generated less than 5% of its revenues from international sources this year and will be seeking to expand globally.

*Cable networks will be conduits for targeted addressable advertising on cable systems through efforts such as Canoe Ventures. Many cable networks are accelerating their use of addressable advertising, interactive marketing and e-commerce, particularly as television morphs into another Internet-connected screen. Opportunities for this in 2010 will include cable operators' TV Everywhere trial and Apple's new e-Tablet and iTV rollout.

Yahoo and AOL could be choice assets to savvy players that are better at integrating and utilizing than Time Warner's debacle with AOL. It may be unthinkable to suggest that AOL should enter a new corporate relationship after an agonizing decade. But it is difficult to imagine AOL -- or Yahoo, for that matter -- flourishing long-term as stand-alone entities, even if they succeed in adjusting to their new business models. Here's why:

*Both companies command valuable online audiences that can be better monetized by a smart partner. AOL's audience is valued at around $1.7 billion, based on Yahoo's audience valuation of $11 billion, according to Credit Suisse analyst Spencer Wang.

*Both companies are limited in value they can create from their audience base over the next five years.

*Including its access service, Wang figures AOL's overall stand-alone value is at least $4 billion. (Compare that to AOL's $161 billion value when it merged with Time Warner in 2000 and its $20 billion value when Google paid $1 billion for a 5% stake in 2005.)

*AOL's total revenues are expected to stagnate just below $3 billion through 2014, when its adjusted operating income (before depreciation and amortization) is expected to decline to about $600 million from $975 million this year, Wang estimates.

*Yahoo's revenues will decline 13.5% to $4.7 billion this year, and average only 4.8% through 2014. Its operating income will decline 11% to about $1 billion in 2009 and grow an average 11% to $1.7 billion by 2014 -- due largely to aggressive cost management, Wang says. Yahoo's $22 billion equity-market cap is the lowest of its Internet peers, half of which is comprised by its 40% stake in Alibaba Group and 35% stake in Yahoo Japan.

Still, Yahoo and AOL have heavily invested in original and third-party content, making them more valuable to larger media players. While both companies continue new initiatives -- such as improved home and search pages, mail, mobile connections and content categories -- none are game-changing enough to do more than generate incremental gains. Yahoo continues its longtime lead in news, sports and finance, while AOL is making good strides with its robust content verticals.

Both companies also are more aggressively pursuing advertisers, especially from newspapers and television. At its first analyst day since 2007 on Oct. 28, Yahoo executives discussed their holistic approach to ad sales targeting audiences across its search, display and mobile platforms.

Yahoo is chasing what it estimates as a $30 billion revenue opportunity by closing the 2-to-1 gap between the amount of time consumers spend online and the amount of ad dollars spent online. But Yahoo's biggest opportunity is outside the U.S., where 75% of its total users generate only 27% of its overall revenues. Less than 3% of its total ad revenues come from emerging markets. By comparison, AOL India -- a portal that eventually may prove valuable -- will continue to be owned by Time Warner.

Clearly, what is missing from Yahoo and AOL is a broader leadership vision of what the companies should look like in five years and how to generate sustainable double-digit growth. All emphasis is on short-term rebuilding.

Yahoo's analyst day was "long on feel-good factor but short on substance and numbers," Bernstein analyst Jeffrey Lindsay writes in a client report. "CEO Carol Bartz started the day on a contrite note, acknowledging that Yahoo had lost the respect of advertisers and investors and was keen to win it back."

That's not a vision -- it's a survival strategy.

Unfortunately, there also does not appear to be much strategic or innovative vision at larger companies on how to use Yahoo or AOL to expand their online content and advertising business. Other media and entertainment companies are unclear about their own futures, thus unwilling to place bets on companies with troubled deal track records.

That doesn't mean AOL and Yahoo won't be acquired or engaged in joint ventures, as they represent scare good-sized publicly traded Internet names with online content and advertising potential.

A lingering scenario is that Microsoft's announced search advertising deal with Yahoo opens the door for a three-way arrangement with AOL. An alliance works even if Microsoft (with $31 billion cash) acquires Ask.com search from InterActiveCorp prior to taking over management of Yahoo search in 2011. The overriding notion is that the three companies could accomplish more working together than individually in search, advertising and content.

Yahoo or AOL also could be a strategic play for a traditional pure content company such as CBS with many overlapping niche interests in news, sports and finance. With CBS' $1.8 billion acquisition of CNET nearly integrated and bolstering the company's coverall Internet profile, a Yahoo or AOL acquisition or alliance could be a surprisingly good fit.

Such speculation will accelerate if Comcast successfully acquires a majority stake in NBC Universal from General Electric. The $35 billion deal, which could be announced by mid-November, hinges on French-owned Vivendi getting enough money from GE for its 20% stake in NBCU.

The willingness and need of Vivendi and GE to unload their relative stakes in NBCU, despite plummeting valuations, could have a domino effect in a 2010 deal market expected to be led by traditional ad-supported media and the Internet.

UBS estimates some 200 media and tech-related companies are targets for acquisition or partnerships driven by economic recovery, accelerating legacy structure pressures for established players, consolidation cost savings, and the need for private equity and other investors to cash out.

The list of likely global deal candidates is topped by DirecTV, DreamWorks, Netflix, Scripps Networks, Take Two, and ValueClick. The list also includes AOL and Yahoo.