The two developing tech dramas of early 2022 — the struggle of Meta Platform Inc.’s Facebook to retain users as surveillance-based advertising becomes more difficult and Spotify Technology SA’s Joe Rogan controversy — are really about one thing: Finding the right balance between ad-based and subscription-based monetization models on the internet. Traditional (or legacy, if you will) media failed to achieve an equilibrium between the two revenue sources and suffered terribly for it during the technology revolution of the 2000s. Now it’s the new, tech-based media’s turn to give it a try.
My Bloomberg Opinion colleague Parmy Olson pointed out recently that Alphabet Inc. and Meta Platforms Inc. (Google and Facebook) are finding it hard to remain primarily ad-funded, and that diversification makes other tech giants, such as Microsoft Corp. and Amazon.com Inc., less vulnerable. Yet, unlike Amazon and Microsoft, both Google and Facebook, with 81% and 97% of revenue, respectively, coming from advertising, are at their core content companies, or, narrower still, media companies. They don’t produce the content, but provide platforms for it and ways of locating it. Content production is expensive; staying out keeps down fixed costs, while monetizing other people’s content through advertising has turned out to be extremely lucrative.
Having formed a de facto advertising duopoly thanks to this business model, Google and Facebook drove the rest of the media industry, content producers and smaller platforms alike, toward the subscription model. Forced to give up on, or downgrade, the idea of the user as an asset to be sold to advertisers — Google and Facebook could do it at a much greater scale — they focused on selling the content itself to end users. The New York Times Co.’s subscription revenue reached 66% of the total in 2021, compared with 28% “circulation” revenue in 2004 (yes, we still talked about circulation in the industry back then). Netflix gets 99% of revenue from subscription, Spotify 85%.
Both relatively “pure” models have run into trouble lately, though. Facebook, which pushed the idea of precisely targeted advertising so hard that it was likely oversold, ended up losing users and taking a gigantic market valuation hit. It also faces headwinds (a word used more than 30 times during Facebook’s most recent earnings call on Feb. 2) from both regulators and an important app economy gatekeeper, Apple Inc. The latest European developments — European Union resistance to easy transatlantic data sharing, which has led Facebook to threaten that it might leave Europe altogether, and a major setback to the practice of treating surveillance settings as an annoying pop-up — make it clear that tracking users in order to target apps is increasingly problematic and not necessarily viable in the long term. Apple’s decision last year to let users opt into tracking has delivered a direct hit to Facebook’s selling proposition.
All of these issues are going to catch up with Google, too, though it’s less of a scapegoat than Facebook, if only because it’s been better at communication and less exposed to US election-related criticism. At any rate, analysts’ consensus projection of its revenue growth — 17.9% for 2022 — is pretty weak by its standards: Since 2002, it has only seen three years of lower relative growth.
The subscription-based business model’s troubles are of a different nature. When you depend on paying customers, you need to be wary of their ability to organize, of political fads, of filter bubbles, of changes in mass tastes and attitudes. Media’s increasing reliance on subscriptions has lent editorial powers to Twitter mobs and led to more sensationalist coverage by media once known for moderation. One could also argue that content has grown more partisan, both in the US and in Europe. Research indicates that engagement is what drives subscription revenue. A 2021 Northwestern University paper identified a sense that a media outlet is looking out for a user’s interest, gives them something to talk about and is inspirational to them as a key driver of subscriptions. Quiet, impartial voices of reason fall behind on these metrics.
Spotify’s case shows that these peculiarities of the subscription model are not confined to news media. Audiences associate themselves with their favorite creators’ views and will attempt to punish platforms for being too omnivorous. Spotify shares are down 32% this year, with most of the loss occurring since late January, when Neil Young started taking it to task for lavishly funding the Joe Rogan podcast, on which Covid vaccine deniers have appeared. Young caused this precipitous drop despite having far fewer monthly listeners on Spotify than Rogan; other artists backed him, and, let’s face it, people who share Young’s progressive views are more numerous than those who like his music.
As someone who does like the music, doesn’t share the views and has no interest in Rogan, I was one of those Spotify subscribers who just watched the whole affair whoosh over my head. But if politicized disputes deprive me of a sizable number of my favorite artists, and leave me with a three-hour podcast that doesn’t appeal to me, I might eventually look for another streaming service. And if platforms end up only serving groups that share a certain set of ideas, the limits that would impose on their earning potential would be hard to remove.
Diversification is the usual answer to such vulnerabilities. For content companies, however, that word means more or less the same as in the pre-internet era — finding a sweet spot between being ad-funded and selling the product directly to users. For the likes of Spotify, this could mean expanding the ad-funded layer to fund podcasts on a universally available platform and avoid giving subscribers heartburn over financing politically sensitive utterances that don’t reflect their beliefs. One could also imagine sponsor- or advertiser-funded versions of video streaming platforms, akin to traditional TV. For “legacy” media, picking up more advertising revenue as surveillance (hopefully) fades would be desirable — but it’s harder than losing the ad money was, and these organizations should work on sales pitches that fit the new situation. For many ad executives, I suspect, anything other than the duopoly’s big data-based pitch may now seem novel and exotic. They’ll have to be told why expensive content may drive conversions as well as targeting can.
Google and Facebook seemingly are less constrained in terms of diversification: They are so cash-rich that they can conceivably pivot away from content altogether or at least find other reliable revenue streams. And they try: Google is a top-three competitor in the cloud space and invests in various new technologies from self-driving to protecting ocean ecosystems. Facebook sells virtual reality hardware, and its ambition for the future — building a metaverse — likely isn’t meant to be entirely ad-funded. It incorporates, for example, the management’s long-standing dream of enabling commerce directly on the company’s platforms. Given the size of the ad duopolists’ content businesses, however, both companies’ diversification efforts are doomed to look like side bets. Google derives just 7% of its revenue from cloud services and almost none, so far, from what its financial reports bill as “Other Bets.” The sales of Facebook’s non-core businesses are barely visible in the shadow of the advertising operation.
Like the subscription-based businesses, they may well find their best diversification opportunities in charging for their content services. Google is giving it a go with YouTube, which has some 50 million paying subscribers and receives some 7% of its revenue from them. But a future in other premium products beckons, including search unadulterated by ads and distribution deals with content providers from the news, book and academic publishing industries that would target subscribers, not free-level users.
For Facebook, which has steadfastly refused to discuss subscriptions, the metaverse may provide an off-ramp. In the real world, entry to many spaces is not free — and absolutely worth it, so why should it be different in a well-designed virtual universe?
The smartest traditional media bet on subscriptions when their ad business began to erode — but they need to keep selling ads to retain a degree of independence from popular tastes. The tech giants shouldn’t scorn that experience — or shun the idea that they are essentially content businesses. In this industry, advertising and subscriptions are the two legs on which a business can stand with less risk of falling over when the wind shifts.
Bloomberg
