February 19, 2014
In recent
weeks I’ve seen many articles about Yahoo! and AOL, two of the most venerable giants
of the early-internet era. The two companies have known many ups and downs, and
these days are global corporate behemoths. However, a closer look at their core
business – running enormous online media networks – reveals that it is not a
particularly lucrative one to be in.
Let’s
begin with the smaller of the two – AOL. The days of the mega-merger with Time
Warner are long gone as AOL, currently with an enterprise value of only $3.5
Bn, is a standalone company operating two distinct businesses: a declining, yet
profitable, dial-up subscription service, and an online advertising business. The
subscription business generated $650 MM in 2012, down from $705 MM in 2012, and
AOL is using the cash flow it generates to fund the growth of its online
advertising business. The only problem is – it’s not growing so fast.
AOL’s online advertising business generated $1.6 Bn in
2013, up from $1.4 Bn in 2012. It is comprised of owned & operated
(O&O) properties, which are further divided into display ads and search ads,
and a 3rd-party network. While the latter is growing by double
digits (30%), the O&O part is only growing by single digits (5%).
Furthermore, 40% of the O&O revenue is attributed to search, powered by
Google. As if to exacerbate the situation, the online advertising business is
not terribly profitable. A look at AOL’s cost breakdown by segment (which
closely mimic the revenue streams) reveals that the O&O segment is barely
profitable, while the 3rd-party network is losing money.
Moving on to Yahoo!, the picture doesn’t get much better.
While Yahoo!’s enterprise value is nearly $37 Bn, that value is largely
attributed to its 24% stake in Alibaba, the Chinese e-commerce giant slated to
go public later this year. With analysts projecting Alibaba’s value at $120 Bn to $150 Bn, one thing is certain – Yahoo! stands to make a boatload
of money out of that IPO, and investors value to the company accordingly.
Meanwhile, its core online advertising business isn’t
faring so well – the company generated $4.7 Bn in 2013, down from ~$5 Bn in 2012.
Similarly to AOL, Yahoo! derives most of its revenue from display ads and
search ads, the latter powered by Microsoft. Both revenue streams have been
stagnant and most recently have declined. I could go into further analysis of
display vs. search or O&O vs. affiliate sites, but the outlook won’t be any
rosier. Deducting its Alibaba stake, Yahoo!’s core business is trading at ~1X
revenue.
Interestingly,
all these numbers serve to highlight is one sad truth – online publishing, even
at scale, is not such a great business to be in. This stems from several
reasons:
- Content production is expensive
- CPMs are low and getting lower due to
- More accountable models (e.g., CPC, CPA)
- Programmatic buying and real-time bidding (RTB) putting downward pressure on CPMs
To
keep up with Google and Facebook, AOL and Yahoo! have made, and need to
continue making, substantial investments in ad technologies, either developing
them in-house or acquiring them (mostly the latter). But, they still need to produce
their content as well, while Google and Facebook don’t. Plus, AOL and Yahoo!’s
balance sheets don’t support recruiting engineering talent away from these two
tech darlings. And without great engineers, their internal platforms are doomed
to be at a disadvantage.
If
running an online media network is such a terrible business, what business
would you rather operate in order to capture all of those coveted digital
advertising dollars?
There
are three answers to this question:
(1) Focus solely
on producing premium content
The
Wall Street Journal and the New York Times are examples of companies who
realized they had unique, highly desirable premium content that they can also
charge for, separately from putting advertising next to it. They also realized
they can’t develop their own independent ad tech platforms and opted to
outsource that function. And so, they erected pay-walls. AOL is actually seeing
initial positive signs from its own AOL On video platform, but it’s too early
to tell.
(2) Focus solely
on creating an ad tech platform that can serve many players
AppNexus,
and recently SOVRN, are examples of companies that provide the means for
advertisers to engage in RTB and programmatic buying. SOVRN is
actually a spin-off from Federated Media, a company that decided to sell its online
media network and focus on developing an ad tech platform to serve many
players. AOL has recently acquired Adap.tv and instantly became
a strong player in the growing video ad serving space.
(3) Develop a
new media platform and invent new kinds of ad formats
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