The tendency to deconstruct business functions into ever finer units of specialization – what I call business reductionism – must be resisted. The marketing organization has become particularly susceptible as of late, and hope for reconstitution rests on establishing a framework of first principles.
As my interest in music has expanded into video and media more generally, I have learned a lot about digital advertising and mobile because both are such important parts of any media business. Along the way, I’ve been struck by the resemblance the digital advertising ecosystem bears to electronic trading on Wall Street (and I’m not the first to make this connection).
I thought I would try unpacking the analogy a bit here to see how well it holds up and whether there are any lessons that could be learned from the equities markets. (This thought exercise takes up some space so for those so inclined, I’ve made it easy to skip to just the predictions and/or the lessons.)
It used to be that advertisers worked with agencies to place ads with publishers, an arrangement not unlike investors working with brokers to buy and sell equities. In this analogy, the agency would be similar to the broker- dealer, but you could also think of agencies as financial advisers. The advertiser is the investor looking to put money to work (buy ad space), and the publisher’s are holding the assets available for sale. The financial adviser, who is frequently also affiliated with a broker, helps the investor decide how to allocate capital across assets and facilitates the transaction.
In the past, media buyers would get involved to place ads directly with publishers. This arrangement resembles over-the-counter trading in finance, but pooling liquidity leads to more efficient markets. Hence the emergence of exchanges in finance and ad networks in digital advertising.
I’m careful to note the ad exchanges are not actually analogous to stock exchanges such as the NYSE. Ad exchanges are more like electronic communication networks (ECNs), which I’ll get to next. Ad networks, on the other hand, aggregate supply of assets available for sale while remaining distinct pools of liquidity themselves, which is how financial exchanges have historically operated – especially prior to Reg NMS.
ECNs emerged to take out the middlemen and make matching buyers and sellers easier and more direct. ECNs actually began connecting different exchanges so all of an investor’s order flow could (hypothetically) be directed at one ECN rather than having to parse the order flow across exchanges, just as an ad exchange might connect to several ad networks. Because of this new capability, Reg NMS actually mandated that all the disparate pools of liquidity be connected and brokers guarantee best execution on market orders. So what are the analogs in Finance for the demand side platforms (DSPs) and sell side platforms (SSPs) in digital advertising?
DSPs I would liken to direct market access (DMA) tools. These allow both institutional investors and individual investors (think eTrade) to book their orders directly (rather than call up a broker to book it on their behalf). SSPs I would liken to the algorithmic trading strategies that now dominate most of the equities trading volume.
Algos (as I was accustomed to calling them) can be used both on the buy-side and the sell-side. They to some degree displaced but also became an important tool of the programmatic trading desks at broker-dealers, which were frequently used by institutional investors to move large volumes of equities (hopefully) without moving the market too much against the buyer or seller. We had algos that were specifically designed for yield optimization when selling large volumes of equities, and that specific variety of algo probably bears the most resemblance to SSPs.
Enabling all of this, of course, are the information brokers who trade in data. Both worlds, finance and advertising, make extensive use of third-party data to inform their trading strategies.
Eventually stock exchanges started consolidating and acquiring ECNs, and brokers started building smart order routers and crossing networks and accruing dark pools of liquidity. Similarly, we are seeing some consolidation in digital advertising (although the space remains highly fragmented), with companies rolling up ad networks, exchanges, DSPs and SSPs (and there’s evidence dark pools and crossing networks may even be cropping up in advertising).
What Comes Next
So returning to my original thought question, what might be learned from Finance to help predict the future of digital advertising?
I think we are going to see agency holding companies evolve their business models in a manner similar to investment banks like Goldman Sachs. Developing creative will still offer attractive profit margins, similar to IPOs and other new issuances at investment banks, but lower margin, technology enabled services will just be tolerated as table stakes, akin to a lot of the brokerage services offered to institutional investors today.
Some of the capabilities that used to reside at the broker moved in-house over to the investor so I think we’ll see more brands getting involved in directly managing their more basic ad campaigns. Growth at the agencies will come from support for higher margin integrated marketing, which I see as the analog of running a multi-asset hedge fund.
In an always-on world, breaking through the cacophony of advertising messages won’t happen in the digital space. Brands and their marketers will have to go offline, designing authentic, emotional experiences, backed up with digital artifacts that customers can use to tell and retell the story behind it all. That is the future of integrated marketing
Hungry for returns (customer engagement) advertisers will come to agencies to craft these more complex, integrated marketing campaigns, of which digital will be one component. Of course, calculating financial returns is much more straightforward so market growth will be dependent on the continued refinement of tools for calculating Marketing ROI, using Big Data, as well as other more amorphous measures.
While I was on Wall Street, I saw old-school brokerage houses acquire software companies to catch up, but I also saw tech companies evolve into financial institutions. The same will happen in advertising. Technology providers will add advisory services and compete more with agencies in every area outside of creative (the analog to issuing financial instruments), although even the creative side may come under pressure. Industry insiders are already making similar predictions.
What about valuable lessons? Beware the specter of regulators. Just as high-frequency traders are coming under scrutiny, with accusations that they are manipulating markets with their orders, at some point the industry will have to deal with bots and other faux traffic. Unfortunately, I don’t believe in an industry’s ability to self-regulate. “Just trust us,” didn’t work for the financial system, and it’s not going to work in digital advertising.
More regulation is coming, and the imperative may not be for the industry as a whole to reform itself but rather for individual companies to position themselves to deal with looming regulations with minimal disruption to their businesses. This was one of my investing hypotheses when I was on the Haas SRI Fund – socially responsible companies may incur more costs in the short run but have more morale authority to influence regulation, incur fewer costs to adjust to new regulations (having accelerated some of those costs through CSR initiatives) and are subject to fewer fines for misconduct (having created a culture of responsibility).
Now that you’ve made it all the way to the end – far further than the average online reader – I hope you will consider commenting. Where do you think my analogies breakdown? Do you agree with my predictions? Are there any lessons to be learned or predictions that can be made about digital advertising based on what has happened in electronic trading?
Things seem to be getting frothy in tech these days. Facebook paying nearly 1/10th it’s market cap for the WhatsApp user base sounds a lot like paying for “eyeballs” in the Dot-com era of the 1990’s. That acquisition was then quickly followed by the $2 billion Oculus announcement, which seems to be an even more awkward fit for the social network. Facebook is definitely playing the long game here.
The other news maker recently has been Disney’s acquisition of Maker Studios for nearly $1 billion. The fit between those two makes more obvious sense but the valuation still seems rich and has many around Silicon Beach scratching their heads. (UPDATE 4/14/2014: The plot only thickened when Relativity Media made a counter bid for Maker for an estimated $1.1 billion under a slightly different structure. This twist suggests a land grab for “new media” properties driven in part by fear of being shut out from all the good deals.)
The “follow the photos” theory for the WhatsApp purchase offered on PandoDaily (above link) sounds not only consistent with prior acquisitions (e.g. Instagram, a failed bid for Snapchat) but strategically sound as well. (UPDATE 4/28/14: Others have since echoed this theory as well.) An elegant explanation: co-opt the competition. Facebook can circumvent a disruptive threat by buying control now but letting the company continue to evolve separately. A simple solution to the classic innovator’s dilemma. A similarly consistent strategy and market view point probably lies behind Disney’s decision too.
Just last year, AwesomenessTV had around 14.5 million subscribers when it was acquired by DreamWorks Animation for $33 million (plus potentially $84 million more based on financial targets). Compare that to the 380 million subscribers and 5.5 billion monthly views Maker has today, and the Maker deal starts to look more reasonable. On a per subscriber basis, Disney paid (very) roughly $2.50 per Maker subscriber while DreamWorks Animation paid $8.00 per AwesomenessTV subscriber.
Of course there are a great many other metrics to consider -measures of engagement like average view duration, likes, shares, and comments as well as demographics and devices, all of which can drive differences in the value derived from one subscriber or viewer to the next. One cannot simply impute a linear relationship between enterprise value and total subscribers. It would be analogous to looking at just the spot price today to estimate an options value, but there is no Black-Scholes model for new media start-ups.
I’ve written before about M&A as an open innovation strategy, and I submit for your consideration that these MCN acquisitions are part of one such strategy – investments in future innovation. Just as Box could rightly allocate to marketing some of the costs associated with supporting its non-paying customers (the customer acquisition costs of a freemium model), some of the premium being paid for Maker or AwesomenessTV could be considered investments in R&D.
Of course, some of the acquisition price still includes projected revenues. Trends such as market consolidation (a.k.a. all the recent acquisition activity), the growing popularity of brand integrations, a shift in ad dollars away from traditional television, and pressure building on YouTube to share more of ad revenues all add up to rosier financial projections, but for a start-up, those are just vanity metrics. (UPDATE 4/11/2014: As it turns out, Internet ad revenues have now overtaken broadcast.) They don’t account for the derivative value of what a company might learn from all the experimentation and audience engagement taking place on the YouTube platform.
Both Maker and AwesomenessTV have access to coveted customers segments – users that acquiring companies like Disney actually need to understand better to ensure their futures. They are paying for help figuring out where the market is going next so they can, “skate to the puck.” Next generation, digital-native media companies such as MCNs, unburdened by legacy operations, are uniquely positioned to provide that help.
Return on R&D is notoriously hard to estimate, and in an environment like this one, beware the winner’s curse. All that said, I get it. You can pay to play or risk being shut out – without the subscribers, the revenues or the future product/service pipeline.
After today’s Big Frame announcement, which seems like a sensible roll-up at just $15 million, I wonder who will be acquired next. (UPDATE 4/15/2014: Already DreamWorks Animation is rumored to be in talks with Vevo, in which YouTube also has a stake. Now that Relativity has lost out on Maker, surely that company will be looking for other deals. With Big Frame already out of play, one possibility would be going after a vertical like DanceOn or even looking outside of LA at something like Rooster Teeth in Austin or Diagonal View in the UK. I could see both of those latter two getting a reciprocal benefit from the connection back to the Media & Entertainment capital in California. The only thing that seems certain is Relativity will have to move fast because no one else seems to be slowing down.)
UPDATE 5/2/2014: Rumor has it that Relativity Media has decided to go after the most obvious next choice, one I considered but omitted above because I presumed to be too expensive. I ruled out Machinima almost immediately because Warner put money in that company just the prior month, but I should have at least mentioned Fullscreen. No deal has been reach, and if there’s truth in all the dramatic speculation in reports of a Relativity bid for Fullscreen, a deal may still be very unlikely. Nonetheless I wanted to update this post yet again because this latest development clearly demonstrates something at play in addition to financial considerations and even open innovation. My take is that Relativity sees the cost of acquiring Fullscreen for a loss (e.g. for an anticipated negative ROI) is less than the expected cost to its business of being shut out of any good MCN deals and slowly watching new media erode its business. The situation seems analogous to an airline that continues to operate unprofitably because of its fixed costs; old media companies like Relativity are better off staying in the game and making a bid than forfeiting altogether.
The WordPress.com stats helper monkeys prepared a 2013 annual report for this blog. Apparently I need to post more in 2014 and get back some of that 2011 mojo.
Here’s an excerpt:
A San Francisco cable car holds 60 people. This blog was viewed about 1,300 times in 2013. If it were a cable car, it would take about 22 trips to carry that many people.
Someone asked me earlier this year to finish the sentence, “2013: The Year of _____.” My response, “2013: The Year of Video.” Of course, with most of the year behind us now, some may disagree with my a priori assessment, but I had three trends in mind that still seem to be signaling something:
- Facebook is no longer cool. It suffers from the same problem as your mother’s jeans. Instagram has become the new platform for youth culture. A whole generation is learning to communicate as much in images as words. Proof point #2: Snapchat.
- The launch of Instagram Video sent a shockwave through social networks. Poor Vine. Now that some of the initial buzz has worn off, Instagram Video seems more incremental than revolutionary, but regardless, the short-form video continues to hold allure and encourage experimentation among both consumers and businesses.
- Product placements aren’t just for Hollywood anymore. Talenthouse has built a platform for promotional campaigns that can tap the long tail of digital media creatives. Multi-channel YouTube networks have launched services like Fullscreen’s Gorilla and Maker Studios’ MakerMADE, and new tools, such as Fuisz, are emerging to enable more monetization options from video interactivity.
At a time when marketers are throwing around buzzwords like “authenticity” and “engagement,” online video has become one of the most attractive channels for reaching consumers (and I don’t mean YouTube channels). Could video also hold the promise of a fair shake in the Internet age for artists?
The music video for Hood Party by Fat Tony provides an excellent illustration for what I have in mind. What if Fat Tony had been able to connect with Google before making that video? This is a company already paying to promote products like Google+, Google Hangout, and Google Music at music festivals and other events. It’s a safe bet the company would also have been willing to pay something see their product appear in that video (along with H-town’s Bun B) instead the fictitious “Froogal.”
Fat Tony may not be the biggest name in hip hop, but he has a unique voice and a persona to which his fans can relate to better than some mega-Hova-superstar. That’s authentic, and for the audience he reaches, it drives more substantive engagement than anything Kanye West can offer.
Nonetheless, Tony’s audience remains relatively small. It’s too costly for Google to seek out, identify and negotiate deals with enough artists like Tony to reach a compellingly large audience. What if someone else could aggregate those audiences instead and facilitate the transaction like a clearing house at a stock exchange?
As the means of production have become more accessible, creative stars have proliferated. Even though their individual luminosity may be modest at best, as constellations they could be brighter than any other one star alone. Surely there is a viable business for anyone who can broker the relationships and lower the transaction costs from connecting brands and all those creatives. Corporate sponsorship, however unappealing that may sound, could be the new patronage for the digital era.