Oligopolies in Online Advertising
Joshua is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The prospects of online adverting networks vary widely from company to company. It is common to look at Google (NASDAQ: GOOG) and explain its' success due to its ability to contextualize advertisements or develop a world class network of data centers with custom designed equipment produced specifically for Google. While the creation of adwords and the required hardware to support it was instrumental in creating cash flow and maintaining their operations, I believe investors need to look at something else for value.
Google's products and actions should be seen as a means to an end; the monopolization of the search market. As the Comscore figures show Google receives almost 67% of all core searches. Investors need to understand that it is this monopolization which gives the company its profits, power, and ability to grow. I believe with the latest Facebook (NASDAQ: FB) and Yahoo (NASDAQ: YHOO) versus Google discussion it is easy to lose the big picture and value companies based on short term growth rates. A growing monopolizer will provide more stable returns and more security than a growing company in a fully competitive market.
The 4 firm concentration ratio is one of the most common tools used to determine whether or not a market is an oligopoly. When the concentration of the top 4 companies in a company is above 50% then that market is said to be oligopolistic. The below charts from emarketer.com show the large difference in market share when one compares display ad revenues versus total online ad revenues. In 2012 it is estimated that Facebook and Google will each command 16% of the display ad market while Yahoo will pull in 9%. Microsoft and AOL will each have around 4%. Even though the market is effectively oligopolistic with a 4 firm concentration ratio close to 50%, the top companies have a similar market share. Facebook and Google are almost even and Yahoo comes in at a little more than half of their market share.
The numbers for the total online adverting revenues tell a different story. Looking at 2012, it is expected that Google will have more than 6 times the market share of its closest competitor. In the display ad market Google is expected to grow into the top competitor, but when one looks at all online ad spending they become the premier player. In 2001 Yahoo pulled in only 9.5% of the market compared to Google's 41%. Yahoo has some of the world's premium content sites, but does not have the world's top search engine. There is a world of difference between Yahoo News and Google.com. News is a commodity produced by writers but a search engine is an enormous creation driven by continual indexing, optimization of spam detecting algorithms, and ever changing CTR rates.
It is much easier to have world's top search engine and develop some of the world's best content than to start with the best content and develop the top search engine. Google started with the search engine and then went on to buy and grow YouTube, the travel site Frommers, and the local reviewer Zagat. Yahoo has been unable to start with Yahoo News and Yahoo Finance and create a top rate search engine. Their search engine is now powered by Bing and then they are left to work with display ads. They make money but their 5 and 3 year revenue growth is nowhere near Google's.
Facebook may be the world's top social site but their story and assets are not as compelling as Google's. It is common to hear that Facebook has hundreds of millions of users and for this reason it is a good investment. In May 2012 Google had more US unique visitors than Facebook according to Nielson. The online display market is more fractured and competitive than the search market or the total online advertising market.
Facebook will grow over the coming years but I do not think it has anywhere near the monopoly power that Google does. Search ads are precious and can target the purchaser throughout various parts of the purchase cycle. Display ads do not have such this ability. Facebook counters by stating that they have tones of demographic data and personalized information. For direct marketers knowing where the consumer is in the purchase cycle is paramount and targeting an individual ready to buy is worth much more than someone with the right demographics who is looking at 157 different pictures of the same cat on Facebook. Facebook likes to state there is a growth market in brand marketers, and this will be its secret sauce. If this is true then GM's complete removal of their Facebook ad spending right before the IPO should be especially alarming. They left paid advertisements for the free tools available with Facebook's pages. The brand advertising market is fragmented with television, newspaper, magazine, and online display ads. The direct advertising market is much less fragmented with a much greater concentration on search engines.
Google's is a monopoly and its underlying business offers resilience and security which Facebook and Yahoo do not offer. When looking at total online advertisements, Google has many times the market share of its next competitor. Yahoo and Facebook do not have this dominance. Google is the strongest duopolist in the search engine market while Yahoo, Facebook and others are left fighting for the scraps in display advertising. These companies are profitable, but they do not offer the strength of Google. Over the long term Google is the stronger player and it is wise to remember this.
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