Facebook and Spotify face complementary nightmares

The two developing tech dramas of early 2022 — Meta Platform Inc.’s Facebook struggle to retain users as surveillance-based advertising gets tougher and Spotify Technology SA’s Joe Rogan controversy — are really about one thing: find the right balance between advertising and subscription-based monetization models on the Internet. Traditional (or legacy, if you will) media failed to strike a balance between the two revenue streams and suffered terribly during the tech revolution of the 2000s. Now it’s the turn of new media based on technology to try it out.

My colleague at Bloomberg Opinion, Parmy Olson, recently pointed out that Alphabet Inc. and Meta Platforms Inc. (Google and Facebook) are struggling to remain primarily ad-supported, and that diversification is making other tech giants , such as Microsoft Corp. and Amazon. com Inc., less vulnerable. Yet unlike Amazon and Microsoft, Google and Facebook, with 81% and 97% of revenue from advertising, respectively, are core content companies or, more narrowly, media companies. They do not produce the content, but provide platforms for it and means to localize it. Content production is expensive; staying out reduces fixed costs, while monetizing other people’s content through advertising has proven extremely lucrative.

Having formed a de facto advertising duopoly through this business model, Google and Facebook have pushed the rest of the media industry, content producers and smaller platforms, towards the subscription model. Forced to abandon or demote the idea of ​​the user as an asset to be sold to advertisers – Google and Facebook could do this on a much larger scale – they have focused on selling the content itself to end users. The New York Times Co.’s subscription revenue reached 66% of the total in 2021, up from 28% “circulation” revenue in 2004 (yes, we were still talking about circulation in the industry back then). Netflix derives 99% of subscription revenue, Spotify 85%.

However, both relatively “pure” models have been running into problems lately. Facebook, which pushed the idea of ​​precisely targeted advertising so hard it was likely oversold, ended up losing users and taking a huge hit in market valuation. It also faces headwinds (a word used more than 30 times in Facebook’s last earnings call on Feb. 2) from regulators and a major app-economy gatekeeper, Apple Inc. latest European developments – European Union resistance to easy transatlantic data sharing, which has led Facebook to threaten to leave Europe altogether, and a major setback to the practice of treating monitoring settings as an annoying pop-up – clearly show 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 in to tracking dealt a direct blow to Facebook’s selling proposition.

All of these issues will also catch up with Google, although it’s less of a scapegoat than Facebook, if only because it’s been better at communicating and less exposed to US election-related criticism. Either way, analysts’ consensus projection for its revenue growth — 17.9% for 2022 — is pretty low by its standards: Since 2002, it’s only seen three years of weaker relative growth.

The problems of the subscription business model are of a different nature. When you depend on paying customers, you have to be wary of their ability to organize themselves, political fads, filter bubbles, changing tastes and attitudes of the masses. The media’s growing reliance on subscriptions has given editorial powers to Twitter mobs and led to more sensationalist coverage by outlets once notorious for their moderation. One could also argue that the content has become more partisan, both in the US and in Europe. Research indicates that engagement is what drives subscription revenue. A 2021 Northwestern University paper identified the sense that a medium seeks a user’s interest, gives them something to say, and inspires them as a key driver of subscriptions. Calm, unbiased voices of reason fall behind these measures.

The case of Spotify shows that these peculiarities of the subscription model are not limited to news media. The public is embracing the views of their favorite creators and will try to punish the platforms for being too omnivorous. Shares of Spotify are down 32% this year, with most of the loss coming since late January when Neil Young began chastising it for generously funding the Joe Rogan podcast, on which Covid vaccine deniers have appeared. Young caused this precipitous downfall despite having significantly fewer monthly listeners on Spotify than Rogan; other artists have backed him and, let’s face it, people who share Young’s progressive views outnumber those who love his music.

As someone who loves music, doesn’t share opinions, and doesn’t care about Rogan, I was one of those Spotify subscribers who just watched the whole thing go over my head. But if politicized disputes rob me of a significant number of my favorite artists and leave me with a three-hour podcast that doesn’t appeal to me, I might possibly seek out another streaming service. And if platforms ended up serving only 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 response to these vulnerabilities. For content companies, however, this word means more or less the same as it did in the pre-internet era – finding a happy medium between being ad-supported and selling the product directly to users. For the likes of Spotify, that could mean extending the ad-supported layer to fund podcasts on a universally available platform and avoid giving subscribers heartburn by funding politically sensitive statements that don’t reflect their beliefs. . One could also imagine versions of video streaming platforms funded by sponsors or advertisers, similar to traditional television. For “legacy” media, it would be desirable to reap more ad revenue as surveillance (hopefully) fades – but that’s harder than losing the ad money, and these organizations should work on selling points adapted to the new situation. For many ad executives, I suspect that anything short of the big data-driven discourse of the duopoly may now seem new and exotic. They will need to be told why expensive content can drive conversions as well as targeting.

Google and Facebook are apparently less constrained in terms of diversification: they are so cash-rich that they can eventually move away from content altogether or at least find other reliable revenue streams. And they’re trying: Google is one of the top three cloud competitors and is investing in a variety of new technologies, from self-driving to protecting ocean ecosystems. Facebook sells VR hardware, and its ambition for the future — to build a metaverse — probably isn’t meant to be entirely ad-supported. It incorporates, for example, management’s long-held dream of enabling commerce directly on company platforms. Given the size of the ad duopolies’ content businesses, however, the two companies’ diversification efforts are bound to look like side bets. Google derives only 7% of its revenue from cloud services and almost none, so far, from what its financial reports call “Other Bets.” The sales of Facebook’s nonessential business are barely visible in the shadow of the advertising operation.

Like subscription businesses, they may well find their best opportunities for diversification in charging for their content services. Google is giving it a shot with YouTube, which has some 50 million paying subscribers and derives about 7% of its revenue from it. But there is a future in other high-end products, including search untainted by ads and distribution deals with content providers in the news, book and academic publishing industries that would target subscribers, not free tier users.

For Facebook, which has stubbornly refused to discuss subscriptions, the metaverse may provide an exit ramp. In the real world, access to many spaces isn’t free – and well worth it, so why should it be any different in a well-designed virtual universe?

The smarter traditional media relied on subscriptions when their advertising business began to erode, but they must continue to sell ads to maintain some independence from popular tastes. Tech giants shouldn’t dismiss this experience or shy away from the idea that they are essentially content companies. In this industry, advertising and subscriptions are the two legs a business can stand on with less risk of falling when the tide turns.

Bloomberg

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