Total U.S. Internet ad revenues hit$7.3 billion in Q1 2011, a 23 percent increase from last year, seemingly providing more evidence that the tech sector is in a bubble. After all, what kind of industry could possibly sustain 23 percent growth over the long run?Hold that thought. Once you dissect the way the Interactive Advertising Bureau constructs that number, and look at who exactly is receiving that $7.3 billion, then this bubble — if it is one — may have a long way to go before it bursts.
The first thing to note is how robust web advertising has been. The “Great Recession” barely existed in Internet-land:
So 2009 was a down year, but it was still up from 2007, which was the peak year of the boom that preceded the credit crisis. The post Sept. 11/dot-com bust of 2001 was a lot more damaging to the business than the disappearance of Lehman Bros.
Secondly, the IAB told me that 54 percent of all U.S. internet advertising spend is collected by Google (GOOG):
Google reported a total Q1 ad revenue as being $8.58 billion. Non-U.S. revenue was reported as being $4.57 billion, so that means $4.01 billion was U.S. revenue. That number was factored into our report today of a U.S. industry total for Q1 of $7.3 billion.
This explains a lot: The IAB chart suggests that there is this massive wave of cash flooding into digital media. But when you look at American businesses that provide web ad services, such asLinkedIn (LNKD), ValueClick (VCLK), FriendFinder (FFN) andPandora, you don’t see vast piles of advertising cash coming in. Turns out it’s all going to Google. Here’s Google’s recent revenues. Notice how it looks pretty similar to IAB’s chart:
Even Facebook struggles against Google. It had 8.8 percent of the display ad market, or $238 million, in Q4 2010, according to an IDC report. Google took 14.7 percent, or $396 million. Display advertising — banners and columns — is dwarfed by search advertising, which is not Facebook’s raison d’etre.
Regardless, even if we assume that Google will continue to eat the lion’s share and everyone else gets to divvy up the crumbs, can a 23 percent growth rate continue?
Possibly. The growth here is not coming because the entire economy is growing. It’s coming because ad dollars are being removed from old media like TV, radio and newspapers, and added to digital budgets. That’s a secular trend (it’s unrelated to GDP cycles) that will continue. You can see that in the IAB chart — web advertising revenues shook off 9/11 and the more recent crash, carrying on regardless in the years that followed.Global annual adspend is $400 billion plus. If we use Google’s 54 percent U.S. revenue take as a proxy, and extrapolate from Google’s $8.58 billion number Q1 revenue number (i.e. multiply it by 4), that would mean global web ad spend could be about $63.6 billion annually, or about 16 percent of total global adspend. Digital advertising (and Google) has got a lot more of the pie to eat yet.
This is all back-of-the-envelope math, so the real numbers are probably a lot different. That doesn’t matter. The takeaway here is that however you cut it, Google is taking a massive portion of all internet advertising for itself. Everyone else has to share the rest.
So the macro-economics of web advertising suggest that the cash firehose will continue to rage full on, albeit in Google’s favor. This favors web ad businesses, such as LinkedIn, but it doesn’t mean they’re not still overvalued.
Again, if you look at the nitty-gritty on the income statements of LinkedIn, Pandora, Friendfinder et al. the thing that stands out is that even when they can increase ad revenues, those increases come at a cost. Ad revenues are often not “free,” the traffic is “acquired,” meaning that they often have to pay third parties to drive users to the ads they’re displaying. The main driver of traffic on the net is — you guessed it — Google.
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