Guest Post By Alan Graham

Last month I published this piece over on LinkedIn, but I felt it might need a second viewing (with updates) over here based on recent news on ad blocking and other developments. 

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Silicon Valley has a drought problem. But it isn’t the lack of water I’m concerned about. It is the over reliance on ad revenue and venture capital that is sustaining both tech and media. Now there’s a debate raging about whether or not we’re in another bubble (I was in the last one). The pro-bubble argument is often about overvaluations and spending. The anti-bubble argument shows charts on how VC investments and IPOs are much lower than the last one. Both sides completely miss the mark which is that since Google (er…Alphabet) and others began building empires on “freemium” type services, we’ve become accustomed to not having to pay for things, and what began with a tool here and there and some “free” content has actually become the predominant method of generating revenue across the web.

A possible disaster.

For the past two years I’ve been working on a project called OCL. One thing it does is it is the world’s first true microlicensing platform for apps that allows the merging of any creative asset with any other creative asset with all of the rights cleared “faster than instantly.” Yes…that’s possible. And it is actually built upon the idea of paying for things (a novel idea these days I know). I’ve run into a lot of resistance over this model to the point where I recently had an argument with a music journalist who saw no problem with the idea that advertising was a viable long term model of revenue and my predictions/concerns over a non-sustainable ad market (for everything) was silly.

I’ve also had many a meeting with executives who told me countless times that the punter won’t pay for anything. Their business model is to license large platforms and take a cut of ad revenue. During this time I’ve pointed out that with a finite amount of ad revenue that must be shared across all creative industries and tech platforms (all vying for attention), it simply is not possible to sustain a vibrant creative marketplace that requires ad revenue to keep it chugging along. And if those platforms have their revenue somewhat interrupted, that trickles down.

The reasons for being concerned are clear:

-ContentID was a anomaly born out of necessity to bring some order to a chaotic system of copyright infringement and push the biggest piracy site into some form of legitimacy.

-YouTube went from a method of promotion, to a method of generating much needed revenue, to cannibalizing sales of media, as there was no reason to purchase what you were already viewing/listening to.

-Ad revenue (CPCs) have been dropping year over year for the past 5 or so years, while volume continues to increase.

-Volume is increasing because there are simply more and more locations to place ads in an increasingly competitive market with a finite amount of ad dollars that simply shift from one point to another depending on popularity. Companies with ad budgets don’t suddenly spend more money because there are more locations to spend it. And quite frankly…volume is practically infinite.

-Increase in volume means a competitive marketplace that can drive CPC and other ad rates down further because we’re witnessing something happening to ads that happened to media, commoditization. All about numbers at this point, not quality of creative.

-We’re just getting started. Estimated reach/penetration of iOS/Android/FB is anywhere from 5M to 9M apps/platforms with 40k apps being added to iTunes each month alone. Reports show that the range of “free” apps is somewhere around 90%, both ad supported and in-app purchases. As that tail grows, so does volume.

-86%+ of our time accessing the web is now done through apps.

-Ad networks and other ad-based companies are going to get squeezed out of existence because of this, causing a collapse of an entire segment of tech which means thousands of high paying jobs are gonna go bye-bye and never come back. This is already starting to happen.

-Ad revenue is currently 80%+ of all revenue generated by Facebook and Google, two of the most important platforms for media distribution. It keeps their lights on and it is this revenue creators hitched their wagons to.

-Media companies (music, news, video, images) are scrambling to get a cut of that same ad revenue and finding they not only are competing for that money, they often have to spend money towards making that money back. Welcome to the world of paid non-organic reach. You now work for the company, live in company housing, and shop at the company store.

-Ad blocking is starting to take off in popularity and in court cases the judges in two instances sided with the ad blocking company stating that the user gets to decide what they want to do with their devices. 

“Online ad blocking costs sites nearly $22 billion
The study, by software group Adobe and Ireland-based consultancy PageFair, found that the number of Internet users employing ad-blocking software has jumped 41 percent in the past 12 months to 198 million.”

 “Those losses are expected to grow to more than $41 billion in 2016, the study said.”

“Last year, Google reported that 56.1 percent of all ads served were not measured viewable by humans.”

“Last December, the Association of National Advertisers and security firm WhiteOps estimated that up to a quarter of video ad views were fraudulent and resulting from software bots. It also said that as much as half of publisher traffic is from bots. This represents a projected $6 billion-plus in wasted ad spend this year.”

“Some industry observers go further than that, arguing that the digital ad industry is beset by traffic and other fraud because there’s a sort of arbitrage going on. Some exchanges, publishers, and ad networks are looking the other way, this argument goes, because they can make money on fraudulent traffic and fake ads.”

“The main losers are the advertisers themselves. But the publishers are getting shafted as well, Spanfeller said, since advertisers are paying $10 per thousand impressions while some publishers ‘get a buck.'”

 

-Mobile carriers in Europe are hinting that they also may begin to block ads at the carrier level citing increased performance and reduced bandwidth. How soon until we start to see ISPs offer the same services?

-It is estimated that Google is seeing as much as $6B in ad blocking occurring, and their total revenue in 2014 was $66B. That’s no laughing matter for a company making 90% of revenue from ads. Their response was to essentially say that the reason people are blocking ads is because we’re simply not making good enough ads. Yeah…that’s the reason. That type of flippant response to a $6B loss is why you should be very worried, because it means they are worried and don’t yet have an answer.

-For smaller publishers the problem is more pronounced. ProSiebenSat, one of the companies that sued Ad Blocker Plus and lost, stated that ad blocking was costing them upwards of 1/5 of their revenue or €9.2M

-Ad blocking users have grown to an army of nearly 200M people. That’s a word of mouth marketplace that any company would kill to have, except they are evangelizing the death of your business. Think about it as 200M people who have decided what you provide is interesting enough, just not interesting enough to pay for it via your #1 monetization plan. What’s your backup plan for monetization? What that says to me is that there are likely millions of content platforms overvalued and poised to collapse.

-With Apple’s recent announcement that they would allow third party developers to create ad blocking extensions for mobile Safari, the attention brought to this might take it mainstream, considering there are hundreds of millions of iOS devices and mobile Safari represents 25% of browsing. Welcome to the next viral technology success that you can’t actually afford to have take off.

-Facebook’s Instant Articles strategy could possibly be where advertising lives on, meaning that online publishers will have to become even more reliant on the tech giant for revenue, although it is likely both Apple and Google will follow suit. Meaning more of the open web gets sucked into the app environment where walls and AI decide what we will see and hear.

-My own tests with ad blocking has removed every ad from YouTube, one of the primary revenue sources for music labels and artists. Consider that most videos using music on YouTube (likely 60-70%) never generate any ad revenue at all, not to mention that YouTube is still not profitable (really?), this is one basket of eggs I’d be thinking of taking some eggs out of…

-Ad blocking is getting more and more sophisticated with ad block plug ins for Safari, Android, Chrome, and even Spotify. Not only can you block Spotify ads (the freemium model they defend to the death – no freemium no paid), but you can rip tracks from Spotify with all the metadata intact.

–PopcornTime. Free movies and tv shows playing direct to your device with a gorgeous interface, high quality resolution, built-in VPN, and zero ads…need I say more? Expect more solutions like this to pop up, including alternative music platforms. IMAGINE: Playlists created in Spotify exported to a BitTorrent decentralized music player…this will happen.

The next 12-24 months are going to be a watershed where we see just how much of this shakes out. The problems are numerous, but the biggest issue I see is that we’ve spent so much time investing in ad-based technologies and their revenue streams, we’ve not built a single alternative solution which can cover any losses if this all goes belly up. There is a massive consolidation of power occurring at the top of tech where we may only be left with 4-5 companies that control most of the web/Internet as we use to know it, and the creative class is left with no real technology of its own and very few options of how to reach their customers without being at the mercy of another giant tech company.

Years ago I use to drive between California and Oregon quite often and I began to see a trend happening. The boats on the reservoir began to leave the docks as the water receded from the shore. They began to huddle together in the center of the lake as there was less and less water. Essentially they became the last holdouts hoping a great rain would restore everything to the way it was. But it won’t.

Part of the problem California is facing with its shortage of water is due to the fact that they never planned for the possibility of drought, although they certainly talked a lot about it. They are shortsighted. They saw an endless supply of water and all the riches it brought. As humans we very rarely ever prepare for the worst, because we’re always so caught up in the moment and at the moment we’re still feeling the best of times: toilets are still flushing and faucets are still flowing.

The situation with ad revenue and VC backed advances and payments is no different, and if we don’t start working on a fundamental shift on how we as a society pay for things we value, we’re going to see a lot more than just water dry up.

Alan Graham is the co-founder of OCL