Insight Analysis: Is An Advertising-Based Internet Really Feasible?

The report claims that, ‘despite brutal evidence to the contrary’, websites are now lucky to earn $3.50 per thousand page views. Nevertheless, “the faithful still cling to the hope that some new technology or user trend will prove the ad-based model workable after all,” say the authors.

McKinsey says that the latest wave of optimism is directed at emerging broadband technologies and the ‘richer’ multimedia services that they will enable. It says that proponents of the ad-based web are hoping that broadband will provide a sufficient boost to page views to make the cost per thousand-based (CPT) model profitable. “Alas, it just won’t happen,” concludes the report.

The online entertainment sector is set to benefit most from broadband technologies, which will allow films and animations to be viewed online. Screen Digest forecasts that online films and entertainment will generate $2.9 billion in revenue in the western world by 2005. Feature films will comprise the bulk of this at £882 million.

Online movies and entertainment revenue 2005 forecasts
	Revenues
	Europe (Em)	Western World ($m)
Total western world		2,900
Total western Europe	541
Flash animation and simple games	76	298
Short film content	39	189
Large multiplayer online games	163	921
Fuzzy media’ content	57	568
Feature film	207	882
Source: Screen Digest, May 2002

Another set of forecasts, from Informa Media Group, predict that internet gaming revenues in the UK will reach $292 million by 2005, derived from 3.6 million players.

UK Internet Gaming Revenue/Player Forecasts
	2000	2001	2002	2003	2004	2005	2006
Game revenues ($ million)	11	29	72	145	229	292	361
Game players (million)	0.2	0.5	1.1	2.0	2.9	3.6	4.2
Source: Informa Media Group, May 2002

However, even the online entertainment sector will struggle to make increases in ad revenue sufficient to meet rising production costs, according to McKinsey. It says that only a very small number of businesses which are built around ad sales – those with inherently low content, marketing or delivery costs or with a strong attraction to a specific niche audience – will be able to survive on advertising-based model. For the rest of the internet media, the implications are clear says McKinsey: “Forget about supporting yourself with advertising revenues.”

Struggling web companies look to broadband Indeed, the outlook from web-reliant companies is not rosy. As GartnerG2 notes, Net giants such as Yahoo!, DoubleClick and AOL Time Warner are not feeling particularly optimistic about the outlook for their revenues.

GartnerG2 says that Net advertising revenue is set to pick up in Q3 this year, but ‘pick up’ doesn’t necessarily mean that it will reach self-sufficient levels. Notably, Gartner says that broadband growth to fuel this recovery (see Online Advertising Will Pick Up In Q3, Says GartnerG2).

It forecasts that 20% of US households will have broadband by 2003, compared to 10% currently. Broadband access speeds will enable faster downloads of rich-media ads. AdRelevance says that the average growth rate of rich-media ads from Q2-Q3 2001 was 317%; this is likely to rise as bandwidth increases. The high price of rich-media ads should have a positive knock-on effect for the recovery of online advertising spend.

So goes the theory. McKinsey for one remains unconvinced. Even by 2004, online’s share of total adspend in the US will only reach 3.8%, according to forecasts from eMarketer; in 2001 it accounted for 2.9% and this year is expected to reach 3.1%.

Nevertheless, broadband users definitely spend more time online, according to McKinsey’s research. In fact, they spend 57% more time accessing online entertainment than do narrowband (dial-up) users. However, according to the research it is only certain entertainment categories which benefit from these increase; namely – music, ‘casual’ games, TV promotions and reward or contest games.

For sites in these categories, the adoption of broadband should increase the size of the market and so boost advertising revenue per user.

Share of 2005 forecast revenues
	Broadband (%)	Narrowband (%)	Total revenue ($ million)	Increase in revenue per user
Streaming music	69	31	46	32
Casual games	41	59	250	25
TV promotions	15	85	170	5
Reward and contest games	11	89	288	6
Source: McKinsey Quarterly, May 2002

However, an increase in ad revenues is not the end of the story, says McKinsey.

“As usage and revenues go up, however, the number of unique visitors needed for entertainment sites to break even doesn’t come down significantly, for two reasons. First, the penetration of broadband is projected to top out at 50% of all internet users. Although this is a good bump from the current penetration rate of 20%, it means that only 30% of internet users will be increasing their usage substantially, so the effect on overall revenues will be too small to save already low-margin ad models. Second, increases in variable costs associated with attracting and serving more users Â- notably costs for marketing, sales, content production, and streaming Â- will reduce any bottom-line gains,” says the report.

Non ad-based models Despite this rather grim assessment, McKinsey notes that the arrival of broadband is leading to the development of business models that do not depend on advertising. In the online entertainment sector, it cites three particular example: selling and delivering non-interactive digital entertainment; expanding the market for fee-based online gaming and marketing offline entertainment.