Ad-Supported Vs Premium Subscription - A Delicately Balanced Ecosystem for Online Services

The IAB recently tapped McKinsey & Company to check into the value that users in Europe get from the free services they use. The services, which are ad-supported, offer a wide range of things like email, real-time communication, news, and networking and offer an extremely high amount of value to the users, far outweighing fears about ads disturbing the experience or the risk of data abuse (consumer privacy issues).Since we talk a lot about video advertising and marketing I thought this proved to be really interesting and potentially useful information. Here are the key findings in the report wrapped up for the executives in the audience (because it comes from the executive summary, which is for you who haven't got a lot of time, right?)

Our key finding is that user benefits from Web services are large—very significantly larger than the advertising revenues earned from providing those services, and very significantly larger, too, than any disturbance linked to advertising and privacy issues.

Scaling this finding to the existing broadband population of the IAB Europe countries as well as the US,1 the estimated consumer service surplus is about €100 billion for 2010, or more than three times current revenue from ad-based services. 2 In other words, the scale of online advertising revenue significantly underscores the massive value consumers derive from the online services they use.

This could be good for advertising and terribly, terribly bad for the consumers. The report could be seen as saying that users would pay for these services and still look at advertisements. I for one will never pay for email, calendaring or many other things online simply because I don't have to. Services like Gmail and Google Calendar are such a standard piece of my day, it would be hard to live without them. But if they went pay-to-use, I would find a way...

It could also go the opposite way as the findings state that users are averse to paying for a wide range of services and that the value is six times larger than what they would spend to avoid advertisements altogether. I guess my sentiments in the previous paragraph summed that up quite nicely.

In practical terms, for each euro an Internet user is willing to spend to limit privacy and advertising disturbance, the user gets a value of six Euros from using current ad-funded Web application services.

Yeah, so we're all cheap bastards. Considering what the money-leaders have done to the economy, I partially blame them, after all, if I had more money, I would probably spend more...

Here's the list of services they included in this research:

  • Communication: e-mail, instant messaging, Internet phone, and social networks
  • ƒ Entertainment: gaming, gambling, virtual worlds, music/video, advanced upload services, podcasts, content reading;
  • ƒ Information services: search/comparison shopping, maps, directories/yellow pages, blogs, and wikis.

The major findings are thus:

  • The larger-than-expected, and growing, consumer surplus of ad-funded Internet services
  • Free ad-funded services generate the bulk of consumer surplus
  • Advertising and privacy issues carry relatively little weight as compared to the value of free,
    ad-based, online services

Three services generate the largest consumer surplus: e-mail, search, and social networks contribute on average 45 percent of the Internet user surplus (Exhibit 9). Not surprisingly, the first two, both Web 1.0 services, have established both high reach and a consistent frequency of online usage. Social networks are the Web 2.0 darlings in terms of penetration and usage. Online video (both clip streaming and basic Web TV) is already a close fourth.

Balance is the Key

A mix of pay and free services is offered online, with pay services still a minor part of Web services and generally more concentrated in entertainment. While most services are free online, about 22 percent of Internet users pay for some services, and a majority pay for entertainment services and Internet phone.

The research found that the current pay/free mix is presently in equilibrium. So if a lot of now-freely-available services were to take this research and decide to increase their revenue by going to pay services, they would create imbalance, and most likely, lose much of their user base. Or at the very least, alienate a lot of them.

This is quite possibly the most interesting statement I found in that area of the report, "paid service price points are at their maximum, and only a decrease in price charged per service will increase the proportion of people paying for online Internet services..."

How it Intersects with Online Video

It's my job to read through these massive tomes of information and, like I tend to do, find and digest the tiny nugget that pertains to online video. Well, in this report, I've done that as well.

They did segment Entertainment users out of the 40% of Internet users who generate the greatest value, in the report and put it under a microscope, much to my delight. They found that entertainment services are only about 1% of the market and therefore a niche segment. These users assign a higher value to consuming entertainment services (approximately 65 percent of their total surplus versus approximately 20 percent market average).

This niche segment is focused on TV/videos and music and is characterized by a higher percentage of single urban Internet users (73 percent live in urban areas versus 59 percent for the full-sample average; 45 percent versus 31 percent are single).

Advertising overload risk is visible with 70 percent of users claiming they stop audio or video ads; 50 percent do not read banner ads; and 60 percent close pop-ups before reading them.

A delicate yet healthy Ecosystem

The important thing to note is that those Premium Entertainment users, while a small segment, have 66% that are willing to pay to reduce ads and eliminate ad disturbance from their viewing experience. However, while people are willing to pay to avoid advertising and information-abuse, it's only one-sixth of the value they get from the Web services. So it is a fragile ecosystem right now it seems and the users are still on the demand side.

If I were to apply that to a subscription-based premium video service, I as a consumer, would want 6x the value of what I paid to not see ads. Now if we say that $1.99-2.99 per TV episode is average via iTunes it would mean that for every $2-3 I paid I would expect six episodes. In essence, that's about 50 cents per episode. Hey, maybe Apple was on to something with 99 cent episodes for Apple TV as it makes more money for the content creators and sort of screws the consumers, then again, they set that original price as well. Now for Hulu, $9.99 a month should net me no less than 20 new episodes that I want to watch per month. That would essentially be five weekly TV shows with no advertising. Well, so much for that idea.

Oddly, McKinsey also used the word ecosystem in the research (which I got to after writing that previous paragraph) and they say that it is working quite well right now (the ad-funded ecosystem) and call for caution in attempting to proactively change it to a more pay-based structure.

For example, by 2010, conservatively speaking, online advertising generates roughly 6 Euros per month of revenue per Internet user in IAB Europe and US. As is visible in Exhibit 11, almost all users would want to pay less than the revenue loss in order to compensate for no advertising exposure, causing online  ad-funded business models to suffer.

So what does that mean for places like Hulu and YouTube who want to start asking users to pay to get the same thing they've been getting for free? It's a slippery slope and you risk losing far more than you stand to gain. Especially Hulu who has a plan to make them pay for the same amount of ads and show twice as many ads to non-subscribers. You might want to rethink that plan, especially with your IPO in the works. It could be the beginning of a death spiral (yeah, you read that right...I'm on Hulu Death Watch.)

Admittedly, reading through that white paper was semi-coma-inducing in places, but I toughed it out for you, our fans, our readers, the ReelSEO family (I think I need a break) and I think I got the majority of big take-aways for us. However, if you're interested in reading the whole 27-page affair, here's a link to it: Consumers Driving the Digital Uptake (PDF)

The report spanned the US and the IAB Europe countries, namely: France, Germany, Russia, Spain, the UK, Austria, Belgium, Bulgaria, Croatia, Denmark, Finland, Greece, Hungary, Italy, Netherlands, Norway, Poland, Romania, Slovakia, Sweden, Switzerland, and Turkey.


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About the Author -
Christophor Rick is a freelance writer specializing in technology, new media, video games, IPTV, online video advertising and consumer electronics. His past work has included press releases, copy-writing, travel writing and journalism. He also writes novel-length and short fiction as part of Three-Faced Media . View All Posts By -

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