Web ads aren't adding up
Many cyber shops fighting for small, uncertain revenue pie
http://www.sjmercury.com/business/center/netcon070698.htm
BY DAVID L. WILSON
Mercury News Staff Writer
MOST companies launching a business on the Web for the past three years have
had a simple strategy: Spend whatever you've got to make your site a market
leader, and cling to that position until the number of visitors kicks up
enough advertising and other revenues to generate a profit, probably by
1998.
ESTIMATES for online advertising revenues vary wildy. Jupiter
Communications estimates that $940 million was spent on online advertising
last year. But Burst Media says such figures include such things as barter,
and says the true value of cash spending by Internet advertisers was only
$336 million.
Well, it's 1998, but nearly every business Web site is deep in the red. For
many of the prominent sites, the more money they bring in, the more money
they lose. Advertising rates are down for the industry, meaning profits will
continue to prove elusive for at least several years.
And that's going to squeeze some sites so hard over the next year that
they'll run out of financial resources. Many companies are likely to decide
over the next 18 months that they can't afford to keep their cyberspace
shops open.
Web sites today generally make money by selling advertising and by charging
money to other Web sites for a high-profile link designed to funnel visitors
to the paying site. Industry boosters point to the standard figure of nearly
$1 billion in advertising revenue last year as evidence that the market is
growing strong enough to actually show a return on the billions invested.
But several recent reports challenge that figure, suggesting that it's
wildly inflated because it includes a vast amount of non-cash barter
arrangements. The true figure, some say, is closer to half a billion, or
even $336 million, according to a study by Burst Media LLC of Burlington,
Mass., which sells advertising on the Web.
In addition, since January the price of Web banner advertising has been
steadily decreasing, which has translated into less cash for those selling
advertising. Advertising rates, typically expressed as cost per thousand, or
CPM, have plummeted on the Web.
''CPM's over the past six months have probably dropped at least $5,
depending on the category,'' said Chris Charron, an analyst with Forrester
Research Inc.
Taken together, those figures don't offer much comfort to Web site
operators.
''What you're finding is advertising-driven content sites that have staked
out interesting territory are looking for rich uncles,'' said Jeffrey L.
Dearth, managing director of DeSilva & Phillips Media Investment Bankers in
Boston. ''There's no question that there are a lot of sites up right now
that are sucking air.''
Sites give up the ghost all the time, of course. In April, for example,
BigBook, an interactive Yellow Pages directory that was once the model Web
company, sold its directory site to GTE, after its incoming cash couldn't
keep up with necessary expenses.
But what a lot of people are expecting is a large wave of such activity over
the next year, as money to keep sites independent -- or even alive -- dries
up.
While there is actually a little more advertising out there, the growth in
advertising hasn't kept pace with the growth of the Web. Sites are
constantly adding Web pages, but the number of ads available for those pages
isn't keeping pace.
''For many of the sites we talk to, the inventory sold rate -- the amount of
available space they actually sell -- has dropped from 40 percent to 30
percent,'' Charron said.
Too much inventory
One reason for those figures is simply too much inventory; it's a buyer's
market. But there's another, more ominous problem: The vast majority of
advertising on the Web is for other Web-based products.
There are two basic reasons people advertise a Web site on the Web. One is
to develop brand recognition, so that consumers think of your site first as
the place to go for something. The other is to drive traffic to a site,
usually to actually sell something.
Unfortunately, people haven't been buying on the Net. Number crunchers
generally give $2.5 billion as an estimate for retail Internet sales last
year. That might sound like a lot of money, but retail sales topped $2
trillion; even low-tech catalog sales have approached $100 billion. And
that's caused some people to pull back from Internet advertising.
''Many advertisers today are direct marketers that are only interested in
results,'' Charron said. ''Now they have results, and the results are lower
than expected, and that's manifesting itself in lower CPM, which means lower
profits for people relying on advertising.''
Charron argued that the typical Web content site will continue to be
unprofitable for the next two years, and lose $2 million annually. Some will
simply walk away when confronted with such a distant horizon before seeing a
return on their investment. But companies who can afford it -- particularly
traditional media companies -- will be compelled to stay in the space and
eat the losses simply because within five years the technology will change
the way society deals with information, and they can't afford to be left
behind.
Independent sites that have burned through a couple rounds of financing,
each time promising their backers that the break-even point is just over the
next hill, will find it a lot more difficult to sell that same song and keep
the enterprise afloat.
''There will certainly be a shakeout for many content sites when they go for
their third round,'' Charron said.
Some sites are re-evaluating the market, calculating their chances of
success, and thinking about merger and acquisition.
''I am seeing a lot of my clients talk about (merger and acquisition)
activity,'' said Eric Goldman, a lawyer with Cooley Godward LLP in Palo
Alto. ''But I don't think we'll see consolidation in the market immediately.
Very few of my clients want to get out now; they all think their valuation
today would be too heavily discounted.''
Goldman said there is plenty of money sloshing around the Internet, fueled
largely by increasingly frantic attempts to build brand recognition.
Traditionally, the way that starts is by paying a hefty fee for a prominent
link to your site from another Web site where a consumer is likely to begin
browsing the Web.
Premium placements
These so-called ''portal'' sites -- such as those run by Netscape
Communications Corp. and Yahoo Inc. -- don't just make money on banner
advertising. They sell what's known as premium placement, a clickable link
that's prominently displayed on their site and designed to drive traffic to
your site, and lots of people think the portals have the best chance of
getting profitable in a hurry.
But those premium placement deals are becoming staggeringly expensive for a
medium hailed as the last best chance for one person to set a claim and get
rich.
''At this point, it's becoming a seven-figure proposition to get premium
position on a portal site,'' Goldman said. The idea is to make sure that
when people buy books online, they think of one site, like Amazon.com. Yet
some sites have begun questioning the value of such arrangements, over the
long and the short term.
Pricey keywords
For example, search engines like Yahoo will sell ''keywords'' to
advertisers. When a visitor types in a keyword during a search -- like
variants of ''automobile'' -- an advertisement tagged to that topic will
appear on the results page, at the top of the listings for Web pages
containing the search terms. Ads are linked to the topic, and will say
something like, ''If you're looking for a new car, click here to check out
the new Z3!''
Those keywords don't come cheap. Businesses can pay $10,000 to $25,000 a
keyword. Some say that's insane, given the amount of sales you can expect
from such ads.
''We were thinking of buying 10 keywords, to, for instance, tell people that
if they were looking to buy a Nirvana record, we'd sell it to them.'' said
Kristin Lieb, executive director of Newbury Comics Interactive. ''But the
cost meant that was just not a viable method at all. I could never sell
enough Nirvana to make that worth it.''
Lieb and others argue that up till now there has been a fundamental
disconnection between what Web portals want to charge and what some
companies are willing to pay, compared with the payoff. At some point, they
warn, people just won't be able to pay those prices any more.
''The only companies that are following that strategy are companies that are
more than willing to throw away other people's money,'' Lieb said.
But Goldman and others argue that, in the long term, sites will prove
profitable, and that's what investors are betting on.
''We're on the cusp of one of what is probably going to be the most
significant new markets the world has ever seen,'' he said. ''To expect the
rules to be clear in the first few years of the market is unfair. The point
is that right now there are people who can afford to pay that kind of money,
to make that investment, or depending on your perspective, that gamble.''
John F. Shoch, a general partner with the Palo Alto firm of Asset
Management, argues that there are people making money on the Internet. It's
just not usually Web sites. ''It's mostly the infrastructure guys: telephone
companies, equipment vendors and Internet service providers.''
As for the Internet in general, however, most analysts are waiting for a
contraction. ''We're waiting for a shakeout on a day-to-day basis,'' said
Marc Johnson, with Jupiter Communications LLC in New York. ''At the same
time if the stock market keeps fueling them, this could go on for quite some
time.''
That's a big if, however.
''Whatever is driving the valuations on Wall Street, it's certainly not tied
to immediate, short-term or even mid-term revenues,'' Johnson said. ''I can
only guess that investors are betting on the really, really long term. But
at Jupiter, we look at Wall Street and are mystified.''
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