Social networking sites search for right revenue model

It may be one of the world’s most popular websites, with its clips viewed more than a billion times a day, but YouTube – the darling of search giant Google’s coterie – cannot make money.

Google, which paid $1.65bn (£853m) to acquire YouTube in October 2006, is expected to reap only $200m (£100m) in advertising revenue from the site this year – equivalent to just one month of ad revenue at UK terrestrial TV channel ITV1.

But Google is not alone in struggling to monetise online successes – its rivals are also finding it hard to make money out of social-networking sites. Although first forecasts were positive, ad revenues from Bebo, Facebook and MySpace are said to be below analyst expectations.

Meanwhile, Google also faces a $1bn (£500m) lawsuit from Viacom, the media conglomerate behind the MTV and Nickelodeon networks. It alleges that YouTube has built a business by using the internet to “willfully infringe” copyrights on its shows and characters, including the SpongeBob SquarePants cartoon. That lawsuit, combined with a similar case filed by the Premier League and other parties, is expected to have a considerable bearing on social-media revenue models.

Such issues point to trouble ahead. Legions of executives suggest that not only are the days of high valuations for Web 2.0 companies over, but that a dot-com-style boom and bust could be ahead.

YouTube is anything but a failure as a consumer proposition – since launching in 2005 it has grown to a mighty 130.5 million global unique users in May, up 47% year on year, according to Nielsen Online. Yet that has not translated to advertising cash, and is unlikely to do so, in the short term at least.

One UK broadcasting executive suggests the $200m mooted for YouTube is too high. “Layer upon layer of bullshit,” he says. Even so, it would account for just 1% of Google’s expected overall revenues for 2008.

There have been numerous problems selling YouTube as a marketing medium, most obviously around the content it showcases. Most of the heavily-trafficked video content is low-quality, user-generated material, which large-scale advertisers are unhappy to sit alongside.

As Dan Clays, managing director of Havas-owned BLM Quantum, says: “We want to be around content with proper production values. We want to build associations with good quality content, not crap.”

And, while Viacom’s lawsuit looms ominously over the site, YouTube has been loathe to open up much of its inventory because of fears over copyright infringement.

“Effectively they can only monetise 4% of the site for fear of the Viacom litigation,” says Gartner media analyst Adam Daum. He adds that Google had hoped copyright owners would agree to a revenue share because the site attracts such a high number of users.

“Everyone fell into line with that, except Viacom,” Daum explains. “The conclusion of the legal case may see Google have a freer hand to deal with the advertising.”

Google itself insists it is “very happy” with YouTube’s ad revenue progress. Henrique de Castro, Google head of YouTube and media solutions for Europe, insists: “It’s still early stages.”

De Castro says that advertisers are on the site and there is no need for concern about where ads are placed. “You can only advertise against cleared content,” he adds. “This property has grown enormously. It’s young. We have to improve integration and efficiency. We did it with search and we’ll do the same with YouTube.”

But even Google executives have privately criticised YouTube’s ad sales operation, launching Project Spaghetti – an initiative that reportedly identified 105 problems with the system. Google is also reportedly ready to start selling pre- and post-roll advertising on YouTube.

And YouTube is not alone: MySpace, Facebook and Bebo have all disappointed in their seeming inability to translate the popularity of their sites into revenue for their owners.

In May, News Corp conceded that it was not going to hit revenue goals for MySpace and Fox Interactive Media, suggesting that monetising social media was harder than first thought. FIM revenues dropped from $233m (£116m) in the second quarter to $210m (£104m) in Q3, with about a third of that coming from a three-year guaranteed $900m (£487m) deal from Google.

This is further proof, suggest the naysayers, that such sites are flawed as advertising platforms and do not deserve their weighty price tags.

“Look at the valuation on Facebook. It’s up to $15bn (£7.5bn), but it doesn’t make the kind of money [to deserve the valuation],” says Jamie Riddell, director of innovation at digital media agency Cheeze. “This is where we get into Dot-com boom territory again. The difference here is they make money. It just doesn’t back up the valuation, and therein lies the problem. How do they fix that? I don’t know.”

It is a view that Bob Willott, editor of Marketing Services Financial Intelligence, agrees with. He says that anything to do with digital has commanded a premium price, with little regard to whether a particular entity has genuine, long-term, above-average growth and profit potential. “Instead the attitude has been, ‘If it’s digital, buy it’. If you apply that observation to the social-media sites, it should come as no surprise that some or all will have been overvalued, in the short term at least,” he adds. But others suggest this is a minor setback for social media, which can and will generate significant revenues. One industry source says that Google is still striving to find the right model to drive revenue direction and consumer interaction with video.

The source adds: “You don’t want the ads to be interruptive. They need to experiment, maybe with text-based ads around the player. They need to experiment with targeting too. If they solve all these issues, consumers may not disapprove.”
But another insider suggests this is yet further proof that Google, which dominates the $20bn (£10bn) search industry it all but created, is a one-trick pony, albeit a very large one.

“It’s certainly the case that Google has one main business model of monetising search,” continues the insider. “It has been very successful there and created a $20bn market, and it has used that money to fund innovative services. But there are a number of properties, such as YouTube, which are still waiting to see if they can make money.”

But, as Willott says: “In new areas of business there is almost invariably a shake-out when realism begins to creep in, and some of the candy floss is seen as nothing more than froth. The dot-com bubble burst and we are now into yet another internet innovation that may well go the same way.”

The shortage of revenue among the so-called social-media sites has persisted, despite more than four years of experimentation. The acquisitions of YouTube, Bebo and MySpace may represent small drops in the ocean for their cash-rich owners, but increasingly there is a sense that such money has been flushed away, and that perhaps Facebook should have sold more of its equity earlier.

Coupled with a depressed global economy, most believe that the days of the megabuck valuations for such sites are over – for now, at least.