Despite brutal evidence to the contrary--Web sites are now lucky to earn $3.50 per thousand page views--the faithful still cling to the hope that some new technology or trend will prove the ad-based model workable after all.
The latest evidence of misplaced optimism is the widespread conviction that broadband will attract enough viewers to Web sites and generate enough page views to make the CPM, or cost per thousand impressions, model profitable. Alas, it just won't happen. Even the online entertainment sector, which stands to benefit more than any other media sector from the adoption of broadband, won't see sufficient increases in ad revenue to cover production costs.
Moreover, variable costs such as marketing and streaming will rise with the number of users. A few businesses built around ad sales--those with inherently low content, marketing, or delivery costs or with a strong attraction for hard-to-reach niche Consumers--may be able to make it. But the implications for the rest of the Internet media sector are clear: Forget about supporting yourselves with advertising revenues.
Despite these grim tidings, the widespread adoption of broadband may yet have a positive outcome: increased usage is beginning to permit the development of new business models--business models that don't depend on advertising. In the entertainment sector, three in particular could be viable in the near term:
selling and delivering non-interactive digital entertainment
expanding the market for fee-based
marketing offline entertainment
An autumn 2001 joint study by McKinsey and Jupiter Media Metrix of 20 online entertainment categories examined these business models and the implications for them as the broadband user population grows.
Strike up the broadband
It comes as little surprise that broadband users spend more time on the Web. Online entertainment, on which they spend 57 percent more time than do narrowband users, is the biggest gainer. Yet of the 20 online entertainment categories we studied--including more than 1,000 separate URLs--only four of those that rely on advertising attracted significantly more users after the adoption of broadband: casual and parlor games, reward and contest games, TV promotional content, and music streaming. For sites in these categories, the growing adoption of broadband will increase the size of the market, thereby boosting advertising revenue per user.
The implications for the rest of the Internet media sector are clear: Forget about supporting yourselves with advertising revenues.
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 percent of all Internet users. Although this is a good bump from the current penetration rate of 20 percent, it means that only 30 percent of Internet users will be increasing their usage substantially, so the effect on overall revenue will be too small to save already low-margin ad models.
Second, increases in variable costs associated with attracting and serving more consumers--notably costs for marketing, sales, content production, and streaming--will reduce any bottom-line gains.
Given the significant increase in the overall number of broadband users, a few sites may reach profitability through advertising alone, but they will be the exception. Two kinds of sites stand a chance of success. The first are sites that have unusually low costs--for instance, those that draw their traffic from associated popular sites such as leading portals and those that have low content costs because they rely largely on repurposed content.
The second are sites that have unusually high ad rates, such as niche sites offering access to a highly specific and attractive audience, like The Wall Street Journal's Web site. The rest will face a struggle for profit, especially as consumers demand ever more sophisticated, and hence costly, content.
Variations on the pay-per-impression ad model, such as the pay per click-through, only make the economics worse; with current ad response rates, the average cost per thousand views sinks from around $3.50 to just 17 cents. Moreover, even if Internet advertising does revive to some extent, rates probably won't rebound significantly.
While broadband may not revive the advertising-based business model, the entertainment sector will probably be able to develop new business models based on broadband's fast downloads and always-on connectivity. One would use broadband as a new sales and delivery channel for non-interactive, non-Web-based digital entertainment. Streamed and downloaded music has already proved its popularity online, and streaming video and downloadable games are likely to follow suit as soon as technologies improve.
Even if Internet advertising does revive to some extent, rates probably won't rebound significantly.
Both music and video could prove lucrative, but if Napster's early success has one lesson, it is that consumers won't pay for content when pirated versions of it are available. Entertainment companies will have to offer higher quality and greater selection to compete; new copyright protection devices in hardware such as compact discs, televisions and stereos may also help.
Online gaming: Pay for play
A second potential business model leverages the fact that online gaming shows the greatest usage jump after broadband conversion--35 percent. There is a growing number of paying customers for online interactive games, such as "EverQuest" and "Dark Age of Camelot," which are now offered by subscription.
These "persistent-universe" games, in which thousands of people play against one another, can be offered only online. They are already successful as a niche; as broadband usage increases, subscriptions should also increase.
Newly introduced games are also likely to make it easier for casual gamers to participate on a pay-per-play basis. An even bigger opportunity will come from casual gamers--more than half of all time spent on broadband entertainment is devoted to casual gaming--if companies can find a way to persuade them to pay for the opportunity to play games such as backgammon.
The key here will be to offer greater interactivity than these players currently experience, perhaps by providing enhanced features such as high-score engines or by organizing play leagues or competitions.
The third business model--marketing offline entertainment Online--is already working. Producers of offline entertainment now use the Internet as a key part of integrated marketing campaigns for movies, music and TV programs. Our research shows that visitors to entertainment sites regularly use broadband connections to find information (such as movie times and concert dates) related to offline activities.
If Napster's early success has one lesson, it's that consumers won't pay for content when pirated versions of it are available.
Just the beginning
As U.S. broadband penetration increases, these and potentially other, as-yet-undiscovered business models will enjoy an increasing likelihood of success. Connectivity will evolve as companies find new ways to integrate broadband technology into televisions, digital video recorders, and audio equipment.
Eventually, home networks will offer a more compelling entertainment experience. And as new standards are created, even more opportunities for the digital delivery of entertainment to consumers' homes, offices and cars will emerge.
In the forefront will be the second generation of digital video recorders from companies such as TiVo and Moxi Digital. These devices, which will soon be on the market, allow consumers to download digital content such as music and video from the Web and to build networks, albeit primitive, that link computers, televisions and audio equipment.
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