One of the things we look for in the portfolios I manage is opportunities to invest in disruptive changes that shift the economics of an industry and create new winners and losers. Right now, we are seeing a major disruption in the media industry.
Only a few years ago, if you created content, such as producing a TV show, you were entirely dependent on the big media companies, like Disney or Viacom, who had almost exclusive access to the distribution companies such as Time Warner Cable and Comcast, which also owns a content provider, NBC Universal. These companies truly held the keys to the kingdom when it came to content and distribution.
We now live in a very different world. Anyone can create content, and anyone can distribute it. YouTube is one of the primary places where you see this revolution playing out. Videos that not too long ago might have been watched by only thousands of people are now getting 10 million and even 100 million views.
51 Million Views of Devil Baby Video
One of the prime examples of this is the devil baby attack video*, which has already been seen more than 51 million times. This is not merely a prank video posted for entertainment purposes. It is an advertisement for the horror movie Devil’s Due.
All the time people are spending watching content online is coming at the expense of traditional broadcasters. This shift is evident in the Nielsen ratings for primetime TV. All the major networks are losing viewers.
For advertisers, digital media can offer a more effective way to reach customers than traditional TV. Ads run during TV shows can too easily be ignored—with people leaving the room while they’re playing or fast-forwarding through them for shows they have recorded. A very different scenario is playing out online where customers are seeking out the branded content that companies are serving up.
Right now 3 of the top 10 most-viewed videos on YouTube are ads. Since 2005, the top 100 brands on YouTube have attracted more than 40 billion views of their content. It is a trend that is significantly on the rise: 18 billion of those views came within the past year, a period when subscriptions to brands’ channels on YouTube increased by 47%.1 And the audience they’re reaching is that highly desired 18- to 49-year old demographic, who spend more and don’t have the same entrenched brand loyalty as older groups.
Digital Is Only Channel Getting More Advertising Dollars
Not surprisingly, advertisers are acting upon this major shift in the public’s viewing habits. As recently as 2013, national TV was still realizing annual gains, albeit very small, in its share of dollars spent on advertising. But 2014 brought an inflection point, as that number turned negative for the first time. While national TV and other media channels are losing share, digital is experiencing significant gains. The numbers also confirm the long-term trend that other traditional media—such as newspapers, radio, billboards and other out-of-home advertising—are continuing to lose advertisers.
Source: MAGNA Global U.S. Advertising Forecast, Feb. 2015: Nielsen.
A big beneficiary of all this is Google, which owns YouTube. A member of my analyst team, Daryl Armstrong, and I recently visited Google and met with Neal Mohan, one of the best minds in the industry for determining how digital platforms can monetize the content they’re serving up. Mohan and his team are also finding ways to give advertisers all the metrics they need to gauge the effectiveness of content they develop, such as how many eyeballs viewed an ad or video, how long people engaged with it, and what their impressions were of a brand after viewing the content.
After it became clear Google’s second-quarter earnings had blown past analysts’ expectations, the company’s market capitalization increased by $65 billion in a single day. Even with this increased appreciation, we believe YouTube is still in the early stages of capturing advertising dollars from network TV. That ongoing development, along with other growth opportunities for Google, could potentially bring even further gains in its stock price.
Cable Companies and Content Providers Getting Squeezed
On the other side of the spectrum, the current environment is becoming much more challenging for cable companies and content providers. Subscribers are down and that is impacting their bottom line. To lure back customers, some companies are beginning to offer “skinny bundles.” Instead of offering 500 channels for about $100 a month, the companies have recognized that most people, even with all those choices, still watch only about 10 or fewer channels. So companies are enabling customers to pay $15, $20, or $50 per month for a smaller a group of channels that are their favorites.
That makes things difficult for premium channels like ESPN, which has a fixed cost with the high fees it pays to broadcast major sports, such as the NFL. If the network continues to lose subscribers, as people elect not to include ESPN in their skinny bundles, it will become increasingly difficult for it to spread that fixed cost. And ESPN’s cloudy future has had a direct impact on the stock price of its owner, Disney. These changes also make things difficult for content companies with less differentiated content like Time Warner Inc. as they lose fees paid by cable to carry their content, and also lose advertising dollars because of their reduced viewership.
Competition may further heat up next year if Apple rolls out Apple TV with a skinny bundle. Apple could make significant inroads, given that it already has a large base of customers who are familiar with its payment system and a reputation of doing a really good job with the products and services it delivers.
In the past, cable companies have felt reassured that they could make up for any losses in their cable TV business by charging more for Internet services, knowing no one wants to live without their Internet. But now high speed data is regulated by the Federal Communications Commission under its Title II provisions. It is now much more difficult for the cable companies to raise prices significantly or to lay down another card they assumed they were holding—to implement usage-based pricing, charging customers more if they use more data each month.
Long on Winners; Short on Losers
The portfolios I manage can take both long and short positions. That enables us to pursue opportunities for investors from both ends of the disruption—going long on the companies we think will benefit from these new circumstances and going short on the companies whose prospects, and stock prices, may be diminished by this revolutionary change in the industry.
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