Not Your Grandma’s Ads
In the pursuit of uncorrelated returns by investors, segments of the media industry reliant on advertising have often faced scrutiny. Historically, advertising spend is well known to follow GDP. If investors simply wanted to express a view on broad economic trends, they’re already well covered by traditional investment products. This was particularly evident during the economic uncertainties of 2023 and fears of a potential recession, which visibly caused apprehension among media investors and lenders to businesses reliant in whole or in part on monetization via ads.
However, we would suggest three reasons that challenge the conventional perception of advertising revenue as purely a macroeconomic bet:
1. Mix shift as a long-term tailwind. Remarkably, the well-documented transition from traditional to digital advertising remains in its nascent stages in many respects. For instance, despite doubling over the past two years, spending on connected TV in the US represents merely ~25% of linear TV ad expenditure. Shifts in audience preferences and the advantages of data-driven advertising are no longer debated; the impending move of budgets is now a matter of time. We would argue this is a longer-lasting tailwind than many industry observers intuit.
2. Unit economics. Historically, media property owners displayed a bias against using advertising for monetization of premium content, often favoring lower-quality or older content for ad-supported channels. However, the economics of advertising-supported streaming media are increasingly proving comparable, if not superior, to segments perceived to be more stable, such as subscriptions (e.g. Netflix: Some Ad-Supported Math — Implied Expectations). This improvement in unit economics can drive a push toward placing higher-quality and more first-cycle media inventory into the ad-supported landscape, potentially creating a virtuous cycle of reinforced advertiser recognition and investment in these avenues.
3. Broader investment universe. Instead of solely investing in businesses influenced by advertising trends, there are now opportunities to get closer to the actual “at-source” revenue streams generated by ad spend. For instance, investors can now own or lend against the direct revenues coming from digital platforms like YouTube, PlutoTV, or Magnite. This is akin to investing in a commodity, like gold, versus investing in the gold miner. This approach, while likely less lucrative on the upside, helps mitigate the negative effects of operating leverage, which in our view is a major driver of P&L volatility within advertising-based businesses.
