2Q17 Ad Market +5% Despite Mass Marketer Weakness -- Pivotal Research

2017 Growth on Track for 4-5%.With virtually all US media owners reporting 2Q17 results, we estimate domestic advertising probably grew around +5%, roughly in line with growth from every quarter since 4Q15 on a normalized (ex-political and incremental Olympics) basis. This rate of growth combined with a similar first quarter suggests that the year is likely to end up between +4 and +5% above 2016’s normalized levels.

Industry growth is more notable considering the widely reported weaknesses at many of the world’s largest mass marketers, especially including fast moving consumer goods manufacturers. In fact, we estimate that the 30 companies within the Ad Age 200 who provide quarterly data and whose businesses are notendemic to the web posted median growth rates for advertising or marketing spending of only +1.4% during the quarter. By contrast, a group of ten large web endemics we track including Google, Amazon, Expedia, IAC, etc. increased their spending on sales and marketing by a median growth rate of +24% during the quarter. We think it’s safe to say that this implies web endemics increased spending on advertising at a significantly faster pace than did other types of advertisers, and that spending by these companies is likely driving the ~20% growth rates experienced by digitally-oriented media owners at the present time. The tepid growth rates observed by so-called “traditional” marketers coincides with what we estimate to be a -1% decline for national TV, similar rates for radio and outdoor and double digit declines for most print-based media.

A New Era for Digital? We Don’t Think so. There are many industry observers who believe that digital advertising has enabled a new era, whereby old models for predicting growth won’t work so long as media owners such as Facebook and Google are able to tap into marketing budgets rather than mere advertising budgets, sustaining elevated growth rates for many years to come. By contrast, the data we have analyzed for media spending growth rates from 1981 to the present indicates a relatively stable relationship between the growth of key economic variables (Personal Consumption Expenditures and Industrial Production in particular) and the growth of media owners’ normalized advertising revenues. Occasionally – as in 2016 – we can see a year where an ad market growth rate is unusually strong, at more than 2 standard deviations away from where our model predicts growth should be. However, even if advertising in 2017 ends up growing by +5%, it would only be 1 standard deviation away from what our model predicts. This is hardly a meaningful difference, and arguably reinforces that the relationship between economic growth and media owners’ advertising revenues is essentially unchanged. Where change is occurring is within the composition of the growth in the base of paid advertising – more from web endemics, less from traditional marketers.

Model Suggests Digital Must Eventually Plateau. This interpretation is important in context of assessing the degree to which digital advertising in general can or cannot continue to grow as they have in recent years. Specifically, if within the United States digital advertising continued to grow over the next six years at the same pace at which it did during 2016 (+22%), and total advertising grew by +3% each year over the same time (a pace of growth that would match 4.5% nominal PCE growth and 2.6% IP growth, as is forecast for 2018 at present by the Philadelphia Federal Reserve’s Survey of Professional Forecasters), digital advertising would essentially equal all advertising. This seems plainly unrealistic, as other media most likely declines gradually and will not simply evaporate. More realistically, digital advertising growth must inevitably slow down, gradually decelerating towards low double digits over the next couple of years, and approaching single digit growth rates at some point thereafter. This has significant implications for Facebook and Google in particular given their dominance of digital advertising, as it implies a significant degree of deceleration will occur for digital media over the next several years. Beyond international sources of growth from markets which are less saturated, this will present significant headwinds for the two companies unless they invest more aggressively into margin-eroding traditional media, marketing technology or other adjacent fields.

FULL REPORT INCLUDING RISKS AND DISCLOSURES CAN BE FOUND HERE: Ad Forecast 8-15-17.pdf