Can Google Fend Off the Other FANGs in the Video Space?
- By Shudeep Chandrasekhar
Many have tried to figure out what kind of company Alphabet (GOOG)(GOOGL) is, and failed. Most say it's a search engine developer; some say it's an advertising company; a few even say it's an artificial intelligence company.
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The truth is, I don't think even Google has figured this out yet. Yes, it's a search engine; yes, it's an ad company; it's a mobile ecosystem; and it might even be an AI company or a video company for that matter. In the end, it doesn't really matter. What matters is how Google can manage to keep growing into the next decade and beyond.
If advertising is their main revenue stream, then the conduits for that stream are essentially Search, Sites and YouTube. You'll notice I'm leaving out quite a few of their businesses such as Android, cloud, software, social, mobile, apps and so on. The reason is that you can't call Google a truly diversified business even if you take their combined revenues into consideration.
But video is all together a different beast.
The threats to YouTube
The fact that Facebook (FB) has entered into the video space in a big way in the recent past is of grave importance to Google. Not only has Facebook already impinged on online advertising -- formerly Google's exclusive territory -- but it is now looking at taking market share in video advertising as well.
I'm not suggesting that YouTube is going to be pushed into a corner by Facebook's video initiatives. Far from it, I think the market will only grow bigger once there are multiple deep-pocketed players in this space. But the fact is that there will some market share erosion for Google in the short to mid-term.
The second major threat is because Google has entered into the paid streaming space dominated by Netflix (NFLX), Amazon (AMZN) and others.
Let's take a look at each of these threats and try to assess the extent of the damage they can inflict on Google.
Facebook's video push
Facebook is desperate to get into video because they need some diversification, too. With the bulk of their revenues coming primarily from advertising, they're practically in the same boat as Google.
But why video?
Research shows that video is one of the fastest growing media formats on the Internet today. Take a look at this graph published by Cisco Systems (CSCO) in a white paper they released earlier this year.
Figure 26. Mobile Video Will Generate Three-Quarters of Mobile Data Traffic by 2020
The graph shows the growth of various data formats that form a part of overall internet traffic to and from mobile phones. As you can see, mobile video is growing at the rate of 55% every year, and is expected to generate 75% of all mobile data traffic by the year 2020.
Here's what Facebook says about its shift towards a video-heavy portfolio:
"We're increasingly seeing a shift towards visual content on Facebook, especially with video. In just one year, the number of video posts per person has increased 75% globally and 94% in the US. And with people creating, posting and interacting with more videos on Facebook, the composition of News Feed is changing. Globally, the amount of video from people and brands in News Feed has increased 3.6x year-over-year."
So, it's no wonder that Facebook wants to be in on the video phenomenon -- and in the biggest way possible. Their many video initiatives and tests over the past few months is proof of that -- and their acquisition of video morphing app company Masquerade further validates this.
Facebook's vision for video is not just a pipe dream, however. They're sitting on multiple user bases numbering in the billions and hundreds of millions that have not been fully monetized by display advertising. The doorway to video advertising revenues is now wide open to them, and they want to make sure they get in that door sooner rather than later.
Can you guess who will get hit the hardest if Facebook starts to pull video advertisers into its fold? Google, of course. We've already seen this with display advertising, and now it is inevitable that the same thing will be repeated with video.
And what's the potential negative impact to Google? Unfortunately, the company does not break out YouTube numbers, but one source estimates that YouTube brought in about $8.5 billion in ad revenues in 2015, and that figure is estimated to grow 50%+ this year to hit $12.8 billion by the end of the fiscal.
So by the end of the year, that $13 billion will be up for grabs by Facebook once it starts to fully monetize its video content. That might be more than a few quarters away, but the threat is real.
As I mentioned earlier, we've seen it happening in traditional display advertising. While Google's advertiser base is estimated to be a tad under 5 million, Facebook announced last year that they crossed the 3 million mark. If that ratio plays out in terms of revenues, Google could see more than 30% of its video ad revenues contract over the next several years.
That brings us to the real reason for launching YouTube Red. And it also brings to the forefront even more challenges for Alphabet Inc.
YouTube Red's challenge
As soon as YouTube Red was launched, the field of competition instantly expanded to include paid video streaming giants like Netflix, and Amazon through their Prime Video offering.
Below is the kind of competition YouTube Red is up against.
The problem is, Red is still too young to compete with granddaddy Netflix or even the relatively newer Prime Video. For now, Google assumes that their YouTube following will be reflected in Red's numbers over time. Big mistake! You cannot compare a user base that gobbles up free content by the exabyte to the infinitely more discerning audience that is willing to pay for content.
We are yet to see what kind of traction Red achieves, but it's clear that neither Netflix nor Amazon will give them an inch of room to take away their loyal users. Operating in that kind of tough competitive arena is not something Google is good at or even familiar with. Case in point: They're not even able to get past AWS, Microsoft (MSFT) and IBM (IBM) in the cloud computing space despite being one of the first tech majors to use cloud on a massive scale themselves.
Google's predicament
So, on the one hand Google is facing a market share and advertiser erosion threat from Facebook; on the other, their bet on YouTube Red depends heavily on how well users accept the content they currently have and will add over the next few years.
That's not very encouraging for a long-term investor because sooner or later, Google's ad revenues will start to take serious hits. I'm not talking about the next 3-5 years; the timeline I'm referring to is the next couple of decades. Google is too big to take a tumble in a mere few fiscals; but once the weaknesses start to show, it's only a matter of time before Facebook and other predatory birds swoop in for their pound of flesh.
The way I see it, Google cannot afford to play around with smart cars or high tech spectacles. They need to create a moat around their business - something they do not yet have. They also need to identify at least one forward-looking source of sustainable income and growth to carry them successfully over the next two decades and beyond.
The most viable one right now seems to be cloud computing, in fact, but only because they have Diane Greene, former CEO of VMWare (VMW) heading their cloud unit. She has been making waves by acquiring some big ticket clients like Apple (AAPL) and Home Depot (HD), but is that enough? We are yet to see signs of sustainable growth in Google Cloud, while their competitors are already reporting annual cloud revenues breaching the $10 billion mark.
At this point it's anybody's guess what that alternate source will be.
Disclosure:I have no position in any of the stocks mentioned and no intention to initiate any position in the next 72 hours.
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This article first appeared on GuruFocus.
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