For four quarters now, Facebook's (META 2.21%) management has been warning investors of a slowdown in revenue growth in the second half of this year. The message came again with Facebook's second-quarter results.
"We continue to expect that Facebook ad load will play a less significant factor driving advertising revenue growth going forward," CFO Dave Wehner told analysts on the second-quarter earnings call.
In fact, growth in ad impressions has already slowed meaningfully in the first half of the year. Impressions increased just 19% last quarter, a slowdown from 49% in the second quarter last year and barely more than the 17% increase in active users. The decline was partially offset, however, by an increase in average ad prices, which grew 24% year over year, an acceleration from the 9% growth the company saw in the same period last year.
As Facebook continues improving its ad targeting and developing more valuable ad products, it stands to continue winning a larger share of marketers' ad budgets. But instead of offering tons of ad impressions, it can offer more valuable ad impressions.
Image source: Facebook.
A price hike for advertisers
It's important to note that Facebook's ads are sold via auction. As such, as more ad buyers or more ad dollars come into the market, but supply growth slows meaningfully, ad prices will naturally increase.
That said, Facebook will still have to produce a better return on investment (ROI) than competing platforms like Twitter (TWTR) and Snap's (SNAP 6.79%) Snapchat. That becomes more difficult as prices rise. Considering, however, that many marketers are questioning Snapchat ads' return on investment and marketers are actively moving away from Twitter, it shouldn't be difficult for Facebook to continue attracting new ad dollars for some time. Showing those marketers that it's still money well spent is the challenge.
To that end, Facebook is focusing on higher-value ad products. It's increasing the amount of video on the platform, and consequently video ads. Those ads are generally seen as higher-value than static display ads. At the same time, management warned that an increase in video viewing on the platform takes away from time spent on News Feed, resulting in still fewer ad impressions.
Facebook is also working on making more valuable ad products like Dynamic Product Ads, and it's providing additional targeting options like look-alike audiences. All of these efforts are essential to continued increases in ad pricing.
"That's a bunch of hard work making our ads more targeted that makes the outcomes that advertisers get more valuable," Wehner said. "We're going to continue to work to do that, and we're going to continue to invest in making improvements in the ad products."
Finding equilibrium
We've seen the supply-demand curve make significant changes in the past. When Facebook changed its right-hand column ads on its desktop website from three units per page to two a couple years ago, the average ad price increased substantially as ad impressions declined.
Now, we're seeing the beginning of that equilibrium shift again. Take a look at this chart of the last six quarters of growth in ad impressions and ad prices:
Data source: Facebook quarterly earnings calls. Chart by author.
As you can see, ad impressions grew at a steady rate for most of 2016, but as growth slowed in the first and second quarters, ad prices were increasing. With all the work Facebook is doing to improve its ad products and all the money coming into digital advertising, there's no reason to believe this trend won't continue with aggregate growth in the mid-40% range.
Twitter continues to lose ad revenue and doesn't expect things to turn around until next year. Snapchat's growth is fueled by the novelty of its platform, and many advertisers are still in the experimental stage with it. Facebook presents a tried-and-true advertising platform.
Facebook may not be able to meet the phenomenal revenue growth it saw last year as ROI comes into focus, but it's not unreasonable to expect ad prices to continue increasing as ad-impression growth falls. Analysts are currently expecting sales growth of just 35% over the second half of 2017. It wouldn't be a huge shock if Facebook's average ad price alone grows that much in the third or fourth quarter.
