Facebook (NASDAQ:FB) has been trying to build a video ecosystem for years. It launched Watch, a video platform built inside of its flagship app, last summer, but it's off to a relatively slow start despite a big investment in video content.
While 40% of Facebook users in the U.S. use Watch on a weekly basis, that still pales in comparison to YouTube. Moreover, the average time spent viewing videos on Watch falls well short of the hour per day YouTube's 1.5 billion users spend on the video-streaming app.
The shortfall likely comes down to the quality of content. Forty percent penetration is pretty strong for a product that's still less than a year old, so it's not like people don't know Watch exists. It's just that when they get to Watch, they don't find the breadth or depth of content they do on YouTube, which can take them down a rabbit hole of related videos.
But there's a simple tweak Facebook can make to take on YouTube.
Ads that work
Facebook avoided pre-roll ads before videos for a long time. To be sure, running pre-roll ads on videos in the News Feed would break the flow of the product and pre-roll ads are still annoying even when you know you want to watch the video that follows.
But they work.
YouTube is expected to generate $9.1 billion in net revenue this year for Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) subsidiary Google, according to an estimate from eMarketer, primarily from pre-roll video ads.
Facebook previously focused on mid-roll ads, but most publishers found the ads produced very little in terms of revenue. At the beginning of 2018, the company started experimenting with pre-roll ads in Watch. After a few months of testing, Facebook says the results are good, and it's expanding pre-roll ads to more places including search results and publisher pages.
A push for pre-roll ads might annoy some users, but creators and publishers should love it.
Bringing in better content
Content creators are incentivized by money. Facebook is currently paying cash out of pocket up front to some publishers in exchange for the rights to put their content on Watch. The social network hopes to run enough ads to make up for its expense over time.
But if Facebook can effectively monetize video content to the same level as YouTube, it could attract a lot more content and talent without having to spend anything. YouTube's $9.1 billion in net revenue implies it will pay out over $11 billion to creators this year based on its standard 55/45 split. That's enough money to attract even the biggest content publishers, and absolutely dwarfs Facebook's $1 billion content budget for Watch.
Force-feeding more video ads
Facebook actually generates more video ad revenue than YouTube and Google, but most of those video ads are stand-alone ads in News Feed. As noted, Facebook's mid-roll ads have struggled to produce meaningful revenue, according to its content partners. There's clearly demand for video ads on Facebook. Facebook just needs to put those ads in places users will watch them -- before videos, not in the middle.
Investors should watch for further commentary from management about the success of pre-roll video ads or the overall growth of video advertising on the platform. Surely, analysts and marketing firms will conduct surveys on video ad spending, and investors should look for any telling trends there as well. Finally, simply checking for new and better content on Watch could provide an indication of how successful Facebook's efforts with pre-roll ads are.
As video grows more and more popular, it still presents a big opportunity for Facebook. But the company still needs to find a way to provide meaningful revenue to creators besides paying them directly if it really wants to take advantage of the trend and take on YouTube.