The largest companies in the U.S. digital advertising arena are Alphabet (GOOG +0.33%) (GOOGL +0.42%), with its Google, and Facebook (FB 0.65%). The two of them control nearly 61% of the market.
As a result, ads generate the bulk of revenue for both. But this commanding share of the U.S. ad market means further ad revenue growth will not be easy. So what does the path to growth look like for these two ad giants, and which has the superior strategy to make it the better buy? Let's examine both to answer that question.
Image source: Getty Images.
Facebook's path forward
This May marks eight years since Facebook's IPO, and while revenue continues to grow, it is slowing. Revenue rose 25% year over year in the fourth quarter to $21.1 billion. However, it grew 30% in Q4 2018 and 47% in Q4 2017.
So with revenue expansion slowing, how does Facebook plan to continue its growth? One investment area is to enable commerce and fintech capabilities in its line of products. CEO Mark Zuckerberg called these "huge and important spaces."
Facebook is enabling several approaches here, such as its Facebook Pay peer-to-peer payment service, allowing merchants to sell products on Instagram, and the use of messaging apps WhatsApp and Messenger to transact commerce. The company expects transaction data collected through these new capabilities to increase the value of Facebook advertising, resulting in advertisers paying more for the company's ad services.
Along with commerce, the company is also investing in augmented reality (AR) and virtual reality (VR). These businesses are still nascent, but Zuckerberg refers to them as "the next computing platform." He sees AR and VR as an evolution of Facebook's social network by allowing people in different locations to interact as if in the same room. He noted that Facebook's VR store, Oculus, saw $5 million in sales last Christmas Day alone. The result highlights this area's potential to deliver meaningful revenue.
Facebook's work to grow its business is admirable, but the company is still in the early stages here. For example, one initiative to include commerce in Instagram is in test mode, and COO Sheryl Sandberg stated the company is deliberately moving slowly on this work. Also, Zuckerberg noted that full AR and VR are "still a number of years away." So it will take time before these projects deliver meaningful revenue.
Alphabet's growth approach
Like Facebook, Alphabet continues to grow revenue, and this growth is also slowing. Its $46 billion for the fourth quarter represented a 17% year-over-year increase, compared with 22% Q4 growth in 2018.
To continue increasing revenue, Alphabet has extended its business beyond advertising. The company gave investors new insight into these efforts when it provided expanded revenue disclosures with its Q4 results, revealing how its key lines of business all experienced year-over-year revenue growth.
For example, its cloud computing division, Google Cloud, saw a 53% rise in year-over-year Q4 revenue to $2.6 billion. Alphabet's other businesses segment contributed $5.3 billion in the fourth quarter, up from 2018's $4.8 billion. This division includes hardware such as Pixel mobile phones and Nest smart-home products, as well as YouTube's subscription-based and other non-advertising revenue.
In addition, CEO Sundar Pichai, like Zuckerberg, sees expanded commerce capabilities across the company's products as an "exciting area." YouTube now allows its users to buy products from its home-page feed and in search results. For instance, using the search term "Puma shoe reviews" on the YouTube mobile app reveals a list of Puma shoes to buy at the top of the search results.
Pichai also noted that Alphabet's famed search engine, Google, experienced the largest number of daily shoppers in the company's history across last year's Black Friday to Cyber Monday holiday weekend. In parallel, Google saw an increase of four times the number of U.S. retailers participating in its Google Shopping Actions product, which allows merchants to sell items through Google.
And the winner is...
Both of these technology companies are working on solutions to continue growth, but Alphabet has the superior strategy. Facebook's efforts are fledgling and unproven, and its commerce initiatives are still about boosting advertising revenue rather than diversifying revenue streams.
Meanwhile, Alphabet's work on Google Cloud and its hardware and other non-advertising businesses are delivering billions of dollars in revenue today. Also, divisions like Google Cloud are experiencing fast growth, suggesting that revenue increases are likely to continue. These factors make Alphabet the better buy.
