Here’s a thought experiment.
Imagine it’s 1993. After graduating from college, Marc Andreessen is offered a job by Microsoft. He accepts.
Eager to grow the “world web web,” Andreessen creates “the Internet Explorer” rather than Netscape.
Trying to help site creators earn money for their efforts, Microsoft creates a mechanism that allows publishers to charge the people who want to consume their content. Microsoft takes a 30% cut on content sales. For publishers, the revenues from online content sales is found money, so Microsoft gets nothing but praise for the new service. (The 30% fee seems a tad high to some people, since Microsoft has almost zero marginal costs associated these sales. But critics don’t dare go public — everyone agrees this is a good thing, most journalists know even less about percentages than they know about technology, Microsoft invented the darn thing, blah, blah… so why rock the boat?)
Fast forward a few years and IE is the dominant browser, used on a vast majority of computers. As the number of people online has grown, some publishers have begun to offer their content to readers for free. As the web’s audience has grown, they’ve discovered that some of their print advertisers will pay for advertising on web sites via crude little panels called “banners.”
Fearing the cannibalization of its share of site content revenue, Microsoft decides to launch its own proprietary technology, the mBanner. For technical reasons — security, loading speed, feature compatibility — Microsoft declares that IE will only support the mBanner.
Site owners, thankful for everything Microsoft has done in cultivating and underwriting the wonderful world wide web, are thrilled to see a company with Microsoft’s prowess and heft get behind the “banner” market. It seems only natural that Microsoft decides that, to be compensated for all the hard work it’s put in over the years, it should get a cut on any sales of mBanners. After all, the mBanner is Microsoft’s technology, right?
To make sure it gets paid, Microsoft declares that only its employees will be able to sell the mBanners. If someone else sets prices the ads or handled the money, Microsoft might get cheated. (For example, left to negotiate the price of their own mBanners, publishers might give away online inventory free to help seal lucrative print deals, diverting money from Microsoft’s deserving coffers.)
Agencies are enthusiastic about the simplicity of dealing with just one ad unit and just one counter-party. They agree to work with their clients and then call Microsoft to place the mBanners on the Internet Explorer.
The fee? 40%. That’s higher than Microsoft’s fee on content sales, so a few people grumble, but most people accept the fee. It’s Microsoft’s market. You’d have to be stupid not to understand that it’s better to earn 60% of something rather than 90% of nothing.
And if you want lower fees, buddy, why don’t you invent your own browser?
Ha.
Forget about the obviously absurd economics of this alternative history. Forget about the rage that would have been vomited onto Bill Gates had he tried to monopolize the market for online advertising. Let’s just assume it happened and think about how the online advertising market, shorn of competition between publishers based on price or most other modes of differentiation, would look like today.
In this alternate reality, publishers don’t need their own sales teams. This would, arguably, save publishers some money on ad sales teams and technology. That’s food for publishers, right?
And ad networks don’t come into existence. Who needs an ad network when there’s one price-setter and one market-place consolidating all supply and demand? Less confusion for advertisers and agencies.
But if monopolists offer killer economies of scale, the market pays dearly for their services in other ways.
First, publishers must be content with the prices that Microsoft decides to charge for their ads.
Want to invent a different shaped ad unit? Hmm, sorry, that would confuse the marketplace and mess with the wonderful Microsoft platform.
Think you’ve got a particularly cool audience that’s worth more than other sites’ generic nincompoops? Tough luck — Microsoft is too busy with their technology and existing relationships to bother selling your unique audience at anything other than the average advertiser at the average price.
Got a site that Microsoft thinks is too risque for its fine advertisers? Tough luck.
Now, fast forward 17 years and replace “Microsoft” with “Apple.”
Here’s the WSJ’s summary:
Apple Chief Executive Steve Jobs said Thursday the new operating system will include an advertising capability, dubbed iAd, that allows developers of the programs available in Apple’s App Store—many of which are free or cost 99 cents—to include ads in their software.
Apple will sell the ads, with developers who create the apps getting 60% of the revenue of any mobile ads, and Apple taking the remainder.
Apple thinks it’s going to sell all the ads that appear on any Apps on any iPhones or iPads. The iAd! Genius.
Apple is bringing its magical unified platforms to advertising. Some analysts predict the iAd will catalyze explosive growth in mobile advertising. Agencies will bang on Apple’s door. Apple will pass out a price list, advertisers will check some boxes, and bingo, everyone’s happy. Apple will make hundreds of millions!
Apple’s 40% fee sounds fair because that’s basically what they take on Apps, right?
Wrong. The analogy between the app market and iAds is false.
The app market consists of just two counter-parties — the creator and the buyer — mediated by Apple.
The market for advertising is far more complex. First there are the end clients with the money, aka advertisers. There are various types of agencies: creative, ad buying, planning, strategic. Then there are the publishers and other content creators. There are ad networks. There are tech companies running around trying to sell any and all of the other players their latest innovation.
And of course there are sales teams larded throughout, each selling to the next level in the pipeline. In theory, the whole ecosystem functions sequentially with companies talking to agencies talking to sales people talking to publishing executives; in practice, everyone talks with everyone, covertly trying to eat their partners’ lunches and win an upper hand.
Apple may think that the ad business is just a matter of taking money from agencies and passing it to publishers. That bilateral flow chart omits where all the key innovation occurs. Maybe Apple doesn’t know this, but most of advertising innovation isn’t instigated by agencies, but by publishers and ad networks and tech vendors competing tooth and nail to win business from agencies and their clients.
Think I’m wrong? Consider how few agencies actually employ their own programmers. More evidence that agencies don’t drive innovation can be seen in the fact that agency relationships tend to be stable, lasting for at least a few years, while publishers, tech vendors and ad networks evolve new products and differentiators with the Darwinian fervor of flu viruses fighting to make it back another year.
Many agencies just package these ideas — new sizes, new functions, new prices, new assumptions, new metrics — and present them to advertisers as their own creations.
So here’s how things are going to play out for the iAd. Apps on iPhones and iPads are undoubtedly very cool and powerful and iAd will fit wonderfully into the mix. At first, advertisers will be thrilled by Apple’s offering. Little app producers with no sales expertise of their own will be thrilled to. For people without shoes, a shoe store is a wonderful thing.
The press will be filled with glowing exclusive reports on Apple’s prowess in making and selling ads.
After a while, though, the elation will wear off. For all their technical sizzle, Apple’s iAds will end up with the diversity, charm, and dynamism of shoes in a Communist shoe store. One product, one price, only a few sizes, one decor, and one unsmiling sales force. Take it or leave it folks.
(Update 2/17/10: Apple’s presentations to agencies seems to confirm this monolithic, one-size-fits-all approach. According to folks at ad agency Hill Holliday who recently got a demonstration from Apple, “Apple is selling to advertisers is the iPhone and iPod-totting demographic in general, not users of any individual app.”)
I hope Apple’s got some cute tricks up its sleeve that I haven’t anticipated here. But nothing I’ve read so far suggests Apple understands the true complexity and dynamism of the ad market. Our ad market.
Update: To clarify: I’m not expressing anti-trust concerns about the iAd, though obviously if the dreams of Apple and its fanatics come true, the iPhone, Ipad and iAd WILL become the dominant platform for consuming and monetizing content. My point is that product innovation, something Apple excels at, is entirely different in structure and tempo from advertising innovation. Competitors will no doubt make hay from Apple’s rigidity.
Update 2: You should read John Gruber’s brilliant post laying out why Apple has shut Flash out of the iPhone. He notes “The App Store platform could turn into a long-term de facto standard platform. That’s how Microsoft became Microsoft. At a certain point developers wrote apps for Windows because so many users were on Windows and users bought Windows PCs because all the software was being written for Windows. That’s the sort of situation that creates a license to print money.” Gruber goes on to say of course Apple won’t dominate all markets, just all good markets. 
Update 3: Looking at the iPad, Nicholas Carr makes in interesting point about the inevitable evolution of a given technology away from human agency that might also be used against my arguments about the iAd: “One of the keynotes of technological advance is its tendency, as it refines a tool, to remove real human agency from the workings of that tool. In its place, we get an abstraction of human agency that represents the general desires of the masses as deciphered, or imposed, by the manufacturer and the marketer. Indeed, what tends to distinguish the advanced device from the primitive device is the absence of “generativity.” It’s useful to remember that the earliest radios were broadcasting devices as well as listening devices and that the earliest phonographs could be used for recording as well as playback. But as these machines progressed, along with the media systems in which they became embedded, they turned into streamlined, single-purpose entertainment boxes, suitable for living rooms.”
Update 4: David Weinberger sums up a debate over whether the iPhone and Apple’s overall ecosystem is “generative” — in author Johathan Zittrain’s definition ‘capable of producing unanticipated change through unfiltered contributions from broad and varied audiences.’ Weinberger sees wonderful but closed systems as potentially jeopardizing software creativity and, in turn, human expression via that software: “The danger is that as cellphones become mobile Internet devices, and as iPods become mobile computing platforms, our new generation of computing devices will be appliances open only at the forbearance of their creators. Those creators may be relatively benevolent, but the question isn’t whether this device or that creator is open. It’s what the future of the Internet and of computers will look like. If appliances become the dominant way of interacting with the Net (and thus how we interact with one another), then no matter how loosely the device creators hold the reins, we are accepting the bit in our mouths. If appliances become the default, then the market for challenging, risky, disruptive, subversive app development is in danger of drying up.”
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