When Advertising Isn't Enough

Believe it or not, we're still in the early days of the internet. And even though it originated in the U. S., countries like China -- that leapfrogged the infrastructure phase to go mobile-first -- show us what's possible when we go beyond advertising-only based models. In this presentation from our annual a16z Summit event, a16z general partner Connie Chan looks at what happens to commerce, entertainment, influencers, and all kinds of content consumption when we go from business models that rely only on "eyeballs" to ones that rely more on "wallets". What inspiration can marketers and product designers (or anyone thinking about innovation) take from China when it comes to rethinking the future of brand, mindshare, and attention? *** The views expressed here are those of the individual AH Capital Management, L. L. C. (“a16z”) personnel quoted and are not the views of a16z or its affiliates. Certain information contained in here has been obtained from third-party sources, including from portfolio companies of funds managed by a16z. While taken from sources believed to be reliable, a16z has not independently verified such information and makes no representations about the enduring accuracy of the information or its appropriateness for a given situation. This content is provided for informational purposes only, and should not be relied upon as legal, business, investment, or tax advice. You should consult your own advisers as to those matters. References to any securities or digital assets are for illustrative purposes only, and do not constitute an investment recommendation or offer to provide investment advisory services. Furthermore, this content is not directed at nor intended for use by any investors or prospective investors, and may not under any circumstances be relied upon when making a decision to invest in any fund managed by a16z. (An offering to invest in an a16z fund will be made only by the private placement memorandum, subscription agreement, and other relevant documentation of any such fund and should be read in their entirety.) Any investments or portfolio companies mentioned, referred to, or described are not representative of all investments in vehicles managed by a16z, and there can be no assurance that the investments will be profitable or that other investments made in the future will have similar characteristics or results. A list of investments made by funds managed by Andreessen Horowitz (excluding investments and certain publicly traded cryptocurrencies/ digital assets for which the issuer has not provided permission for a16z to disclose publicly) is available at https://a16z.com/investments/. Charts and graphs provided within are for informational purposes solely and should not be relied upon when making any investment decision. Past performance is not indicative of future results. The content speaks only as of the date indicated. Any projections, estimates, forecasts, targets, prospects, and/or opinions expressed in these materials are subject to change without notice and may differ or be contrary to opinions expressed by others. Please see https://a16z.com/disclosures for additional important information.

• 0:04Speaker 0

  Imagine how many ads you've seen in the last 24 hours. How many ads have you scrolled through or maybe ignored in your Instagram and your Facebook feed? Now imagine if those ads were capped to just two or maybe three per day. How would that change how you feel about the product? Or think of imagine how many subscriptions are you signed up for for a monthly recurring bill, or how many of those subscriptions have you forgotten to cancel. Imagine at that point of transaction if you were able to purchase exactly what you wanted for the time frame you wanted. Now, what I'm describing is not a hypothetical situation. This is the reality for Chinese internet users in China today.

• 0:53Speaker 0

  And this is because consumer internet companies in China have taken on drastically different business models. And I believe by studying China, we can get inspiration and insights for how we can evolve our own business models that can eventually result in better product experiences. But first, let's revisit the state of affairs in America. Now, a lot of these products are wonderful products that we use on a daily basis. They've become household names. And these companies have market caps and the hundreds of billions of dollars. But if I take a look at these companies and the products they've created, interestingly, oftentimes their products fall in one of two buckets.

• 1:41Speaker 0

  They're either advertising driven, where they focus on engagement, or they're focused on transactions and subscriptions. Most of the time, these business models are driving the way they drive product thinking. So they mostly are thinking about the eyeball economy or the wallet economy. And when I take a look at the actual numbers, it makes it even more obvious that most of our companies in the consumer internet space have very high revenue concentration in one of these two business models, advertising or transactions. Facebook, 98.5% of their revenue comes from advertising. Or take a look at Spotify, over 90% of their revenue comes from subscriptions.

• 2:28Speaker 0

  And then I ask myself, now it's great for these companies to focus, but is this really going to create the best outcome for long-term growth? And does it create the best consumer experiences? I believe there are both offensive and defensive reasons to consider diversifying your revenue stream. On the defense side, the main reason is because consumer behavior changes. There will come a point where you can no longer stuff more ads down someone's throat because the ads will become either more ineffective or more annoying. And on the subscription side, I believe one day consumers will wonder why they have to keep paying for a buffet when they know exactly what they want to buy.

• 3:17Speaker 0

  So what could an alternative business model look like? How can our current thinking evolve? Well, let's shift to the offense. I believe if you merge these ideas of advertising and transactions, you can come up with something really powerful. For example, if you're an advertising-driven company and you're somehow able to break into transactions and payments, well, now all your ads become one-click transactions. That's pretty powerful. Or if you're a transaction-oriented company, if you can create more content, engaging content, you get more mind share. And that lowers your customer acquisition costs when you try to expand to new sectors.

• 4:03Speaker 0

  So imagine a consumer internet company with revenue distribution that looks something like this, with maybe 20 plus percent of your revenue coming from payments and fintech growing 100% year over year, a third of your revenue coming from gaming growing over 20% a year, maybe another quarter of your revenue coming from video live streaming, growing 40 plus percent of a year, and advertising at less than 20% of your overall revenues. This is not a hypothetical internet company. This is the revenue distribution for Tencent, one of China's most successful consumer internet companies, the makers of the globally famous WeChat.

• 4:48Speaker 0

  And yet advertising is still less than 20% of their revenues. Compare that with Facebook, which is 98.5% advertising driven. In fact, last year, Tencent's president Martin Lao said we should not be inundating our users with ads. And so on WeChat Moments, your equivalent of your Facebook newsfeed, they've capped the number of ads to just two per day. Imagine only seeing two ads from Facebook per day. It's very hard to argue that's not a better product user experience. Tencent's not the only innovator in China. There are many. So today I want to walk through a couple examples outside of WeChat that can describe to you the power of revenue diversification.

• 5:35Speaker 0

  But first, why China? How is China so different? China basically skipped over the PC and the credit card era. And that was largely because many people in China were too poor to afford a computer decades ago. So for a lot of them, their first exposure to the internet was on the small mobile screen. And smartphone penetration has taken over China and so has mobile payments. And China has become not only mobile first, but mobile only. And because mobile payments are so prolific, they have become what I call a seamless digital society. And as their products evolved, their business models did too. Because ads are far more annoying on a small screen.

• 6:22Speaker 0

  So I'd like to take you through a series of examples to compare and contrast how various types of content are consumed and purchased in China versus the US. And I hope that you'll see the differences not only in the business models, but the end user product experience. Let's start with books. Typically, when you're shopping for a book in the US, a digital book, it'll look something like this. You're on Amazon and the Kindle option is right next to the ability to purchase the paperback or the hardback version of this book. In China, the way we buy books is very different. You can buy books by the chapter, you can buy books by every thousand characters.

• 7:09Speaker 0

  On the screen on the right, free books can still monetize because you can tip the author. So in this particular case, you can tip the author anywhere between 15 cents to a thousand dollars. On the screen on the left, this book charges 0.007 for every thousand characters. Now don't feel too bad for this author. This book has over 10,000 chapters and it's still going. It's over 46 times the length of the entire Harry Potter series. There are anecdotes in China of how authors will change the plot, change the storyline, or kill off characters based off this real-time feedback. And the platforms for buying books combine self-published books with the books from the big authors.

• 7:57Speaker 0

  So up and coming authors can still get distribution. There are lots of cases in China where books, you can read half of it, two-thirds of it for free, and you only buy and pay to unlock the ending.

• 8:28Speaker 0

  On the screen on the right, this is the way I can sort and decide which books I want to buy. Rather than just look at a simple New York Times bestseller list, I can sort with such granularity, such as which books were read from front to back. That would drastically change how I decide which books I want to buy. And I could take that same sorting mechanism of front to back, and then look at the results by gender, by male readers or female readers. These platforms in China give users a lot more information before their user is forced to make a purchase. Now, the way the books are sold in China is a complete rethink of the publishing industry, but it seems to be working.

• 9:16Speaker 0

  Between 2016 and 2017, book sales in China for digital books rose by 35%. Whereas in the US, it trended the opposite direction. And this is because in China, buying books is not about this one-time download purchase, there's elements of social, there's elements of gamification, microtransactions, and more. Let's take a look at another promising segment, podcasts. Now, in 2014, the first big breakout podcast hit was released in the States called Serial. It cost over 400,000 to produce, and it made roughly one million dollars. Now, when they were deciding whether They can create a season two, the executive producer in episode nine of season one had to actually ask its audience for donations because they weren't sure they could cover the costs of creating season two.

• 10:10Speaker 0

  And this is the biggest, biggest podcasting hit we have in the states. The entire podcast market in the US last year was only 314 million dollars, all from advertising. In China, estimates for the podcast market vary between three to five billion dollars. Now are the podcasters more talented in China? No. The business models for consuming podcasts are much better. You see, in podcasts, oftentimes the platforms will charge the end consumer, but you also have free podcasts as well. On the screen on the right, if there's a free podcast, I can choose to tip that podcaster. In this particular example, I can tip them anywhere between 15 cents to 20 dollars.

• 10:57Speaker 0

  And that money gets split between the platform and the creator. On the screen on the left, you can see this woman, she is selling a package of 30 podcasts for 17 so you can improve your voice. She has over 15 million listeners, resulting in millions of dollars of revenue. This new model means that all kinds of podcasters can make money regardless of their size of audience. And they're able to then invest in creating better podcasts, better content, and everyone wins. Podcasting in China is a very big business. Here I have photos of two Peking University professors. The one on the left retired because he made $8 million from podcasts in one year.

• 11:43Speaker 0

  He basically took a MOOC online course and put it into a podcasting format and sold it on these platforms. The picture on the right, this professor has over 300 lectures on finance, and she sells them packaged together for $30. She has over 175,000 customers, resulting in over $5 million in sales. So studying these platforms, these business models in China can give us ideas for how podcasting in the US can go beyond ads. Let's switch over to video streaming services. This is typically what I see when I open a YouTube video. An ad that has nothing to do with the video I wanted to look at, a display ad, and then minutes later, an interstitula.

• 12:29Speaker 0

  In China, the ads are a little bit smarter. This is an example from ICE, one of the larger video players in China. And with artificial intelligence and machine learning, this computer has figured out that this is a scene where a woman's putting on lipstick, so the ad is makeup related. Now, if this technology comes to the States, you can imagine how much more valuable product placement can be. But at the end of the day, it's still just an ad. Not that much better. So what else is China doing? A lot more. You can actually also take down coupons from local restaurants. You can enter giveaways. On the screen on the right, you can buy skins for your app.

• 13:15Speaker 0

  So all the buttons are replaced with the faces of characters from my favorite TV show. In the middle, you can buy a VIP membership that gives you exclusive access to events and coupons and discounts and giveaways. And how are these VIP memberships sold? ICHI has all kinds of premium content, movies they've either produced themselves or purchase rights to. And for all of those movies, you get to watch six minutes for free. And after six minutes, you can decide if you want to buy the membership to unlock the rest of the movie. Now I don't know about you, but watching six minutes of a film gives me a lot of information, far more information than watching a movie trailer.

• 14:03Speaker 0

  Again, it's an example of China giving users more information before asking them to commit to a purchase. Now, this is what the watch screen on IT looks like. There's live comments, I can share it to earn prizes, I can snap a screenshot, record a clip to share on social media, and then I can pay to upgrade the resolution, I can pay to upgrade the sound, and I can even top up my mobile data in case I'm worried that I don't have enough data to finish the show. For many shows or movies, you can also purchase merchandise while you're watching content. So on the example on the left, when you're watching this reality hit, the Rap of China, while it's still streaming on top, you can actually purchase beats headsets.

• 14:54Speaker 0

  Or when you're watching a movie, you can buy related merchandise, a t-shirt, without ever having to stop the film. There's also a social network component that lives inside I Chi, that lives inside this video app. Here I can look at any artist and see not just what TV shows and movies they're a part of, I can also see their social media posts from other platforms. I can see an events calendar to see where their next meet and greet is gonna be. I can join a fan chat, a group chat with all these other fans, and I can read celebrity news. There are all kinds of fan groups that live inside of ITE. And interestingly, this not just gives ITE details and insights on how to cast characters for the movies they produce, it is also responsible for increasing the number of times people open this app by 160%.

• 15:51Speaker 0

  And it increases the average watch time, the average daily watch time by over 24%. This is the IT revenue distribution for the first half of this year. And you can see memberships is growing very quickly and will actually soon outpace advertising as the biggest source of revenue for this company. And that's because ITE has 500 million monthly active users. 67 million of them are VIP paying members. ITES uses ads, but also tiered memberships, premium content, gamification, and all kinds of business models to create what you see here. Now let's finally take a look at the music industry. How is music different in China than the states?

• 16:36Speaker 0

  In the US, we're typically used to paying a monthly subscription model, or we listen to free music supported by ads. It's a pretty simple basic business model. I want to compare and contrast that with 10 cent music. On the left, you see a picture of Jay Chow, who is my favorite artist. Two years ago, Jay Chow released an album, a mini album called Bedtime Stories, sold for 20 Reming B around $3. And 10 Cent Music created this leaderboard that you see on the right that shows you how many times someone purchased this album and gifted it to friends. Now in this screen, you can see someone that has already bought the CD 400 times. And when you buy the album, say, if I bought it three times, it would tell me that I rank 3,913.

• 17:28Speaker 0

  So still a long way to go. But I have earned three raffle tickets for a drawing for a signed poster or a J Chow sleeping mask, which I would probably wear on any plane. What's important to understand is this platform takes average fans like me and turns them into super fans. And it takes super fans and it deepens their loyalty to their favorite music artists. Now that artist support doesn't end there. Similar to ICE on QQ Music, I can buy skins for my app. So on the left, you can see a Taylor Swiss skin where all the buttons are replaced with the letters from our first name. On the right, there's also a social network that lives inside of QQ Music, where artists of small, medium, large can put all kinds of original content behind the scenes content, especially powerful for small up-and-coming artists to share their stories, to connect with their fans.

• 18:29Speaker 0

  This kind of artist fan engagement support is not available in the Western music platforms. If you want to listen to live music, you can buy tickets to upcoming concerts and events. You can see a series of stream concerts that are coming up. You can RSVP to one, and it will be added to your calendar. In addition to listening to music, these platforms also allow users to make money. Think about being able to make money when you listen to music on Spotify. How does that work? Well, any user who loves music who has a fun personality can create an online radio station. And here they can talk to their users in between songs, add commentary, and users can send them tips and gifts.

• 19:17Speaker 0

  30% of those tips are kept by that broadcaster. 70% go back to the platform. Maybe you're not gifted in speaking, maybe you're gifted in singing. Well, you can do karaoke through WeSync, which is another app that lives inside the 10 cent music family. And here the singer similarly takes around 30% of those tips, as money they can take back home in their pockets. You see, singing and music in China is a fun, a social, a lifestyle experience rather than a solo consumption experience. 10cent is also taking its music business offline. This year they're selling microphones, they're selling headsets. They're also creating hundreds of these mini karaoke booths and putting them in shopping malls across China.

• 20:07Speaker 0

  These mini karaoke booths come equipped. With curtains, with microphones, with stools, even with air conditioning. And after you sing a song with your friend, a recording of that song gets sent straight to your phone so you can share it. Again, music moves from just a solo experience where you're listening to your headset to a group experience that can be social. Tencent's music revenue distribution looks something like this. Now remember those radio tips and those music karaoke tips, they add up to over 70% of the company's revenue. Because Tencent has leaderboards for music. There's gamification, there's events, there's social discovery.

• 20:53Speaker 0

  It's changing music from a consumption product to a lifestyle product. So I've talked through a number of examples of how content consumption and business models are very different in China versus the States. Let's take a look at the US to see how things are starting to shift in the same direction. My favorite example is Amazon. Now, Amazon this past August announced that they were going to have free ad supportive video service. And it dawned on me that this would be tremendously, insanely valuable for them. Why? Because brands can now buy commercials targeted against customers who bought from their competitors. It's like Coke being able to buy ads and commercials for people who only bought Pepsi.

• 21:43Speaker 0

  Now, in the world today, when we're buying ads, we can already target people by profession, by age, all kinds of demographic filters, even things they like. But being able to target someone based off what they actually spent money on, that's really powerful. YouTube is also finding new ways to diversify their revenue streams, thinking of how they can go beyond ads, adding things like memberships or doing more in ticketing. Instagram, Snap, similarly, are trying to make their forays into commerce. Now it's unclear if they're gonna be able to get into payments in a successful way, but they have to try. Instagram is making shoppable stories, and there's a shopping channel and their Explore tab.

• 22:32Speaker 0

  And lastly, our portfolio company, Buzzfeed, is also diversifying their revenue stream. Buzzfeed is historically thought of as a media business that delivers you news, news content, and most of their money comes from advertising. But now they're starting to get into new areas, like Tasty, who you'll hear from later today. Tasty is partnering with Walmart to sell actual physical kitchen goods. Why is that? It's because the CEO founder, Jonah Paretti, he gets it. You see, Jonah said we've outgrown the ability to build our business on essentially a single, very distinct revenue stream. He also predicted that in 2019, half of their revenue would come from outside of advertising.

• 23:20Speaker 0

  Jonah knows that his brands, BuzzFeed and Tasty can go beyond ads. This idea of going beyond ads and just simple one-time transactions can be applied, I believe, to all kinds of sectors. Take ride sharing or self-driving cars. Can you imagine if your ride was subsidized because you watched some ads? Or think about e-commerce. How different would it be if we incorporated more live streaming, influencer reviews, limited time promotions? How much more fun would it be to shop? Or think about healthcare and nutrition. Why aren't we adding more social, more gamification to align our incentives? How much more fun could all products and services be when we branch beyond a singular business model?

• 24:10Speaker 0

  I also start to question will the current set of internet companies, the Fang, the untouchable companies, be able to make these business model leaps. A lot of us will say that these companies are invincible, but given history, we know that it's very difficult for large companies to change their business models. Revenue is oftentimes thought of as a result, a result of product brilliance. But I believe that now having studied China, I've seen how expanding your sources of revenue versus just growing a singular revenue line is actually a lens to drive product thinking. Because it pushes us to think beyond what we know, and it pushes us to build the infrastructure required to go after new opportunities.

• 25:00Speaker 0

  After all, revenue is simply a proxy for how well you are serving your customers. And as you diversify and test new experiments to find new revenue streams, you are simply honing, honing in your ability to give customers what they want, how they want it. Business models is a product strategy. And I hope I've given you ideas and inspiration today for what's possible when advertising and transactions collide.