How will social media escalate revenue if users ignore their product?

In my last article, I looked at how social media stocks like Facebook, LinkedIn, and Twitter are overvalued unless these companies manage to grow their revenues several times over. Given that their business model is primarily based on selling online ads, they must have sold a lot more ads!

To achieve this goal, they exploit a uncomplicated but misleading advertisement that is starting to lose its impact: their ads are better because they are targeted to the individual tastes and preferences of Internet users. If this advertisement were true, the effectiveness of social media ads would be much higher than other media, such as television or newspapers.

But when we dig into the actual effectiveness of these ads, a very different picture emerges. Faced with this awareness, these companies are increasingly selling our personal data in recent and original ways to support their high valuations and turn a profit.

The basic metrics for evaluating the effectiveness of online advertising are the number of ad impressions, the number of ad clicks (clicks) and the number of sales/calls/leads etc. resulting from those clicks (conversions).

Click-through rate (CTR) is a proxy measure that can be used to evaluate the effectiveness of online advertising. This measure shows the number of clicks compared to the number of impressions, expressed as a percentage.

Banner Ads: The Foundation of Online Advertising

Banner ads are the graphical ads you typically see at the top or side of your browser page. To assess their effectiveness over time, I collected data on click-through rates from DoubleClick.

In 1996, click-through rates averaged about 7%, or 7 out of 100 people, clicked on them. Today, the norm is 0.15%, or just 1.5 out of 1,000.

Why has the click-through rate dropped?

Given that click-through rate is the number of clicks divided by the number of impressions, we can conclude that the percentage drop occurred for one of two reasons:

1. Fewer and fewer people see ads (reducing the denominator) and at the same time, fewer and fewer people click on them.

2. More people are seeing the ads (which increases the denominator), and while the overall number of clicks is increasing, the escalate in clicks is not keeping up with the escalate in the number of impressions.

According to ITU statistics, from 2008 to 2013 the number of Internet users increased in all countries in our sample. Whichever way we reduce the numbers, the number of people viewing advertisements must have increased during this period, which eliminates explanation #1.

This leaves us with explanation #2: more and more people are seeing online ads, but fewer and fewer are clicking on them, or as economists might call it, we are dealing with diminishing marginal efficiency.

Banner ads are a thing of the past…now we have social media!

Facebook, Twitter, and LinkedIn tell potential customers that their ads are even better than banner ads because they are targeted to individual users based on a immense set of intimate personal data. How well does that claim hold up?

Surprisingly, for a company that is raking in advertising dollars by the handfulFacebook doesn’t publish its average click-through rates, so I had to gather some more data from three providers: Internet Trends, TBG Digital AND Nanigany.

The effectiveness of Facebook ads in 2009-2012 was on average 0.08%, which is lower than that of banner ads. While numbers While this figure peaked at 0.2% between 2012 and 2013, in absolute terms this represents a compact escalate of around 1 in 500 people clicking on ads.

The Next Generation of Mobile, Video and Native Advertising

The massive recent promise in online advertising is the shift to mobile. Mobile ads continue to attract higher click-through rate than their desktop counterparts. The latest generation of mobile and desktop video ads achieve click-through rates of 11.8% and 4.25%, respectively, according to report by online video ad provider Unruly Media. Along with mobile ads are “native” ads, which involve disguising or hiding ads as content. The click-through rate for these ads is currently around 1.37%.

These results are impressive at first glance. But remember that banner ads, in their heyday in the behind schedule 90s, had a 7% click-through rate. Also consider that video ads are displayed on top of the content, forcing users to click on the ads to get rid of them (very different from banners that innocently sit on the page). That click means forced interaction—an annoyance. Native ads essentially trick users into clicking on them by disguising ads as content.

In the 90s and 2000s, users gradually stopped clicking on banner ads as they realized they weren’t interested in them. The same is likely true for video and native ads. Once users get into the game, they stop clicking and start ignoring ads again.

If our data can’t be used for ad targeting, what else can it be used for?

Investors and marketing executives have poured billions of dollars into social networks, believing that one day online advertising will be so sophisticated that Internet users will be unable to resist the products and services offered. They will increasingly want to see tough evidence of a return on that investment. So far, there is no such evidence.

This is a earnest dilemma for social networks. They need to escalate their profits with a product that is becoming increasingly ineffective. This realization is already taking us in recent and disturbing directions. Instead of charging users to access their platforms, social networks are finding alternative ways to repackage their users’ personal data and sell it. For example, Facebook is now extracts user data that media organizations enable the analysis of sentiment on political issues.

In search of a payback, the social media experience—and therefore immense swaths of the Internet—is rapidly becoming less open and more invasive of individual privacy. Coming changes to the business models of some of the world’s most powerful companies are set to have enormous political and social implications. It will become increasingly basic to ignore the advertising we are exposed to online, but increasingly complex to ignore how the dominant, user-free business model of the Internet has turned our personal data into a commodity to be bought and sold beyond our control.

Strenuous Evidence is a series of articles in which scientists exploit scientific evidence to solve the most complex public policy questions.