How Ads Are Ruining Everything

Ethan
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THE STATE OF FREEMIUM

Have you noticed that the YouTube experience has been getting worse and worse for free users? This has been a trend since basically the beginning of YouTube but 2023 has been especially pivotal. It seems that every month, Google is trying a new strategy to maximize how many ads viewers see. For example, in May, YouTube started blocking ad block, something that they had tolerated for YouTube’s entire history. 

YouTube has even gone as far as disabling video playback for people using ad block, and that’s just the most obvious example. YouTube has also started experimenting with 30-second unskippable ads, and they’re even moving to take some ad control away from creators, presumably to optimize ad impressions and maximize revenue. 

YouTube has also started experimenting with 30-second unskippable ads


And it’s not just YouTube either, it seems that every free service is undergoing a similar evolution. Discord’s free stream quality, for example, has fallen substantially over the past several years, and don’t even get me started on free mobile games which are basically unplayable at this point. The funny thing is that you can even argue the same thing about paid services as well. 

Netflix’s lowest tier, for example, now has ads. I don’t blame these platforms and I can’t speak for everyone, but most of these free platforms have offered tremendous value over the years whether it's entertainment, education, or social connection. So, I think it’s completely fair for these platforms to want to earn revenue for providing this much value. 

But, it does make me question the viability of freemium. Of course, freemium is a great avenue to break barriers and make services more accessible but should freemium really be the default mode of monetization because it seems that that just leads to the same dead end every time. 

These platforms eventually get worse and worse for free users until users either leave or end up paying. So, join me as we take a look back at the tech industries’ obsession with freemium and why the days of freemium may finally be coming to an end. 



Also Read: Why AI Will Never Replace Our Jobs: The Human Edge in the Age of Automation


THE FREEMIUM DEBUT

To understand how freemium became so popular, The Freemium Debut we first have to take a look back at what convinced the tech industry about freemium in the first place. At first glance, you might be inclined to think that the culprit is Google or Facebook or the slew of VC-backed money-burning startups, but the culprit is none other than Microsoft. I’m of course talking about Windows and Microsoft Office. 

Now this might be a bit confusing as neither Windows nor Office was ever free but this is how freemium used to work. The official software itself cost money, but it was relatively easy to get the software for free if you wanted to. And Bill Gates was well aware of this. In fact, he openly admitted it and even sort of encouraged it. 

Eventually, Microsoft shifted its focus to monetizing users instead of growing users. This was primarily by getting computer manufacturers as well as schools and employers to pay for the software and this turned out to be a massive success. Microsoft is now the second largest company in the world and sometimes even larger than Apple. 

Companies like Google and Facebook as well as a bunch of VCs saw this and looked to replicate this formula in a bunch of other niches but there was one crucial difference between what Microsoft did and what all of these other companies did. With Microsoft, even though users never feel the pain of directly paying, they are indeed directly paying. 

With new laptops and computers, for example, the price of the software is directly built into the cost of the machine itself. With schools, the cost of the software is directly coming from tuition or local taxes. And with companies, the cost of the software is directly coming from the bottom line which just means that all employees will receive slightly smaller salaries, lower bonuses, you get the idea. 

The bottom line is that with Windows and Office, while Microsoft has done a great job of masking the cost, it’s still the end user that’s paying for the software. With new-age companies though, that’s not the case which brings us to the first major pitfall of freemium: the friction of monetization. 

The reason that YouTube’s monetization efforts feel so significant is that there’s so much friction when it comes to indirectly monetizing our use of the platform. For example, let’s say that YouTube on average earns $4 per 1000 views and that the average view is worth 5 minutes of watch time. If you watch 1 hour of YouTube per day, you’re averaging about 12 views per day or 4380 views per year. All of that translates to just $17.52 worth of revenue for YouTube. 

Ads Are Ruining Everything

Put another way, 365 hours of watch time is not even worth 18 bucks. For perspective, subscribing to YouTube Premium from an iPhone costs more per month. Aka, YouTube would have to increase ads by a factor of 12 to make casual users as lucrative as paid users due to all the friction. Instead of directly earning revenue from users, YouTube is having to wait for users to spend money on advertiser's products. 

Maybe 10% of this revenue gets put back into marketing out of which 10% is actually spent on YouTube marketing. From there, YouTube has to give about 50% to creators meaning that at the end of the day, YouTube is only left with max 0.5% of the total revenue that their free users generate. Obviously, this is not all that great of a monetization strategy but despite that, the entire industry would jump in. 


Also Read: Story of Twilio and How Jeff Lawson Made $72 Billion Sending OTPs


FREEMIUM RULES

Whenever a given business works, other entrepreneurs Freemium Rules, and VCs naturally try to reverse engineer what made the business so successful. With companies like Microsoft, Google, and Facebook, the answer seemed obvious. It was obviously the users that made these businesses so successful. In reality, there was much more to it than just that. 

For example, a solid strategy to monetize these users is also equally important but many businesses and investors would solely fixate on just the first half of the equation: users. If they could just dominate a given industry in terms of market share, they could worry about “collecting” later. One of the primary reasons that we got into this vicious cycle of users over profits is due to low-interest rates. 

This strategy of users over profits largely worked for much of the 2010s. As long as companies were able to show phenomenal user growth month over month and year over year, their valuations would keep increasing, they would be able to raise more money and everybody would be happy. The only problem with this strategy though is that if you pursue it for long enough, you eventually just run out of users. 

Everyone who could possibly use your app or service is already using it. For most tech companies, this happened right after Covid hit. With everyone stuck at home, these companies experienced a final surge before achieving market saturation. And now all of a sudden, their abysmal revenue per user actually matters. Likely the best example of this is WhatsApp. 

There’s no question that WhatsApp is virtually ubiquitous with over 2 billion active users. But, the same cannot be said about their revenue. In fact, WhatsApp doesn’t even generate a billion dollars in annual revenue despite controlling a quarter of the world's population. 

And a lot of this just has to do with the fact that there is no straightforward way to monetize a messaging application. And this brings us to the next major pitfall of freemium which is that it trains users to expect these services for free. 

WhatsApp used to be free to use till yesterday, so why can’t it just keep being free? YouTube used to allow AdBlock till yesterday, so why can’t they just keep allowing it? The answer is that doing so is not only expensive but quite unprofitable, and the only reason these companies put up with it for so long is to hopefully convince you that the given platform is of value. 

Most users are aware of this but at the same time, they don’t care either and I mean why should they? It’s not their responsibility to worry about whether Google or Meta is making money. All that matters to them is how much value they’re getting from a platform or service and when that perceived value goes down due to more ads or higher subscription fees, they’re naturally gonna be upset. 

If anything, it’s these companies’ fault for setting the expectation that these services are free. They went along with it because it was beneficial in the short term but the same cannot be said about the long term and that brings us to the current crisis that much of tech is facing: the need to monetize. 


Also Read: Why People Are Switching From Android to iOS


THE RACE TO MONETIZE

The bottom line is that the party is over. Whether you’re a startup that has relied on VC funding or you’re a tech giant like Google, the days of putting user growth over profits are behind us. These companies are moving to monetize as quickly as possible and they’re having to face all of the issues that they had previously ignored like the friction of indirectly monetizing users and users’ unwillingness to suddenly pay for things that they have been using for free for literally decades. 

And all of this is very much painting these companies as the villain. Ah, it’s so annoying that Netflix is raising prices and cracking down on password sharing. It’s so annoying that YouTube is blocking AdBlock and stuffing in more ads, and so on and so forth. 

These companies can of course continue to experiment with more creative modes of monetization but honestly, the better solution is probably just to ditch the freemium model. The reality is that for many of these platforms to truly be viable with free users, the user experience would have to be degraded by such a ridiculous amount that it makes no sense. 

Take YouTube for example. Let’s say YouTube wants to earn just $5 per user per month. I think most of you would agree that that’s a reasonable amount. For YouTube to achieve this with the average user who watches let’s say 1 hour of YouTube per day, YouTube would have to show about 10 minutes worth of ads every hour and that’s assuming that they earn $4 per 1000 views. 

In most niches, that’s not the case meaning that YouTube would have to show even more ads like 15 to 20 minutes per hour. I don’t know about you but that doesn’t seem all that enticing to me and I suspect that these companies are coming to the exact same realization. To earn any sort of meaningful revenue from free users, they would basically have to destroy the platform with ads or data collection or payment for order flow or whatever new age mode of monetization they’re using. 

As such, I suspect that the main reason that YouTube is cracking down so hard on adblock and pushing ads is not to better monetize free users but rather to simply push free users to become paid users as I think that this will become the new norm. The new norm will not be freemium, the new norm will be paid. 

These platforms will of course keep around their free versions but I suspect that these will be more like lite versions that are watered down and noticeably worse than the paid version. This would obviously be a massive shift from what we’ve been used to over the past 2 decades but hopefully, it’ll be for the better. 

With users directly paying for these platforms, hopefully, we can move past more shady modes of monetization like data collection and payment for order flow and things of that nature. Or who knows, maybe companies will just end up doing both and things get worse than ever. Are you a fan of freemium or would you rather pay for your services? Comment that down below.


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