Going forward, we expect to see profound consolidation of the independent ad tech sector. Factors driving this consolidation include high fragmentation, more stringent standards, the need to keep up with the global gorillas of Google and Facebook, increasing funding challenges, and strategic interest from other sectors such as ad agencies, consultants, IT groups and Chinese investors.

 

The global advertising market

Digital advertising is immense: in 2016, it accounted for $195 billion. That’s 35% of the total global advertising market. And it shows no sign of reaching a plateau (it continues to deliver vigorous structural growth of 15% a year, although the bulk of this growth is sucked up by Google and Facebook). Looking ahead, we anticipate continued double digit growth rates for digital, partly due to the fact that digital’s extra functionality is likely to keep evolving and improving.

 

The giants: Facebook and Google

Not content with accounting for the lion’s share of the digital advertising market, these two behemoths continue to up their respective games - the two platforms accounted for an estimated 90% of total US digital advertising growth in 2016. With their unparalleled global consumer reach, extensive consumer data, financial resources and pricing power, they enjoy substantial structural advantages in digital advertising. Nevertheless, we see some substantial constraints which are likely to stop them absorbing the whole of the sector.

 

Winners and losers in the ad tech world

Ad tech exists in a complex and ever-changing environment, but we are now experiencing a polarization of ad tech groups into winners and losers. For instance, there’s an increasing demand for ad tech organisations to provide end‐to‐end solutions, supported by scale, trust and data capabilities. Evolution is paramount.

While there has been share price weakness in ad tech, recently the share prices of some independents have started to perform again, exacerbating the gap between so-called winners and losers. Needless to say, Google and Facebook remain the gold standards for ad tech valuation and, yes, independent ad tech stocks are riskier. But the indie winners have the potential to deliver strong growth, aided by M&A and a structural improvement in margins.

 

M&A

Powerful consolidation forces are now at work in the ad tech sector, partly thanks to a drying up of funding from private equity. In addition, rising numbers of industry participants want to own ad tech. Therefore, we predict a period of violent M&A for the sector, perhaps down to as few as five to ten full service groups.

 

Ad tech ecosystems: Google and Facebook

A staggering 4.5 billion searches a day are conducted on Google (now under the auspices of parent company Alphabet), putting the search engine way ahead of its competitors with around 80% market share.

While Facebook came on the ad tech scene much later than Google, the social media site has quickly established itself as a rival. With 1.9 billion monthly users (as of December 2016), Facebook’s core asset is its enormous reach. Via acquisition, it has also added other key social media assets including Instagram and WhatsApp.

 

Our view

We see RTHM as a potential winner in this space, with a strong organic growth opportunity (following a complete rebuild of its tech stack) plus a strong opportunity as a consolidator. Current valuation (0.9x revenues) suggests significant potential upside if RTHM can deliver on both of these opportunities.