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User Engagement Drives Facebook’s Ad Pricing

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User engagement important to Facebook

In the previous parts of this series, we discussed how activities of news journalists and Millennials drive user engagement on Facebook. User engagement is an important parameter for Internet companies that helps drive ad pricing. Increasing user engagement has helped Facebook (FB) become the highest-reach application on smartphones in the United States.

According to a report from comScore and as the chart below shows, Facebook’s reach on smartphones in the United States is 74%, while Google (GOOGL) properties such as Google Play, YouTube, and Google Search come in next. Pandora (P) found itself the fifth-ranked application in terms of smartphone reach.

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Ad price growth at Facebook

During the fourth quarter, Facebook’s (FB) average price per ad grew at a year-over-year rate of 335%. By comparison, Twitter (TWTR) saw its advertising revenue per thousand timeline views increase by 60% year-over-year to $2.37 in 4Q14.

Increasing user engagement is one reason Facebook’s ad pricing has been increasing. Facebook’s average price per ad has also been increasing because Facebook redesigned its right-hand column ads. This offered more value to marketers and resulted in higher effective prices. Right-hand column ads are consistent with news feed ads, but Facebook’s right-hand ads are larger in size and fewer in number. For more on this topic, read Market Realist’s article Why new right-hand column design benefits Facebook.

Facebook’s advertisers get better ROI with improved ad targeting

Facebook is focusing on fewer ads to drive user engagement. This eventually leads to better return on investment (or ROI) for Facebook’s advertisers and results in better ad pricing. Facebook’s management said in the fourth quarter earnings call that the company is seeing a big opportunity and will continue to drive engagement numbers by placing right-hand column ads in front of the right people.

So far, Facebook believes it has been successful in driving organic engagement growth.

For diversified exposure to Google and Facebook, investors can consider ETFs such as the iShares Core S&P 500 ETF (IYW). Facebook and Google together make up 14% of the IYW portfolio.

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