Would You View Ads for Cheaper Phone Service? AT&T Bets Yes

AT&T (NYSE: T) CEO John Stankey recently told Reuters that the telecom giant could launch ad-subsidized wireless plans within a year. Stankey claimed a "segment" of its customer base would likely accept some advertising on their phones "for a $5 or $10 reduction" in their monthly bills.

Stankey also revealed that AT&T was testing "unified customer identifiers", which would allow it to sell targeted ads across its wireless network. But will these new strategies rejuvenate AT&T's sluggish wireless business and strengthen its smaller advertising business?

A woman uses a smartphone.

Image source: Getty Images.

Understanding AT&T's ad business

Prior to 2018, AT&T's advertising revenue mainly came from ads on its U-verse and DirecTV pay TV platforms. But in mid-2018, AT&T bought AppNexus, a cloud-based platform that delivered programmatic ads.

It rebranded AppNexus as Xandr, a platform that crunched the data from AT&T's base of 170 million customers to sell targeted digital and video ads. On its own, Xandr's revenue rose 27% to $1.74 billion in 2018, and grew 16% to $2.02 billion in 2019.

AT&T also bought Time Warner in 2018 and rebranded the media giant as WarnerMedia. That acquisition significantly increased its ad revenue via Warner's Turner cable networks, and AT&T folded Xandr into WarnerMedia earlier this year. AT&T also acquired the digital media company Otter Media in 2018, and folded it into Warner Bros. the following year.

Last year, Turner's advertising revenue nearly doubled to $4.57 billion, and revenue from its Entertainment segment (including ads on its pay TV platforms) grew 7% to $1.96 billion. The combination of those two segments with Xandr, as well as deductions from corporate eliminations, netted $6.99 billion in total advertising revenue for AT&T last year, up 58% from 2018.

However, the advertising business only accounted for 4% of AT&T's total revenue. At the end of 2019, AT&T expected its ad revenue to continue rising with higher spending from the NCAA Final Four and Championship games, as well as the presidential election in November.

Unfortunately, the COVID-19 crisis halted live sporting events, business closures throttled ad purchases, and the pandemic shut down WarnerMedia's production of new content. AT&T's total advertising revenue declined 13% year-over-year to $1.5 billion in the first quarter, and tumbled another 33% year-over-year to $1.2 billion in the second quarter.

Seeking out new strategies, but sending mixed messages

AT&T's advertising business was once its fastest-growing unit, and a rare bright spot compared to its slow-growth wireless business and struggling pay TV business -- which continues to lose subscribers to cord cutters and rival streaming media platforms.

Various images scattered across a digital screen.

Image source: Getty Images.

That slowdown is forcing AT&T to seek new ways to expand its advertising business. Xandr signed new TV ad deals with Disney and AMC Networks in March, and AT&T recently announced it will launch a cheaper ad-supported version of its streaming platform, HBO Max, which usually costs $14.99 a month, next spring.

Stankey told Reuters the ad-supported HBO Max would serve as a new "foundational element" for its advertising business and supply ads for its ad-supported wireless business. Stankey seems to believe AT&T's subscribers will allow ads on their phones for a monthly discount, but previous ad-supported phones and services from Amazon, Virgin Mobile USA, and Sprint's Boost Mobile all flopped. Moreover, AT&T's plan to track its wireless customers with "unique" identifiers for ads could spark serious privacy and security concerns.

Stankey seems committed to expanding AT&T's ad business, but a Wall Street Journal report in early September claimed the company was exploring a sale of Xandr to streamline its business and reduce its debt. AT&T never confirmed those reports, but the rumors send mixed messages about Stankey's commitment to its ad business.

The key takeaways

AT&T's recent announcements suggest it's still committed to expanding its advertising ecosystem as the COVID-19 crisis throttles its growth. But as an AT&T investor, I doubt a significant number of subscribers will sign up for its ad-subsidized wireless plans.

The reason is simple: Today's consumers generally associate ads with free services and paid subscriptions with ad-free experiences. Stankey's plan might work if AT&T offered a free ad-supported wireless tier, but it's doubtful a $5 to $10 discount will attract much attention.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Leo Sun owns shares of Amazon, AT&T, and Walt Disney. The Motley Fool owns shares of and recommends Amazon and Walt Disney. The Motley Fool recommends AMC Networks and recommends the following options: long January 2021 $60 calls on Walt Disney, short January 2022 $1940 calls on Amazon, long January 2022 $1920 calls on Amazon, and short October 2020 $125 calls on Walt Disney. The Motley Fool has a disclosure policy.

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