Radio Advertising Market Research Radio Advertising Market Research Assessment of the constraints on the price of direct and indirect radio advertising Publication date: 19 October 2006 Radio Advertising Market Research Contents Section Page 1 Executive Summary 1 2 Introduction 3 3 Background to radio advertising 6 4 Trading radio advertising 11 5 Direct and indirect radio advertising market definition 17 6 Method of analysis 20 7 Competitive constraints on direct radio advertising 27 8 Competitive constraints on indirect radio advertising 49 Annex Page 1 Inclusion of additional gain in revenue from partial switchers to other media 68 2 Different values for the average budgets 70 3 Different number of partial and full switchers 72 4 Magnitude of price increase imposed 76 5 Inclusion of cost savings from reduced royalty and licence fee payments 78 6 Inclusion of cost savings from reduced advertising sales activity 80 7 Profitability analysis 85 8 Calculation of cost savings from reduced indirect radio advertising sales activity 92 9 Comparison of spend profiles between survey switchers and full survey sample for sample of direct radio advertisers 95 Market Research Report - Harris Interactive (published separately) Market Research Report - Human Capital (published separately) Radio Advertising Market Research Section 1 1 Executive Summary 1.1 Ofcom is the independent regulator and competition authority for the UK communications industries. Ofcom undertook this research to develop its understanding of the radio advertising industry and the competitive constraints faced by suppliers of radio advertising airtime. In particular Ofcom was interested in understanding the extent to which pricing in radio advertising markets appears to be affected by other media. 1.2 The Competition Commission last examined the provision of radio advertising in May 2003. Since this time the radio and advertising industry has developed in a number of ways which may have affected the competitive landscape. These developments include: • a decline in commercial radio advertising revenue; • the BBC’s increased market share of radio listening; • the growth in DAB digital radio penetration; • online and outdoor advertising growth; and • a decline in press circulation. This research allows Ofcom to examine the radio advertising industry in the light of these changes. 1.3 Ofcom conducted a survey based programme of qualitative and quantitative research. The research allowed Ofcom to analyse which media appear to impose the strongest competitive constraint on the pricing of radio advertising. In addition, it outlines the drivers of demand for radio advertising, the decision-making process for media purchasing, advertisers’ attitudes towards radio in the context of other media options, and the impact on the demand for radio advertising following an increase in the relative price of radio advertising. 1.4 In its submissions to the OFT in relation to recent radio mergers, Ofcom has defined two separate radio advertising markets; direct and indirect. • Direct radio advertising occurs where the advertiser purchases airtime by approaching the sales teams at individual radio stations separately. • Indirect radio advertising occurs where an advertiser uses a media buying agency to manage its purchase of advertising on radio stations via a radio group’s advertising sales house. In this research the constraints faced by suppliers of direct radio advertising and indirect radio advertising have been assessed separately. 1.5 Findings from the analysis of direct radio advertising include: • The pricing of direct radio advertising appears to be constrained by press advertising. As a result, a hypothetical monopoly supplier of direct radio 1 Radio Advertising Market Definition Research advertising would not find it profitable to raise prices by 5-10% for a sustained period of time. This result appears to be robust to a range of sensitivity analyses. • Evidence suggests that direct radio advertisers perceive radio and press advertising as interchangeable. 1.6 Findings from the analysis of indirect radio advertising include: • Television, online and press advertising pose the strongest competitive constraints on the pricing of indirect radio advertising. • An increase in the price of indirect radio advertising would result in media buying agencies moving budgets away from radio to a range of alternative media. These alternative media taken together appear to collectively constrain the pricing of indirect radio advertising. As a result, a hypothetical monopoly supplier of indirect radio advertising would not find it profitable to raise prices by 5-10% for a sustained period of time. • Media buying agencies appear to have a degree of countervailing buyer power, and therefore, would be likely to try and negotiate down any attempted increase in the price of indirect radio advertising. 1.7 The conclusions of this study are intended to act as a starting point for Ofcom in cases where an understanding of the radio advertising industry and the competitive constraints faced by radio advertising is required. In the context of a complaint, dispute, market review or in providing submissions to the OFT in relation to mergers the precise scope of the relevant product and geographic market would need to be assessed based on the specific circumstances and facts of the particular case in question. 2 Radio Advertising Market Research Section 2 2 Introduction 2.1 Ofcom is the sectoral regulatory authority for the radio industry. As sectoral regulator, Ofcom has a number of competition related functions and duties: 2.1.1 Ofcom has concurrent powers with the OFT under the Competition Act 1998 (the "Competition Act") to deal with anti-competitive agreements and conduct by applying Article 81 and Article 82 of the EC Treaty and the Chapter I and Chapter II prohibitions of the Competition Act; 2.1.2 Ofcom also has powers to make a market investigation reference to the Competition Commission where it has reasonable grounds for suspecting that a feature or combination of features of the market in the UK prevents, restricts or distorts competition; 2.1.3 In addition, Ofcom has powers to use conditions in various licences under the Broadcasting Act 1990 and 1996 (the "Broadcasting Acts") to ensure fair and effective competition in the provision of licensed services and connected services; 2.1.4 More generally, Ofcom has a number of duties under the Communications Act 2003. It is Ofcom's duty to further the interests of consumers in relevant markets where appropriate by promoting competition, and to have regard in carrying out its duties to a number of elements as relevant in the circumstances, including the desirability of promoting competition in the relevant markets; and 2.1.5 Although the OFT has responsibility for merger control in the UK, Ofcom may also be asked by the OFT to provide it with Ofcom’s views on a merger or proposed merger in areas where Ofcom has sector specific knowledge. 2.2 It is important for Ofcom to have a strong evidence base for all areas of its remit. Hence Ofcom has undertaken this study in order to allow it to develop a robust, evidence-based understanding on how purchasing decisions regarding advertising in radio are made, what factors influence that decision and the extent to which pricing in radio advertising markets appears to be constrained by other media. 2.3 In order to understand these issues, Ofcom undertook a detailed, survey-based programme of qualitative and quantitative research.1 The research sought to understand the drivers of demand for radio, the media purchase decision-making process, the attitudes towards radio in the context of other media, and the extent to 1 In the absence of available market data on pricing and switching, the analysis has been conducted using evidence from a market research survey. The SSNIP (small but significant non-transitory increase in price) test methodology adopted by Ofcom necessitated asking respondents what their reactions would be to a hypothetical industry-wide price increase. Survey responses given to hypothetical questions should be treated with caution and the methodological limitations of Ofcom’s approach are set out in section 7.9. The results are presented acknowledging this fact. The research also measured attitudes and behaviours of radio advertising purchasers, which appear to be consistent with responses given to the SSNIP test questions. In conducting analysis in the context of a specific case, Ofcom would ideally where possible seek to use available information on actual switching behaviour alongside any survey results. 3 Radio Advertising Market Definition Research which other media constrain the price of radio advertising, including how advertisers and media buyers (on behalf of their advertising clients) would react to an increase in the relative price of radio advertising. The research gathered the data required to allow Ofcom to analyse what media appear to impose the strongest competitive constraint on the pricing of radio.2 2.4 The provision of radio advertising was last examined by the Competition Commission in May 2003 in the context of the proposed merger between Scottish Radio Holdings plc, GWR Group plc and Galaxy Radio Wales and the West Ltd3 and more recently by the OFT in the context of the proposed merger between Capital Radio plc and GWR Group plc4 in December 2004 and the acquisition by Emap plc of Scottish Radio Holdings plc5 in August 2005. Ofcom has taken the opportunity to undertake this project outside the context and associated statutory time limits of a merger investigation, enabling Ofcom to conduct its research and analysis over a longer timeframe. 2.5 The radio advertising industry in the UK has undergone a number of developments since the Competition Commission last examined the provision of radio advertising in May 2003 which may have contributed to a change in the competitive landscape. Some of the key factors include, but are not limited to: 2.5.1 the increasing listening share of the BBC relative to the commercial radio sector; 2.5.2 a decline in commercial radio advertising revenue; 2.5.3 the increasing development and penetration of DAB digital radio; 2.5.4 the growth in online and outdoor advertising; and 2.5.5 a decline in press circulation. 2.6 The conclusions contained in this report are intended to constitute Ofcom’s starting point in cases where an understanding of the competitive constraints faced by radio advertising is required - whether in the context of a complaint, dispute, market review or in providing submissions to the OFT in relation to mergers. The conclusions do not propose to define the boundaries of the relevant product market. The precise scope of the relevant product market for direct and indirect radio advertising would need to be assessed based on the specific facts and circumstances of the particular case being examined. 2 We have analysed the constraint imposed on the pricing on radio by other media by applying the hypothetical monopolist test. This test is a useful economic tool which considers whether a hypothetical monopolist supplier of the product or group of products in question (in the present case radio advertising airtime) would find it profitable to raise prices by a small but significant proportion for a sustained period of time. If this course of action is shown to be unprofitable for the hypothetical monopolist, this suggests that the product or group of products in question place a competitive constraint on the price of radio advertising airtime. This test is also known as the SSNIP test (small but significant non-transitory increase in price). This is further explained in section 5.1. 3 The Competition commission report can be found at: http://www.competition- commission.org.uk/rep_pub/reports/2003/479radio.htm 4 The OFT decision can be found at: http://www.oft.gov.uk/NR/rdonlyres/5BCB63D8-3F5F-47AD- B5BE-63834E977AFC/0/capital.pdf 5 The OFT decision can be found at: http://www.oft.gov.uk/NR/rdonlyres/0A5349EE-0001-454A-860F- C4E03326F0F9/0/Emap.pdf and Ofcom’s statutory assessments can be found at: http://www.ofcom.org.uk/media/news/2005/08/nr_20050808 4 Radio Advertising Market Research 2.7 This report does not assess the constraints faced by suppliers of radio advertising in one area from suppliers of radio advertising and other forms of media in different geographic areas. The constraints faced by suppliers of radio advertising from suppliers of radio advertising in other areas and from alternative media may vary across the country and across regions. This report does not attempt to reach a view on the scope of the relevant geographic market. 2.8 A view on the product and geographic scope of the relevant market will, of course, need to be formed on a case by case basis by reference to the specific facts or circumstances of the particular case at hand. 2.9 Throughout this report a distinction is made between the two distinct methods through which radio advertising is sold: direct (or local) radio advertising, and indirect (or national) radio advertising. Direct advertising refers to the situation where the advertiser purchases airtime by approaching the sales team at each individual station, separately station by station. Indirect advertising refers to the situation where an advertiser employs the services of a media buying agency to manage its purchases of advertising on individual stations or clusters of stations, purchasing this airtime through a single point of sale (the radio group’s advertising sales house). 2.10 The rest of this report is structured as follows: 2.10.1 Section 3 provides a background description of radio advertising; 2.10.2 Section 4 describes how trading in radio advertising takes place; 2.10.3 Section 5 sets out the arguments why direct and indirect radio advertising are in separate relevant product markets; 2.10.4 Section 6 describes Ofcom’s method of analysis; 2.10.5 Section 7 sets out Ofcom’s approach and findings from the quantitative ‘hypothetical monopolist’ test analysis in respect of direct radio advertising, combined with the findings from other quantitative and qualitative survey evidence; and 2.10.6 Section 9 presents the same analysis as Section 8 but in relation to indirect radio advertising. 2.10.7 The appendices contain some of the detail of Ofcom’s hypothetical monopolist test analysis conducted for direct and indirect radio advertising. 2.10.8 The market research reports based on the surveys conducted by independent market research consultancies are included as supporting documents. Supporting document volume 1 contains Harris Interactive’s market research report on direct and indirect radio advertising. Supporting document volume 2 contains Human Capital’s market research report of indirect advertising. 5 Radio Advertising Market Definition Research Section 3 3 Background to radio advertising 3.1. Brief overview of the advertising industry 3.1 Advertising is an important market as it constitutes one of the major means of funding for the media industry. The advertising industry also plays an important role in the economy, as it provides one of the means for companies in different sectors to compete with each other for consumer spend. 3.2 Total advertising expenditure has increased over time, and it now constitutes a non- negligible share of UK GDP. In 2005, total advertising expenditure was almost £18 billion6, or around 1.6% of GDP. 3.3 Although press and TV remain the two major media in terms of total advertising expenditure, the mix of advertising media has been changing over time and new media have come into play. 3.4 As shown in Table 1 below, media such as direct mail, outdoor, radio and cinema have gained market share of total display advertising expenditure to the detriment of press and TV advertising. Internet advertising, which first appears in advertising statistics in the second half of the 1990s, has experienced very strong growth. Table 1: Total display advertising7 expenditure in the UK, percentage of UK total 11999955 11999966 11999977 11999988 11999999 22000000 22000011 22000022 22000033 22000044 22000055 DDiissppllaayy 4400..77%% 3399..11%% 3377..77%% 3377..55%% 3366..55%% 3355..99%% 3355..77%% 3333..66%% 3322..00%% 3311..11%% 2299..66%% pprreessss TTeelleevviissiioonn 3366..99%% 3366..33%% 3366..22%% 3366..66%% 3366..44%% 3355..66%% 3333..22%% 3344..11%% 3333..11%% 3322..99%% 3322..77%% DDiirreecctt MMaaiill 1133..33%% 1155..11%% 1166..00%% 1155..11%% 1155..88%% 1155..77%% 1177..88%% 1188..66%% 1188..77%% 1177..55%% 1166..11%% OOuuttddoooorr && 44..88%% 55..00%% 55..33%% 55..66%% 55..55%% 66..22%% 66..33%% 66..44%% 66..99%% 77..00%% 77..11%% TTrraannssppoorrtt RRaaddiioo 33..55%% 33..77%% 33..88%% 44..22%% 44..33%% 44..66%% 44..33%% 44..33%% 44..44%% 44..33%% 33..99%% CCiinneemmaa 00..88%% 00..88%% 00..99%% 00..99%% 11..00%% 11..00%% 11..33%% 11..44%% 11..44%% 11..44%% 11..33%% IInntteerrnneett 00..00%% 00..00%% 00..11%% 00..22%% 00..44%% 11..22%% 11..33%% 11..55%% 33..55%% 55..88%% 99..33%% TTOOTTAALL 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% 110000%% Source: Advertising statistics yearbook 2006 Note: includes production costs 3.5 On the supply side, there is a range of market players. While some players are only present in one medium, others have interests across different media (e.g. Emap across press and radio). 3.6 On the demand side, advertising is purchased by businesses across different sectors of the economy and products, such as consumables, durables, retail, government or services markets. 6 At current prices, including display and classified advertising, and production costs. Total advertising expenditure excluding classified advertising and including production costs was over £13 billion in 2005. 7 The Advertising Association defines display advertising as all advertising excluding press classified advertising. 6 Radio Advertising Market Research 3.7 The media choice of advertisers appears to be driven by four key factors: 3.7.1 the campaign objectives; 3.7.2 the ability of individual media to reach the target audience; 3.7.3 the media coverage/reach (e.g. whether specific geographic reach or national); and 3.7.4 the campaign budget. 3.8 Ability to reach the target audience and suitability to campaign objectives appear from the research to be the two major drivers for the choice of media. Campaign objectives can dictate target audience, geographic coverage and budget. Budget is not always a primary consideration for advertisers (although it can be for smaller businesses), although the media must be cost-effective.8 3.2. Overview of radio advertising Trends in radio advertising spend 3.9 As shown in Table 1 above, radio accounts for a small share of total advertising expenditure (just under 4%) following consistent increases in radio’s share of total display advertising expenditure in the late 1990s. Table 2 below shows that between 1995 and 2005, radio advertising revenues more than doubled, growing from £296 million to £579 million.9 Table 2: Total display advertising10 expenditure in the UK, £million 11999955 11999966 11999977 11999988 11999999 22000000 22000011 22000022 22000033 22000044 22000055 DDiissppllaayy 33,,446633 33,,664455 33,,886600 44,,113344 44,,333388 44,,668877 44,,445588 44,,228855 44,,222299 44,,339999 44,,335566 pprreessss TTeelleevviissiioonn 33,,113366 33,,337799 33,,770044 44,,002299 44,,332211 44,,664466 44,,114477 44,,334499 44,,337788 44,,665533 44,,882200 DDiirreecctt MMaaiill 11,,113355 11,,440044 11,,663355 11,,666666 11,,887766 22,,004499 22,,222288 22,,337788 22,,446677 22,,446699 22,,337711 OOuuttddoooorr && 441111 446666 554455 661133 664499 881100 778888 881166 991144 998866 11,,004433 TTrraannssppoorrtt RRaaddiioo 229966 334444 339933 446600 551166 559955 554411 554477 558844 660066 557799 CCiinneemmaa 6699 7733 8888 9977 112233 112288 116644 118800 118800 119922 118888 IInntteerrnneett 00 00 88 1199 5511 115533 116666 119977 446655 882255 11,,336666 TTOOTTAALL 88,,551100 99,,331111 1100,,223333 1111,,001188 1111,,887744 1133,,006688 1122,,449922 1122,,775522 1133,,221177 1144,,113300 1144,,772233 Source: Advertising statistics yearbook 2006 Note: includes production costs The supply of radio advertising 3.10 The number of commercial radio stations has almost doubled in the last ten years. There were 280 analogue commercial radio stations in 2005. However, a degree of consolidation has also taken place over the last few years, notably with the mergers 8 Supporting document vol 1. For a description of the methodology of this research see section 6. 9 The Advertising Statistics Yearbook 2006, current prices. 10 The Advertising Association defines display advertising as all advertising excluding press classified advertising. 7