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Does the advertising business that built Google actually work?

Does the advertising business that built Google actually work?

By Tim Fernholz @timfernholz June 13, 2014

What if the advertisers who pay Google most of the money it earns are getting a negative return on their investment, to the tune of -63%?

That’s the question raised by a new paper that uses internal eBay data to assess whether the company’s investment in search-engine marketing is actually paying off. When major brands spend to make sure their results are at the top of a Google search page for certain keywords, they like to think they’re effectively targeting the customers looking for their products. But what if they are paying for something that they could be getting for free?

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That’s what the following chart implies. When eBay experimented by shutting off paid search traffic connected to the company’s name, people found their way to the site anyway: “Since users intend to find eBay, it is not surprising that shutting down the paid search path to their desired destination simply diverts traffic to the next easiest path, natural search, which is free to the advertiser.”

That’s not what Google (or the people paying Google for targeted advertising) want to hear. Next, eBay wanted to look at keywords that don’t mention the company’s name; since it’s possible that those do direct more traffic to their site. EBay purchases ads on an astonishing 100 million or more keywords (for example: “used gibson les paul”) and was able to shut down advertising in randomly selected geographic areas to test their efficacy. This experiment showed some value in Google’s product: Traffic to eBay declined by 2%. But clicks aren’t sales, and the researchers think that most of those potential customers still would have found their way to eBay.

But there’s a hope for search-engine marketing: eBay is a mature, well-known company, and much of its potential customer universe is aware of it already. The researchers found that Google’s marketing was most effective at reaching customers who hadn’t heard of the company or its products. That might suggest that search-engine marketing is in fact useful for younger companies seeking to make their names. It also plays into one theory of why eBay pays so much for search engine marketing: Its a prisoner’s dilemma, where all competitors would be be better off not bidding on keyword ads—but if one does, they all must seek an advantage.

But even if this advertising is devalued only for the biggest companies, that’s still an issue for Google: The top-ten spenders on online advertising spent $2.36 billion out of a total of $31.6 billion in 2011. If they start cutting back, it will make a dent.

Of course, this is one piece of research, based on one company’s data, and there may be better ways to value the kind of targeted marketing that Google provides. A Google spokesman told Quartz that Google’s internal research shows that 89% of visits (pdf) to an advertiser’s site would not have occurred absent their campaign, and even when an advertiser’s website was featured as a top natural search result,50% of traffic to their site from Google comes from their ad. “Since outcomes differ so much among advertisers and are influenced by many different factors, we encourage advertisers to experiment with their own campaigns,” the company said in a statement.

Still, this paper could offer some insight into why Google is spending so much money on satellite internet and driverless cars: The need for a back-up plan to its advertising business (which provides 95% of its revenue) is perhaps more pressing than the company might like to admit.

 

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About bambooinnovator
KB Kee is the Managing Editor of the Moat Report Asia (www.moatreport.com), a research service focused exclusively on highlighting undervalued wide-moat businesses in Asia; subscribers from North America, Europe, the Oceania and Asia include professional value investors with over $20 billion in asset under management in equities, some of the world’s biggest secretive global hedge fund giants, and savvy private individual investors who are lifelong learners in the art of value investing. KB has been rooted in the principles of value investing for over a decade as an analyst in Asian capital markets. He was head of research and fund manager at a Singapore-based value investment firm. As a member of the investment committee, he helped the firm’s Asia-focused equity funds significantly outperform the benchmark index. He was previously the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. KB has trained CEOs, entrepreneurs, CFOs, management executives in business strategy, value investing, macroeconomic and industry trends, and detecting accounting frauds in Singapore, HK and China. KB was a faculty (accounting) at SMU teaching accounting courses. KB is currently the Chief Investment Officer at an ASX-listed investment holdings company since September 2015, helping to manage the listed Asian equities investments in the Hidden Champions Fund. Disclaimer: This article is for discussion purposes only and does not constitute an offer, recommendation or solicitation to buy or sell any investments, securities, futures or options. All articles in the website reflect the personal opinions of the writer.

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