Search Engines Are Powering Ad Revenue
Back when it was all the rage to make money losing money on the Internet, the notion of slipping paid advertising into search engine results was roundly ridiculed.
“Crass commercialism over editorial integrity,” sniffed Gary Ruskin, executive director of the Commercial Alert advocacy group, in 2001.
The concept was hatched in the idealistic days when the prevailing sentiment was that Internet searches should be untainted by commercialism. The disdain ebbed when what came to be known as “sponsored search” started generating billions of dollars for online companies, helping keep the commercial Internet alive.
Sponsored search lured advertisers back to the Internet after the dot-com crash. Now it’s a huge moneymaker for tiny websites, Internet service providers and heavyweights such as Google Inc. and Yahoo Inc.
The fight for advertisers is ferocious as targeted ads in search results have supplanted flashy banners as the way to connect merchants and buyers online.
“It helps us reach customers that wouldn’t know our name otherwise,” said Justin Christopher, marketing director of Jenson USA, an Ontario bicycle shop whose ads on Google and Yahoo steer tens of thousands of visitors a month to its website.
The importance of sponsored search was underscored in first-quarter earnings reports from Yahoo, Time Warner Inc.’s America Online, EarthLink Inc., United Online Inc. and Ask Jeeves Inc. All credited search-engine advertising with boosting profits.
Most dependent on sponsored search is Google, the search provider planning the hottest initial public offering in years. Google disclosed last month in a regulatory filing that 95% of its $962 million in 2003 sales came from search-related advertisements on its websites and those of its partners.
Now search providers are nervously eyeing Microsoft Corp., which has promised to build search functions into the next version of its ubiquitous Windows operating system -- potentially introducing yet another rival for advertising dollars.
With major companies relying on sponsored search, it’s easy to forget that the concept was widely blasted just a few years ago as a bad idea.
It may prove to be the best “bad” idea to come out of Idealab, the Pasadena-based business incubator famous for flameouts such as EToys.
In 1997, Chief Executive Bill Gross was struggling to attract traffic to the 20 start-ups in Idealab’s portfolio. Online advertising at the time took the traditional approach of charging for so-called eyeballs: Ad rates were based on how many people saw an ad, not on how many people clicked through to the website in the ad. (Many online banner ads take the eyeball-only approach, though they contain links to websites.)
At the same time, Gross was bouncing around ideas for a new search engine. He came up with the idea of giving the top spots in search results to the companies willing to pay the most for it. Website operators would bid to appear when people typed certain keywords into the search engine.
“A keyword that someone types in with their fingers is the highest indication of intent for your product or service,” Gross said.
The engine would order the results from the highest bidder to the lowest, and advertisers would pay only if users clicked on the link. When Gross pitched the idea in 1997 to other executives in Idealab’s Pantheon conference room, the response was less than enthusiastic.
“You could never do that,” he recently recalled one participant saying. “Charge for placement in search results? People would go nuts.”
Gross argued that as long as the search engine clearly labeled paid-for results, users would appreciate having information they wanted. The system would become an efficient marketplace, weeding out the serious sellers from the hucksters.
“There were no apologies that we were a pure commercial search engine,” said Bill Elkus, founder and managing director of Clearstone Venture Partners, which invested in the company that launched in 1998 as GoTo.com.
The venture faced immediate skepticism.
“People were saying, this is heresy,” said Yahoo Chief Operating Officer Dan Rosensweig, who was then running the technology news and reviews site ZDNet Inc.
GoTo.com shelled out millions of dollars for banner ads on other sites to attract people to its site, but traffic was scant. Without traffic, advertisers weren’t compelled to raise their bids for prime placement.
As GoTo.com languished, Stanford graduate students Larry Page and Sergey Brin unveiled a search engine that ranked relevant websites not by any money paid but by how many other sites linked to them.
Google quickly became the most popular search engine, but the fledgling company had no plan to make money aside from licensing its technology to other websites.
At one point, Gross said, Page and Brin rebuffed efforts to partner or merge with GoTo.com because they were uncomfortable with the way it mixed advertising and search functions.
Google declined to comment for this story.
“One of the advantages of having an idea which is more heretical, if it’s a good idea, is that you have a two-year window before people copy you,” Gross said.
So GoTo.com struck deals with companies like AOL, Microsoft and AltaVista Co. to feature its sponsored search results on their websites, then split the money from advertisers. The company changed its name to Overture Services Inc. in October 2001 and abandoned its stand-alone search engine to focus on distribution deals.
Google, meanwhile, realized that Internet users did indeed want a blend of regular results and sponsored results. It developed its own version of sponsored search and quickly started stealing away Overture’s top-drawer partners, including AOL and EarthLink.
Overture sued for patent infringement. Google denied the allegations and countersued, calling the patents invalid. The case awaits trial in U.S. District Court in San Francisco.
The dot-com crash in 2000 gave sponsored search a huge boost. Advertisers who had fled from overpriced and over-hyped banner ads started buying sponsored search ads. They made financial sense: The ads were very targeted, like Yellow Pages listings, and advertisers had to pay only when someone clicked over to their site.
For big advertisers, it was a way to dip their toes back in without worrying about getting them bitten off. And for struggling businesses scrambling to stay afloat, it delivered a stream of new customers.
“That desperation for new revenue was in some ways one of the defining events that allowed paid search to take off,” said Jeff Lanctot, vice president of media for Avenue A, a Seattle-based online advertising agency. “Born out of these dark days was a willingness to test this new concept.”
Consumer groups like Commercial Alert, co-founded by Ralph Nader, thought some search engines (including a few powered by GoTo.com) didn’t distinguish paid-for results clearly enough and sued them. In July 2002, the Federal Trade Commission told search providers that sponsored search could aid consumers by improving results but warned the firms to mark results boosted by payments.
In spite of the controversy, paid search carried the online advertising market on its back, soaring to $2.5 billion, or 35% of all Internet ads, last year from only $300 million, or 4.2% of online ads, in 2001. It took off even while banner ads slumped. They shrank to $1.5 billion, or 21% of all Internet ads, in 2003, from $1.7 billion, or 29% the year before.
That helped Overture turn a profit in the fall of 2001 while other Internet businesses were collapsing. But its stock swung wildly each time it won or lost a distribution deal.
Yahoo, its biggest partner, acquired Overture last October for $1.8 billion and immediately made it a centerpiece of its advertising business.
For example, Rosensweig said, car manufacturers buy banner and flashy video ads on Yahoo to promote their brands. Then they encourage car dealerships to buy sponsored search ads so potential customers will find the closest place to buy that car.
“Sponsored search offers the ability for marketers to hit consumers at the exact moment they’re in need,” said James Lamberti, vice president of marketing solutions with ComScore Networks, a market research firm in Reston, Va. “It does a better job of it than almost any advertising form there is.”
