1. Competition for Google AdWords A P EEP 142 4/13/06

2. Company Overview incorporated in 1998 stock valuation over $100 billion $6.1 billion revenue in 2005 $1.5 billion accounting profits in 2005

3. Two main advertising programs AdWords –Ads on search results pages, either above “organic listings” in a gray box or on the side of the page –Targeted to keywords searched AdSense –Ads appearing on other websites –Generates $2.7 billion/year, but site host keeps about 80%

4. AdWords basic policies Custom, local, regional, national and international view options Cost-per-click (CPC) and cost-per- thousand views (CPM) options Time-of-day options $5.00 to start advertising; no minimum monthly bill

5. AdWords pricing and placement Advertiser sets a cost-per-click max anywhere from $0.01 to $100.00 Advertiser sets a daily max to control costs Electronic auction: “smart pricing” model automatically sets bid 1¢ higher than nearest rival Max cost-per-click and “quality score” determines position on list

6. “Quality score” and placement Quality score is a function of : –Max cost-per-click bid –Click-through rate –Relevancy of ad text to user’s keyword search Advertisers want high quality scores because : –Quality scores determine list order –Users are more likely to click on ads at the top –Ads below the top seven often won’t appear on the first page

7. How Google maximizes AdWords revenue Total revenue-per-page: –TR = Σ(p i *q i ) –q 1 = # of clicks on a given ad –p 1 = $ per click on that ad –Google maximizes revenue by charging high p to the ads with high q through “quality”-based placement (People are more likely to click on links at the top, and are more likely to click on links relevant to their search) –Firms compete for top spots, raising p

8. Perfect price discrimination? No, because advertiser is only charged its exact willingness to pay when another firm is actively competing for the same spot –Knowledgeable advertisers can get good results with relatively low cost keywords Also, presence and intensity of competition varies by geographic location of the user’s IP address

9. Advertisers’ shady behavior Using rival’s trademarks –Generally legal in the U.S. to use rival’s trademarks in metatext (code invisible to user), but illegal to use rival’s trademarks in ad text visible to user. –Example: another insurance company using “Geico” as a keyword, benefiting from Geico’s broadcast media ads –As yet, no definitive court cases on trademark use in unseen code

10. More shady behavior Raising rivals’ costs: –Using software that clicks on rivals’ ads and makes it look like each click is coming from a different computer –Hiring low-wage workers in other countries to click on rivals’ ads Google writes code that identifies simple click-fraud operations, and sometimes issues refunds to advertisers

11. Conclusion Google tries to maximize AdWords revenue by offering many options and letting competition for placement drive up prices Google’s auction system absorbs consumer surplus for competitive keywords, varying by user’s location Some advertisers try to use rivals’ trademarks or raise rivals’ costs