Blue Nile and Paid Search

What do Blue Nile and FTD have in common?

Both have recently complained very publicly – during earnings calls in the last several weeks –  about the rise in online marketing costs – especially paid search. From their conference call (courtesy of Seeking Alpha’s transcript):

Second, during December, we saw extremely aggressive increases in the cost of online advertising. Our cost per click on Google, for example, rose by over 50% from a year earlier. While the cost of online marketing grew significantly in Q4, we remain disciplined in our spending in order to maintain profitability on new customers rather than to chase unprofitable growth, as some of our competitors have done.

Our marketing efforts during the fourth quarter were skewed toward search engine advertising. Given our experience over the past few years with paid search, this seemed like a prudent decision entering the quarter. However, with increased costs for paid search in Q4, we were unable to drive as much profitable traffic as we would have expected. Given these results, we will be looking to broaden our marketing efforts beyond search in the future. As we seek alternative marketing vehicles to complement our efforts in paid search, I would expect growth to be relatively conservative as we ramp our efforts toward broadening our marketing outreach.  

Two points start to make a trend. It is clear, as Nick Carr has said, that competition is starting to hurt the paid search market. Keyword prices are clearly going up, at least in a few areas (diamonds, jewels, flowers…) people are starting to get hurt by it, and are talking about moving dollars away. That will bring keyword prices down again, but at the expense of paid search revenues.

 

UPDATE:

I just got to the Q&A part of the transcript – blogged too quickly – and saw this very interesting explanation of the paid search dynamics. From the same source:

As far as who is out there bidding, it’s slightly different in Q4 as opposed to Q1. I think in Q4, you asked about Amazon. We haven’t seen them at all in the online search market. We saw a couple larger players; I think Zales was pretty aggressive, Macy’s was pretty aggressive. And then we see just a tremendous number of small players, and these are very small companies. And they don’t play for very long. They will come into search for a week or a couple of weeks. And I think there’s just a lot of, and then I think they burn through their budget fairly quickly and fall off the screen. But we just saw a lot of those types of players coming out. And then, just in Q1, we’re seeing some odd search behavior. A couple weeks back, you know I think, if anything, this is the time that there’s a little bit too much aggressiveness in search. A couple of weeks back, we saw MSN Shopping appear on Google. And that’s in our category; it’s also in a number of other categories. MSN Shopping began bidding to take customers from Google over to MSN Shopping. And for those of you who understand the cost per click on a Google, which is very targeted, versus a shopping channel, those economics are not going to make sense. So we see things like that, and we just feel like there’s something going on here; it’s a little too frothy.

As far as conversion rates, we continue to be able to convert quite well when we bring people in. I think, to some extent, there may be some downward pressure, and the conversion from every single channel is different. If you look at our overall conversion rate in Q4 versus last year, the conversion was quite good. But within channels it will differ. Within search, what we’re seeing, a slight downward pressure on the value of any customer coming out of search, if that makes sense. If you look at, the measures we’re looking at is revenue per visitor or gross margin per visitor over time, and then isolating that down to a single channel. So, for those of you don’t follow the search market, as well, the way as a merchant you really try to understand your numbers is look at the gross margin or contribution margin per customer coming off the flow of traffic, and you simply weigh that against the price to acquire those customers. And as you go up higher in search, you’re trading off perhaps more volume from higher placement with lower profitability from the stream of traffic.

So an important matter is how well you can convert. Over time from search, we see slight declines, and it’s not tremendous but slight declines in the conversion rate. I think, to some extent, that has to do with the search engines placing more ads. So, when you went to a search term a year ago versus going to it today, you are going to see more paid search placements today than you did a year ago. And as there’s more people there competing for the same traffic, if one consumer is shopping, so if you’re shopping for a plasma TV, you are probably going to go to many merchants, or at least a handful of merchants, before you make your purchase. And so you will be clicking on multiple ones of those, but only buying one plasma screen. And the more paid placements there are, probably the more click-throughs you’re going to have.

So what that results in for merchants is downward pressure on the value of those customers. So just as bidding is going up, you’re seeing downward pressure in conversion. Again, this points to our desire in the channel to be less aggressive with our bidding. And if that means giving up some volume to other people who perhaps are not measuring that and doing that ROI calculation, as well, we will do that until it rationalizes somewhat.

The importance of Return on Attention

There has been a lot of discussion recently about the impact of Search Engines, and specifically Search Marketing, on the Web. Some people have asserted that Search Engines are “leeches”, feeding off of other people’s hard work. Others have defended Search Engines as wholly beneficial to the vast collection of web publishers, providing an income and distribution source that they otherwise would not have.

This discussion got me thinking about the real incentives provided by Pay-Per-Click Search Marketing. Nick Carr touches on this in a recent post:

“The economic incentive for the content producer therefore is not to produce content that simply engages a large or demographically attractive audience, but to produce content that (a) attracts an audience likely to click on a valuable advertising link and (b) increases the odds that such lucrative clicks will actually happen.”

This is an important point – these incentives are real, and can lead to two outcomes for content providers:

1 – Content providers change the type of content they provide to get a more valuable audience (for example, emphasizing product reviews instead of how-to articles)

2 – Content providers change the content of what they publish to more explicitly steer consumers to click on advertising. For example, writing good product reviews for marginal products, or writing articles with integrated “product placement”.

In either event, the safeguards that traditional publishers have had in place for years to minimize the impact of advertising on editorial content will not exist.
This is where Return on Attention comes in. If we can measure Return on Attention, we start to give consumers more control. How?

First, feedback. By letting other people know how valuable you found a site, you are strengthening the quality of the content (not in a News Hour with Jim Lehrer way, but perhaps in an audience-friendly Fox News way).

Second, quality. With click fraud and rising keyword prices, advertisers will start to demand and seek out high quality lead flow, not just a high quantity of leads. In other words, they will start to reward sites that send them eventual customers, not sites that send them leads.

In a world focused on clicks, all that matters is getting the click. Advertisers and search engines have become very skilled at increasing clickthrough rates on their ads. However, that results in low quality leads. The coming focus on high quality (but perhaps lower volume) leads is a disruptive change for the market. Return on Attention is the critical guide to success for publishers. Focusing on Return on Attention – and therefore focusing on quality content – will yield the greatest return on online publishing assets in this new environment.

Is PPA the answer?

It would be a stretch to claim that Google is in big trouble.

However, there has been considerable negative chatter recently about the implications and risks of the Pay Per Click (PPC) business model employed by Google and the majority of other online marketers (search engines, comparison shopping sites, etc). See, for example, Blodget, Nielsen, and Carr.

The objections include a) Click fraud is damaging advertiser returns while benefiting Google b) the PPC model yield a high volume of low quality leads c) search engines benefit from improvements in conversion rate on advertiser websites, even though they do not contribute to these improvements. Fundamentally, when you boil it down, the issue is mismatched incentives. Google does not have the same goal as its advertisers.

If (when?) this becomes a real, widespread issue for advertisers, Google will have a problem. It will have to start seriously considering employing other advertising models. They’ve started playing with CPM (cost per impression) based models. CPM is pretty old school, Web 1.0, relying on eyeballs. However, reverting to 1999 (even an auction-enabled version of 1999) is not a solution. CPM reduces the direct pay for performance aspects that people love about PPC, and it does little to eliminate gaming – it just changes the game.

PPA – pay per acquisition – models may be a much better alternative for the advertiser. In this model, the advertiser pays a commission when someone buys something. This has existed for a long time as affiliate programs. Amazon, for example, uses this approach when it allows people to put book ads on their sites. Amazon – the advertiser – only pays when someone buys the book.

PPA-based business models do not have the same problems as PPC. Sites are no longer compensated for low quality leads. Click fraud is a much smaller issue – few companies will be willing to pay people in India and China to actually buy stuff.

Indeed, PPA aligns the interests of the search engine and advertiser to an extent impossible via other models. And it is not that far out. Mainstream ad agencies have started talking about using this type of model for traditional advertising. It is, if anything, easier to do this online.

Anyone who figures out how to really apply PPA models on a broad scale will have an eager advertiser customer base. It’ll be interesting to see which of the search giants take the initiative on this.

“We were eager to help them shut us down”

“We were eager to help them shut us down,” jokes Sun-Times Publisher John Cruickshank. “They’re buying ads. We like that.”

Today’s Chicago Business reports on an expansion of the tests Google was running a few months back, this time focusing on newspapers instead of magazines.

“In a quiet and small-scale experiment, Google is running classified-like ads in the pages of the Sun-Times, which so far is the only newspaper participating in the Web-search behemoth’s test.

… Now, in the Sun-Times, Google is running ads in proximity to relevant content. On Dec. 12, for instance, Google ads touting ticket brokers, White Sox apparel and Chicago Bears memorabilia ran in the Sports section.”

Declining Search Engine Marketing Effectiveness?

Jeff Matthews has a fascinating post deconstructing a recent FTD Press Release. Worth reading the whole post, but I will excerpt the key points here. The press release says, in part:

“During the Christmas season, certain online search engine costs increased significantly over the prior year, and as such we made the decision not to pursue the resulting high cost order volume.” stated Michael J. Soenen, President and CEO of FTD Group, Inc. “As a result, despite this slight decline in order volume for the Christmas season, we are reiterating our EBITDA and EPS targets for the year. Further, we have begun making additional investments in our marketing staff to help build a more diversified marketing portfolio.” (emphasis added)

As Jeff rightly points out, this likely means “the marginal cost of a new customer has reached parity with the marginal profit from that customer. Which is not something anybody expected happening any time soon.”

This is a potential huge problem for search engines – if there is no net value, growth will slow and possibly even go negative.

How widespread an issue is this? I don’t know. But there are some reasons to believe it could be an emerging widespread problem. After all, search queries are pretty concentrated in a small number of topics, including shopping. And, as Nick Carr pointed out a few days ago, the click economy incents publishers to figure out how to get consumers to click. Quality of lead flow has not traditionally been an issue of concern for search engines; their model is pay per click, not pay per acquisition (unlike, say, Amazon’s affiliate model). It will have to start being a concern soon, if this data point starts to morphs into a trend.

UPDATE: Battelle and Carr have both picked up the thread…

Search as Platform

Ok, just a quick post for now, until I more fully digest this. But this looks really cool.

Amazon, whose A9 search engine is cool but complex, has launched their Alexa Web Search Platform. Details via Battelle.

This is pretty cool stuff. If it works as it is advertising (a relatively big if, I suppose), it could dramatically lower the barrier to entry for Vertical Search Engines (like SimplyHired, for example). That would be pretty cool, because it would continue the shift away from technology and into community. It may also destroy some of these company/site’s business models, but it is not entirely clear they had one to start with.

This also solidifies the talk about Search as a new platform. Amazon has a lot of experience with this; by any measure their Web Services have been a huge success, and this merely extends their strength into new areas. The more people can build on this platform, the more people will naturally tend to bias their services towards Amazon.

Ok. I am starting to say things that everyone already knows. It’s late – sorry for the incoherence!

Let’s just agree that this is pretty cool, and we’ll think more clearly about why in the morning.

Personalized Search – Hype?

Via Battelle:

“Raul Valdes-Perez of Vivisimo begs to differ with all the hype around personalized search (including in my book), and the idea of major engines mining your clickstream to better understand your intent (and give you more personalized ads, of course). In a short paper outlining his views, (PDF download), he outlines five major problems with personalized search and concludes:

…. search personalization is likely to waste the talents of top computer scientists. It may even give worse results…”

The key problem brought up in the paper is that of inference. Can you infer what a person wants from the actions she takes? This is not only an issue for search – it is, more broadly, a key issue for behavioral advertising as a whole.

Valdes-Perez ended the article by saying “the best personalization is done by persons themselves”. At a high level, I agree. I’ve wondered for a while why few people have really explored the approach that I’ll call “Just Ask Them”.

Perhaps the best targeted advertising system around is Amazon’s book recommendation system. They are successful precisely because they use information provided by other users to help you find what you are looking for. Yes, there is a lot of math involved, but the math is “just” to automate the understanding of the volunteered information.