an innovator’s dilemma with pay-per-click search models
Posted: November 30th, 2009 | Author: mattsly | Filed under: tech-biz | View Commentswhat happens to revenues when search gets better?
Last spring, I wrote a post about the conflict of interest with regard to algorithmic search results and paid search listings. This is a follow-up post, with a different spin on the same idea: that there is a problematic conflict of interest in the paid search business model, and that this schism may well emerge more saliently over the coming years.
My thesis here is that there is an "innovators dilemma" for a search engine that makes money on pay-per-click advertising, to improve the quality of its algorithmic results. Doing so, would in theory, more effectively answer a users’ query, and thus make it less likely for users to click on advertisements. Because the pay-per-click model only earns revenue when users click on ads (rather than algorithmically generated “organic” results), lowering the advertisement click would ultimately mean less revenue for the search engine.
Here’s an example case to consider – a query for: "Student Loan"
In theory, a search engine dedicated to organizing the world’s information, should very much be able to provide valuable results for this term. So, suppose a hotshot whiz-bang engineer comes up with an awesome way to spider and store up-to-the minute results on lenders, rates, reviews, etc. laid out in a clean, organized manner, and all based on what is most relevant to the searching party. What would be the response from the "business" side of the house that pays that engineer’s salary?
Here are some accumulated statistics from Google’s AdWords tools for "Student Loan" and 50 recommended related terms:
| CPC Weighted Average | $ 14.31 |
| U.S Monthly Search Volume | 4,484,113 |
| Pct. Ad Clicks (estimate!) | 6% |
| Total Monthly Revenue | $ 6,415,170 |
So – suppose this awesome new search innovation was so good that more queries were now satisfied by algorithmically generated data, and the percentage of clicks on ads falls in half to 3%: this search innovation just cost over $3 M in monthly losses. Take this example to its logical end, and the theoretically perfect search engine’s ad-click rate will be 0, as the algorithm will always answer my query, and 0 x any $CPC will always be 0.
There are two obvious rebuttals here, which deserve more serious consideration that this,
1) Increase Price: boost the CPC that advertisers are willing to pay.
This seems possible, but unlikely. Because that price is determined by a second price auction bid stack, presumably destination sites are bidding based on the value of the arriving traffic, which is exogenous to the search engine.
2) Increase Volume: If more total people search, then total number of clicks may be the same, even if a smaller percentage of people click on ads. Perhaps the search engine can grab more market share because of its (newly improved!) ability to answer queries such as "student loan." Or perhaps the entire search market will continue to grow. But, while this rationale may have been sensible over the past ten years, you can only replace margin with volume for so long, as you either reach market saturation(market won’t grow) or market dominance (you own the market, and there’s no more share to grab from competitors).
There’s more to say on this subject – in the meantime, I am hopeful, though pessimistic, that the technology press will start to think more critically about search business models — as they like to say in mutual fund prospectuses: "past performance is not a good indicator of future success."