The Rise of Digital Advertising:
Reaching the New Interactive Consumer
by Robert Bryce In late April, less than a year after its initial public offering, Google Inc. had a market capitalization of $60 billion—that’s eight times the combined value of The New York Times Co. and Dow Jones & Company Inc. While Google’s status as the Internet’s dominant search engine is unquestionable, recent deals like the acquisition of AskJeeves by InterActive Corp for $1.9 billion and the $1.1 billion purchase of online advertising firm DoubleClick by a private equity firm point to one clear conclusion:
The Internet frenzy is back. And this time, it’s all about advertising.
According to the Interactive Advertising Bureau, domestic spending on Internet ads was a record $2.7 billion in the fourth quarter of 2004, a 24 percent increase over the year-earlier period. For all of 2004, advertising on the Web increased by nearly one third, to some $9.6 billion. In 2005, American Technology Research expects online advertising to reach $12 billion. These figures underline the structural shift that is underway in the advertising and marketing business—a sea change that is forcing companies of all shapes and sizes to re-think how and where they try to reach their target customers.
In many respects, the shift to online advertising makes sense. Seen from an Internet-era perspective, traditional ad campaigns are hopelessly inefficient. If you own a hotel in Budapest, for example, you can choose to buy ad space in a travel magazine, assuming that its readers are disproportionately interested in traveling to Hungary. But if you place an ad through a search engine like Google or Yahoo!, you no longer need to make those assumptions about preferences. You can advertise to a self-selected group of Budapest enthusiasts.
In other words, the key difference between the old advertising model and the Google model is this: advertising on search engines allows companies to deliver context-based ads to people who have already expressed an interest (by typing in a specific keyword) in a particular topic. That’s far more effective than broadcasting a product pitch to every consumer regardless of his or her interest in that product.
Taming the Chaos
Individuals who get on the Internet are, in general, seeking information.
Unlike people who turn on the radio while cleaning the house or scan
the newspaper while eating breakfast, those who go to Google or Yahoo!
want something. They are usually after specific information—scores,
schedules or stock prices. The challenge is to extract that snippet
of data from the chaotic jumble of thousands of servers located all
over the world, which hold more than eight billion web pages.
By taming the chaos of the Internet, the search engines have captured
the attention of a person who has shown a preference for something specific—and
that specificity has value. In the case of Budapest, it means that hotel
owners, tour operators, rental car companies and other companies that
have business interests in Budapest may be able to sell something to
the person who entered that search term.
Context-based advertising on search engines allows companies of all
sizes to reach “niche markets that would otherwise be unapproachable,”
says Vijay Mahajan, marketing professor at the McCombs School of Business.
Mahajan is the co-author of the 2003 book “Convergence Marketing: Strategies
for Reaching the New Hybrid Customer,” which has been translated into
six languages. It was also named one of the best business books of 2003
by the American Marketing Association Foundation. By going to Google
or Yahoo!, sellers can “take a scattered environment and consolidate
it in a virtual marketplace,” Mahajan says. “Marketers can reach the
targeted market much more cheaply than would otherwise be possible.”
Mahajan and another McCombs professor, Andrew Whinston, both believe
that the shift of advertising dollars away from traditional media and
toward online outlets like Google and Yahoo! will accelerate in the
coming years. By allowing even very small companies to effectively reach
their customers at far lower prices than were possible under the old
paradigm, advertising on the Internet acts as a disruptive technology—a
radical departure from the old model that demands the attention of marketing
and advertising practitioners across the business spectrum.
In other words, Google and Yahoo! have turned one of humankind’s most
basic urges—the search for knowledge— into a platform for marketing
almost anything. Thus, a search for “beekeeping” on Google yields a
number of search results; right next to those results, at the very top
of the page, is an ad for Betterbee, a Greenwich, New York–based supplier
of beekeeping supplies. By advertising on Google, Betterbee can reach
a small universe of potential customers (there are about 200,000 beekeepers
in the U.S.) and do so at minimal cost. “It’s an effective way to get
our name in front of people right away,” says Shane Gebauer, an assistant
manager at Betterbee. Gebauer says Betterbee has been advertising on
Google since February of 2004 and has seen a marked increase in Web
traffic since then.
Peeking Behind the
Curtain
Whinston’s latest research has focused on how Google and Yahoo! price
the advertisements that they sell to companies like Betterbee. Both
companies use an auction system, which allows advertisers to decide
how they want to be ranked when a given keyword is entered. “More and
more small businesses are competing for those keywords,” says Whinston.
“You can be listed first, second, third or fourth, depending on what
you believe is your best shot at getting customers.” Whinston, an MSIS
professor who also studies the video game market and other online arenas,
foresees scenarios in which books will be published on the Web for free—if
readers agree beforehand to view ads embedded in the book’s text. He
also believes that the entire advertising industry will have to reorient
its business models toward Google’s model. That could mean that big
ad agencies like McCann Erickson, J. Walter Thompson, BBDO and others
will have to cede some of their turf (and potentially, some of their
profits) to Google.
Like Mahajan, Whinston is an expert in the emerging online marketing
business. He directs the Center for Research in Electronic Commerce
at McCombs and is also a professor in the departments of economics and
computer science. Whinston, who has worked on computer-related issues
for more than four decades and has recently studied how Google and Yahoo!
sell their ad space, says the power of Google was demonstrated during
a recent trip to Hawaii. While there, Whinston met a man who, he recalls,
“did nothing but help local boat charter companies figure out how to
get their ads in the right spots on Google.” The power of context-based
online ads will make Google “a dominating platform” in the coming years,
he says.
Looking at the Numbers
Advertising numbers back up Whinston’s contention. Online ad spending
already exceeds outdoor billboard advertising, and this year, industry
analysts expect Web-based ad sales to exceed the amount companies spend
on both print magazine ads and Yellow Pages ads.
While online ads are still a relatively small portion of the $263 billion-per-year
American advertising market, by 2010, according to Sanford C. Bernstein
& Co., advertisers will be spending more than $22.5 billion per year
on Internet advertising—an amount that will exceed spending on network
TV advertising. By the end of the decade, only cable TV advertising
will be bigger than online advertising. And in a world where many consumers
are using devices like TiVo to avoid unwanted advertising, cable is
facing threats, too.
Obviously, this isn’t the Internet of 1999 and 2000. One-month IPO wonders
like theglobe.com have given way to enterprises with sustainable business
models. Meanwhile, consumers around the world have become much more
comfortable with the entire online universe. And all of them need help
finding stuff—a fact that has made the big search engines even more
important. Last year, Yahoo! saw its total revenues more than double,
to $3.5 billion. The segment of its business that Yahoo! calls “marketing
services” nearly tripled, going from $1.2 billion in 2003 to just over
$3 billion in 2004.
But even Yahoo!, the grandfather of the search sector, is no match for
the major-leaguer-on-steroids that is otherwise known as Google. In
late April, Google’s market capitalization was more than three times
that of General Motors Corp. Just for comparison, GM has 324,000 employees.
Google has 3,000. GM’s 2004 revenues were $193.5 billion. Google’s 2004
revenues: $3.1 billion. Stock buyers are obviously putting a premium
on Google’s rapid growth. The search company’s fourth quarter 2004 revenues
were $1 billion—double the number it reported in the year-earlier period.
For the first quarter of 2005, Google’s profits were $369 million—a
nearly six-fold increase over the year-earlier period.
Carving into Other
Media
The surge in online advertising appears to be coming at the expense
of traditional media. The Washington Post’s executive editor, Leonard
Downie, Jr., recently lamented that his paper’s daily circulation has
dropped 5.2 percent over the past two years. The Post has plenty of
company. The Los Angeles Times’ circulation dropped by 6 percent last
year and now stands at its lowest level since 1968. In its first quarter
2005 earnings release, Dow Jones, the owner of The Wall Street Journal,
reported that its advertising volume fell by 10 percent in March alone.
Many other print publications find themselves in the same predicament:
increasing numbers of people prefer to get their news online—no ink
stains and no stacks of old papers. For the newspapers that means red
ink and more layoffs.
The radio business is also taking a bit of a hit, with major firms seeing
flat or near-flat growth in ad revenues. And the market for radio advertising
may get worse before it gets better. In March, Merrill Lynch lowered
its 2005 forecast for radio ad spending growth from 3.5 percent to 2.9
percent.
Clear Channel Communications is actively trying to ramp up its Web presence.
In March, it announced that it will begin offering free Web-based concerts
and adding video content to some of its Web sites. The radio giant operates
more than 1,000 Web sites, which get more than seven million visitors
per month. The company will also make some of its live morning shows
available for downloading to MP3 players, a process known as “podcasting.”
But it’s not clear if these new strategies will make a difference in
a market where there is intense competition among different media—video
games, the Internet, DVDs, movie theaters, TV, radio, etc. Internet
usage is increasing at the same time that radio listening time is declining.
According to Arbitron (the radio ratings equivalent of TV’s Nielsen),
radio listening time has fallen to about 20 hours per week. In 1993,
that number was more than 23 hours per week.
Many factors are contributing to the declining fortunes of newspapers
and radios. And their decline may be reversible. But it may also be
true that those mediums are not providing the experience that is available
on the Internet and that more consumers are responding to the online
environment.
Neil Burns, an advertising professor at UT Austin, says the Internet
has an “urgency and immediacy that conventional access to information
doesn’t offer—and can’t offer. I can research a product, I can buy it,
download it, copy and synthesize it, and it’s all available in an instant.
There’s a lot of power in that. As those processes get more sophisticated,
that power will grow.”
Facing the Challenges
Of course, many challenges loom for Internet-based advertising. Advertisers
are not going to abandon all of their current strategies. TV spots during
the Super Bowl—this year, a 30-second slot cost a hefty $2.4 million—are
still going to be in high demand. Newspapers, while threatened, still
get four of every 10 dollars spent on local advertising. Direct mail
continues to garner about one-third of all national advertising dollars.
And direct mail won’t be hampered by anything like “click spam”—the
term used for malicious clicking on specific online ads (see sidebar).
If a motivated hacker creates a program that effectively automates the
click spam process, Google and Yahoo! could face serious problems.
Then there’s the Web’s equivalent of TiVo, a new technology called RSS,
which allows Internet users to filter the news they receive. The RSS
technology allows Web surfers to collate all the news sites—and blogs—they
are interested in and have the headlines from those sources delivered
to them on one screen, thereby allowing them to avoid Web advertising.
(The solution? RSS advertising, in which consumers can “opt in” for
specific ads.)
Despite the challenges, it is clear that the Internet’s reality is finally
catching up with the hype. And the future of online advertising lies
not just in the U.S., but in the global marketplace. Between 2000 and
2005, Internet usage in Africa, the Middle East and Latin America increased
by more than 200 percent. In Asia, home to more than half of the world’s
population, Internet usage jumped by 164 percent. As those new Internet
users become more savvy, the amount of time they spend online will almost
certainly increase.
Mark Mahaney, a managing director at San Francisco-based American Technology
Research, says that online advertising will inevitably follow this dramatic
growth in Internet usage. “Advertisers want to go where the markets
are, where the ‘eyeballs and eardrums’ are,” says Mahaney.
Right now, the eyes and ears are going online. And the marketing whizzes
are right behind them.
