An empirical analysis of paid placement in online advertising

Abstract

The Internet has brought about a fundamental change in the way consumers obtain and process information. It is well documented now that the online retailing revolution has established a new distribution channel that represents a fundamental paradigm shift in consumer buying patterns. Hence, firms are realizing that reaching the increasing number of online users by attracting clients to their websites is the key to bolstering online sales. In this regard, search engines are able to leverage the value as information location tools by selling advertising linked to search terms entered by online users and referring them to the advertisers. The phenomenon of sponsored search advertising - where advertisers pay a fee to Internet search engines to be displayed alongside organic (non-sponsored) web search results - is gaining ground as the largest source of revenues for search engines. The global paid search advertising market is predicted to have a 37 percent compound annual growth rate (CAGR), to more than $33 billion in 2010 and has become a critical component of firm's marketing campaigns. This is not surprising given that 94% of consumers use search engines to find information on the Web (Nielson-Net Ratings), and 81% who use search engines find the information they are looking for every time they search.In this regard, the advent of sponsored search advertisements - the delivery of relevant, targeted text advertisements as part of the search experience, makes it increasingly possible for firms to attract consumers to their websites. Sponsored search has gradually evolved to satisfy consumers' penchant for relevan tsearch results and advertisers' desire for inviting high quality traffic to their websites. Hence, it is now considered to be among the most effective marketing vehicles available in the online world. However, we have little understanding of how consumers respond to contextual and sponsored search advertising on the Internet. In this research, we focus on a question unexplored in the extant stream of literature: To what extent does sponsored search advertising affect consumer search and purchasing patterns on the Internet.Despite an emerging stream of literature in sponsored search, no prior work has empirically analyzed this question. Given the shift in advertising from traditional banner advertising to search engine based advertising, an understanding of conversion rates and profit potential of search advertising is increasingly becoming essential for both traditional and Internet retailers. Using a unique panel dataset of several hundred keywords collected from a Fortune 500 firm that advertises on Google, we empirically model the relationship between different metrics such as click-through rates, conversion rates and keyword ranks. We begin our research with an investigation of how keyword specific characteristics affect these metrics. Since the ultimate aim of sponsored search advertisement is to increase demand, we also aim to analyze the profitability of such ads. Our data reveals that there is a considerable amount of heterogeneity in terms of the revenues that accrue from different keywords as well as significant differences in the performance metrics. Whether these differences are due to product-specific attributes or keyword-specific attributes is an empirical question. Our paper proposes a novel framework and data to better understand what drives these differences. We use a Hierarchical Bayesian modeling framework and estimate the model using Markov Chain Monte Carlo (MCMC) methods.Our paper aims to makes a number of contributions. First, we show evidence that firms exhibit learning behavior over time. Second, we investigate the value to firms from participating in such sponsored search advertising by comparing the performance of sponsored searches with natural searches. Third, we find that there exists significant potential for cross-selling through search keyword advertisements. Our paper is the first known empirical study that estimates the effect of sponsored search advertising at a keyword level on consumer search, click and purchase behavior in electronic markets.