Advertising, Search, and Value

Once again, Paul Graham brings up lots of thought-provoking points in a new essay, "What Happened to Yahoo." As the title indicates, the thrust of the essay is Graham's analysis of where that self-proclaimed media company went wrong. As one might expect from a venture capitalist focused on computer technology, one of his major conclusions is that Yahoo suffered from not properly focusing on technology.

But there's another strand in Graham's argument that offers even greater value. The essay begins with Graham meeting with then-Yahoo CEO Jerry Yang about a sort-for-shopping product he'd developed which optimized revenue related to web searches. During the meeting, he was perplexed by Yang's apparent indifference to the value his product offered. Eventually, though, he came to understand what was going on. Compared to what Yahoo could bring in with banner ads, his product looked to be worth peanuts.

[T]he big money then was in banner ads. Advertisers were willing to pay ridiculous amounts for banner ads. So Yahoo's sales force had evolved to exploit this source of revenue. Led by a large and terrifyingly formidable man called Anil Singh, Yahoo's sales guys would fly out to Procter & Gamble and come back with million dollar orders for banner ad impressions.

The prices seemed cheap compared to print, which was what advertisers, for lack of any other reference, compared them to. But they were expensive compared to what they were worth. So these big, dumb companies were a dangerous source of revenue to depend on. But there was another source even more dangerous: other Internet startups.

By 1998, Yahoo was the beneficiary of a de facto Ponzi scheme. Investors were excited about the Internet. One reason they were excited was Yahoo's revenue growth. So they invested in new Internet startups. The startups then used the money to buy ads on Yahoo to get traffic. Which caused yet more revenue growth for Yahoo, and further convinced investors the Internet was worth investing in. When I realized this one day, sitting in my cubicle, I jumped up like Archimedes in his bathtub, except instead of "Eureka!" I was shouting "Sell!"

What happened here, and what bigger lesson does this hold for us? To understand this, we need to consider what advertising hopes to accomplish: greater trade between the advertising company and customers, be that by reminding old customers to return or convincing potential new ones to try the products it offers. In other words, the underlying goal is to get more people to trade money for whatever value the advertiser offers.

Ideally, an ad will occur in a setting rich in likely customers and suggest to them that they want or need what that company has to offer. The premise behind a banner ad is fine for print media since those who see it will have selected themselves as an audience for the ad by purchasing the publication in which it appears, presumably for reasons somewhat related to why they might want the service offered by the advertiser.

But for search? Such an ad will often just be an annoying distraction (if that) to someone randomly showing up to a site for a search on who knows what topic. Eventually, the fact that the ad isn't really being pitched will become manifest to advertisers, and there will no longer be "big money" to be made selling such ads. Since so much of the content for the Internet is free, optimizing advertisements to search results in some relevant way is a stroke of genius. The ad is directed at someone who has just told you what he is looking for. The essential change brought by the new technology was a new process of selecting the target audience for the ad.

To be fair, nobody in the essay, Graham included, realized how valuable search-based advertising pitches could be, but we can draw a general lesson anyway. Simply sticking with what one knows when confronted with new technologies or opportunities can be about as productive as what Richard Feynman once called "cargo cult science." Furthermore, while often, even an inventor of a new technology can't necessarily predict how many new ways it can be usefully applied, perhaps one helpful strategy for adapting to it is to view its capabilities in terms of how they relate to accomplishing one's purpose.

-- CAV