Joyce Rutecki got a nasty dose of the latest rage in Internet advertising last year, and she's still fuming. Rutecki, a sergeant in the Millersville University Police Dept. in Lancaster County, Pa., maintains the 12 computers at her station. Last year, numerous software programs began making their way from the Internet onto Rutecki's PCs. The software did everything from resetting Internet start pages to burying computer screens in a flurry of pop-up ads. In short order, the PCs slowed to a crawl, and Millersville University's cops struggled to reach one of their more important investigative tools, the Internet.
What happened? Rutecki's peers had unwittingly downloaded a number of intrusive software programs. Some of them were spyware. These are often nefarious programs -- some produced by criminals -- that grab personal data and change computer settings to avoid detection. But other programs clogging up the Millersville computers were so-called adware. This is spyware's gentler cousin, and it's taking the online advertising business by storm. The programs, lodged in the computer's desktop, keep an eye on a Web surfer's wanderings and sling up relevant pop-up ads. Checking Orbitz.com (ORBZ) for a flight to London? Adware could send a pop-up with British Airways PLC's (BAB) latest bargains.
Rutecki, it turns out, has a host of blue-chip corporations to thank for the avalanche of pop-ups. From Sprint (FON) and Motorola (MOT) to ING Direct Securities, companies are racing to harness ad campaigns to this pop-up technology. Why? Because it works. According to advertising agencies, for every 97 people who zap such an ad, three click on it. That's a sky-high hit rate for the $7.2 billion Internet ad industry.
Those clicks spell money -- lots of it. The leader in the young adware industry, Claria Corp., filed paperwork in April to go public. Claria, whose flagship product is called Gator, boasts 2003 net profits of $35 million on sales of $90 million. Its 39% net margins are more than three times the level of Google's. "Claria can far outperform standard online ads," says Pete Lerma, a principal at interactive agency Click Here, which represents clients that use adware, including Travelocity.com. Indeed, despite the spamlike odor that pervades the adware industry, Claria has little trouble landing powerful partners. A distribution deal with Internet giant Yahoo! Inc. (YHOO) accounted by itself for 31% of Claria's 2003 sales.
Proponents are convinced that adware is here to stay. They argue that by monitoring a user's Web surfing, the technology can serve up ads that are relevant and timely. "It works well for advertisers and consumers," says Avi Naider, chief executive of WhenU.com Inc., Claria's biggest rival. Naider likens adware to supermarkets that place coupons for H?agen-Dazs in the ice-cream aisle. Adware defenders also maintain that users are clearly alerted they are downloading adware and that tens of millions of them opted into the program by clicking an O.K. And they pooh-pooh fears that adware invades privacy, saying they keep no records or profiles of customers on their computers.
All of this reasoning, though, fails to obscure the controversy at the heart of adware: Many of the Web surfers it targets have little clue as to what they're getting. If they did, say critics, the industry wouldn't have to contrive sneaky tactics to slip the software onto desktops. One common ploy: A "security alert" pops up when a user visits a particular site, offering a software download. Many users click "yes" without realizing they're getting an adware program unrelated to the site they're trying to view. Even customers who wade through the fine print can sometimes be duped by vague language promising "Internet enhancements" and "search augmentation." Says Rutecki: "I understand they've got to make a buck, but there's got to be another way. It's like somebody coming into your yard in middle of the night and putting up signs."
Adware's enemies are mobilizing. Both houses of Congress are considering anti-spyware legislation. They may draw guidelines for appropriate adware practices as well. The state of Utah passed a tough law in March that would ban spyware outright, along with most forms of adware -- legislation that WhenU has sued to block. And several companies, from Hertz and Wells Fargo (WFC) to L.L. Bean, angered by pop-ups from competitors appearing on their Web sites, are suing the adware vendors and, in some cases, the advertisers themselves.
These obstacles don't appear to discourage eager advertisers. According to Jupiter Research (JUPM), 12% of companies that advertise online utilize some form of adware marketing. And while analysts estimate adware still represents less than 5% of the Internet ad market, it's growing fast. Claria's revenues jumped 123% in 2003, and smaller adware company 180solutions, in Bellevue, Wash., is expecting sales to rise 156% this year, to $50 million. Stephen Reitmeister, executive vice-president at Zacks Internet Group, a Claria advertiser, says he plans to keep spending on adware. And the legal challenges? "We'll let the courts decide," he says.
Reitmeister and thousands of other advertisers, say critics, may be pushing the ethical boundaries of marketing -- and risking a backlash. Several studies show that between 60% and 90% of people with adware on their machines aren't sure how it got there or are confused about what it does. Claria disputes this, saying its own study in 2002 found that 94% of users knew Gator was installed on their computers. Claria also points to a 2002 study sponsored by The Washington Post, which was suing Claria for loosening pop-ups on its Web site. The study found that only 13% of Claria customers didn't know Gator was on their computers. Trouble is, that same study indicated that only 43% were aware that Gator caused pop-up ads.
Once adware recipients find out what's going on, many want out. Half of all people that receive Claria's adware product, for example, uninstall the software within the first month, the company says. This continual attrition forces adware companies to step up the battle for footholds in more computers. Robert Kadar, a former executive director of sales at WhenU, still defends adware as an effective marketing tool, but notes that the adware companies "have internal tension between wanting to be a good corporate citizen and battling high customer turnover." The latter, he says, "always wins out." As it now stands, Claria's Gator program is on 43 million machines, WhenU is on 25 million PCs, and 180solutions reaches 30 million, according to the companies.
Most advertisers are reluctant to discuss their adware campaigns. Of the 26 major advertisers that BusinessWeek called for this story, 18 declined to comment on their adware marketing or did not return calls. Those that did maintain that adware firms properly inform users about their products and that the programs are easy to uninstall if consumers aren't happy. Some also say they stipulate that their ads not pop up on competitor sites, but rather over search results or noncommercial sites. "We don't want personal information or to know what sites [people] visit," says John J. Bonomo, a spokesperson for Verizon Communications Inc. (VZ), which advertises through Claria, WhenU, and 180solutions. "If an anonymous person searches for 'broadband access,' we think we can provide a relevant ad to that customer."
Few companies have done more to prop up the adware industry than Yahoo. A deal with Claria enables Yahoo to push its search-related ads to millions of users -- even when they're typing key words into a rival's search engine.
Why is Yahoo willing to risk bad press? Perhaps profits. SEC documents indicate that Yahoo's Overture division claimed 36% of revenue from such ventures at the time of the Claria deal early last year. That would bring in $24 million in revenue if the partnership matches last year's performance. At the 90% margins analysts estimate, this would yield profits of $22 million, representing 5% of Yahoo's projected $446 million in 2004 earnings. A Yahoo spokesperson has no comment on the numbers, but defends the partnership with Claria, saying the company takes the necessary steps to inform users of what they're getting.
To their credit, companies like Claria and WhenU have taken steps to clean up their images. Both companies put their brands on every ad they generate, in an attempt to reduce confusion about their origin. Claria takes it one step further by serving up an expanded ad every three months with a section explaining why consumers are getting the ads. Adware companies say they're trying to avoid inundating consumers with ads.
Such steps, however, won't clear confusion surrounding adware and its distribution. Any dramatic shift in practices will have to be prompted by advertisers themselves. Such a reckoning, however, is by no means imminent -- not as long as customers keep clicking those pop-ups.
By Ben Elgin in San Mateo, Calif.