Yahoo's new ad-targeting system has already increased overall clicks and click-through rates. Will it also give Google a run for its money?
Early returns on Yahoo's Project Panama—the system designed to make the company's search ads more effective and profitable—signal the No. 2 search engine has what it takes to bridge a gargantuan revenue gap with Google. Well, at least some of what it takes.
Yahoo! (YHOO) created Panama to eke out better returns from the sponsored links and query-related ads it displays alongside search results. To do that, Panama mimics Google's (GOOG) practice of ranking ads based not only on the price marketers bid for clicks per ad, but also on the ads' likelihood to generate clicks. Because search engines are paid only when users click on ads, the new system calculates which ads ultimately generate the most revenue, and ranks them higher on search results. After all, an ignored ad that costs, say, $5 per click isn't worth as much as a $1 ad clicked on 100 times a day.
The 1% Solution
Panama appears to be fulfilling its promises. Research firm comScore reported last month that more Yahoo users are clicking on ads. The number of overall clicks on Yahoo search results linking to advertisements increased from about 10% before Panama's Feb. 5 launch to roughly 11%. That may not sound like much. But when dealing with nearly 2 billion Yahoo searches a month, a 1% increase can mean many more ad dollars.
In fact, a 1% increase was almost enough to match Google's performance, according to comScore analyst James Lamberti. A little more than 11% of the clicks on Google search results also go to ads, indicating that Yahoo's ads generate about the same interest from its users as Google's ads. "Yahoo has almost entirely closed the gap on that particular metric," says Lamberti.
However, Yahoo still has a long way to go before it matches Google on other measures. Yahoo does not reveal how much of its revenue comes from search. However, Merrill Lynch (MER) analyst Justin Post estimates that Google made more than three times more per search than Yahoo in the fourth quarter of 2006.
Caris & Co. analyst Tim Boyd figures Yahoo made about $1.61 billion on search ads during the first nine months of 2006, before Panama began rolling out to advertisers. Meanwhile, Boyd estimates, Google made about $4.99 billion on search during the same period (see BusinessWeek.com, 12/26/06, "Why Yahoo's Panama Won't Be Enough").
The Google Gap
The percentage of search-related clicks that goes toward ads is just one key to Google's success. To see similar results, Yahoo would also have to improve in three other metrics: search volume, advertising costs, and clicks per user.
Search volume is the simplest metric and, perhaps, the most important. According to comScore data, Yahoo has about 28% of the search market. Google has about 46%. To compete with Google, Yahoo has to entice more people to search on its service so it can deliver more of the ads that Panama has made more attractive and relevant to users. Yahoo presumably can do this by delivering better search results overall and attracting more people to its online platform in general in hopes that, while there, they will perform some searches.
Yahoo also needs to increase the average per-click cost of its search ads. Panama will really pay off for Yahoo when users are not only clicking on ads more frequently but when each click is also costing marketers more.
A Virtuous Circle
Panama's better targeting, however, goes a long way to solving this problem. Analysts believe advertisers will eventually bid more for ads that they see larger numbers of people clicking on. "We believe Yahoo should continue to make strides toward closing the gap [with Google] as Panama gains traction," says UBS (UBS) analyst Benjamin Schachter.
Another key yardstick is the number of ad clicks a user performs per search, also known as the "click-through rate." Early data from comScore suggests an improvement here, too. According to a report released Feb. 26, the click-through rate improved 5% and 9%, respectively, in the two weeks following Panama's launch.
Even if Yahoo doesn't match Google in all these arenas, it's still on track to make more money in 2007 than it did in 2006. The Street, on average, expects Yahoo's share price to rise to $33.21 over the next 12 months, up from about $30 on Mar. 7. And Yahoo executives have repeatedly said investors will start to see Panama-related revenue improvements in the second quarter of 2007.
Still, Yahoo has to be hoping that Panama's magic can extend to other areas. If it does, Google could find itself—for the first time—in a real search race.