Panama Puts Yahoo Back in the Race

A lengthy revamp of the company's methods for ranking online ads was time well spentand may help narrow Google's lead

If you've watched any professional motor sport, you've likely witnessed the following scenario. The early leader loses ground to other racers as his car's tires begin wearing out or the engine starts smoking. A pit stop will initially cause the driver to fall even further behind. But ultimately the time taken under the care of mechanics helps the driver pull back into the lead. If the Web's search engine industry is the race track, Yahoo has just taken a timely pit stop to try and win back ground lost against the new leader, Google.

On Feb. 5, Yahoo! (YHOO) started moving all of its paid search advertisers over to a new ranking model, informally known as "Panama." The aim: Gain some much-needed momentum on Google's more widely used AdWords platform.

It took Yahoo many months to create the new model, effectively rebuilding the system it acquired with the $1.6 billion purchase of Overture Services. Although Panama is just getting off the ground, there's reason to believe this time in the pit has done Yahoo good.

Platform Competition

It might be a distant memory now, but when Yahoo acquired Overture in 2003, it picked up the leader in paid search advertising—those sponsored links often seen alongside Web search results.

Overture had built a successful advertising platform that was as simple as it was popular. Advertisers could select certain search phrases and "bid" to have their text advertisement shown alongside the regular search results. It was a huge success, and Yahoo was smart to acquire the company and the technology.

Unfortunately for Yahoo, Google (GOOG) decided to enter the race and built a better model along the way. Instead of a simple, whoever-pays-the-most-wins approach, Google's AdWords platform takes into account the effectiveness of the ads themselves, as well as the advertiser's bid.

A combination of the highest bid and most clicks earns advertisers the No. 1 spot. This model proved an even bigger success than Overture's, now named Yahoo Search Marketing, and it gave Google a solid lead in search advertising. The business garnered Google $10.61 billion in sales last year, compared with Yahoo's $5.53 billion.

Pay Per Click

Yahoo faced a difficult decision: Continue with its current advertising model and watch as it lost ground to Google, or rebuild the platform from the ground up. Yahoo hesitated, stuck with the original game plan, and watched Google AdWords become a huge success.

Not only did advertisers prefer a model that rewarded them for creating better quality ads by effectively reducing the amount per click needed to achieve the top spot, but Google's bottom line benefited greatly because its platform always selected the ads that generated the highest return, thereby increasing the search engine's earnings per search.

By 2006 analysts estimated that Google earned 4.5¢ to 5¢ on every search, while Yahoo earned just 2.5¢ to 3¢. That pretty much forced Yahoo's pit stop—the hard work of rebuilding its search ad technology and the underlying infrastructure.

The result? In October, 2006, Yahoo announced the launch of a new marketing console, with better targeting options, increased reporting ,and faster approval of new search ads (Yahoo previously took days to approve ads, while Google approved within minutes). This launch was the first step in a two-part plan to mount a stronger challenge to Google.

With the Feb. 5 launch of the underlying algorithm and ranking model, Yahoo addressed the final issue that had caused it to lose so much ground. On that day, dozens of Yahoo engineers watched an array of charts, graphs, and statistics as the company flicked the switch on an advertising model that would rank ads based on the amount the advertiser bid (from pennies to more than $100 per click, in some cases) and the click volume (how often the ad was clicked on).

With the new model, Yahoo would provide a stronger challenge to Google, reward advertisers whose ads performed well, and begin an effort to narrow the gap with its bigger rival in revenue per search.

Up Through the Ranks

Will the new platform let Yahoo win the search engine race? It's still far too early to tell. Yahoo has warned investors not to look for an impact on the bottom line until the latter part of the year. That said, there's no reason why Yahoo's new technology won't help it win the hearts, and the budgets, of online marketers. Early research by comScore Networks indicates Yahoo ads are getting a boost from Panama. The so-called click-through rate, a measure of an ad's effectiveness that divides the total clicks on search ads by total searches, rose in each of the two weeks after the ranking model was introduced, comScore said Feb. 26.

Indeed, Yahoo's new platform has actually given the company a great advantage in search advertising. To continue our racing analogy, they may still be two laps behind but they're now completing those laps faster than Google can. How? Not only has Yahoo rolled out a ranking algorithm that matches Google's but it leapfrogged the company with the introduction of a new advertising console.

If you're going to go back to the drawing board, Yahoo decided, you may as well tackle all your weaknesses and those of your competitors as well. The new Yahoo interface is beyond anything that Google offers and is both intuitive for first-time users and robust enough for seasoned advertisers.

It employs the user-friendly AJAX Web programming language, for example, to let advertisers readily view how much search inventory is available for a particular search query, how much they need to bid, and what traffic levels will likely result. Yahoo also offers advertisers information on what it calls "assists," or ads that may not have brought in sales immediately, but affected a future buying decision.

Google doesn't offer this. It's one of the ways Yahoo can now demonstrate how effective its ads can be, helping lure new advertisers or a bigger slice of existing clients' budgets.

Yahoo's pit stop will prove to be a sound—if somewhat belated—strategic move, and there's no doubt the company will see revenue improvements before the year is over. With this new focus on paid search, Yahoo should be able to make for an interesting race, and maybe even a photo finish.

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