Google AdWords are great. In fact we bootstrapped RevaHealth.com for the first year using AdWords. We love the way even the smallest company can compete with the largest using AdWords. It’s also great because everything is measurable. You can look at every last cent of expenditure and ensure that you are getting value.
So what is the problem?
The problem is that Adwords is a competition between advertisers for clicks. Each individual advertiser is looking for the maximum number of clicks for the minimum cost. Essentially the whole system of AdWords is one massive game that obeys the rules of game theory. And unfortunately a game does not guarantee a good outcome for its players – as Yale Professor Ben Polak states ‘rational choices can lead to outcomes that suck’.
To illustrate this imagine you are one of 40 retailers selling mp3 players on line. To make things simple let’s pretend that every one of the retailers makes €10 gross profit from a sales and each retailer converts 10% of visitors to a sale. Over time what will the price of a click approach?
The answer is that the price of a click will approach one euro which equals the gross profit of the sale. The reason for this is that if the current price of a click is €0.98 there will still be someone who isn’t getting any clicks that is willing to pay €0.99 for a click in order to earn €0.01 because even a single cent is better than no cents.
This is obviously an outcome that ‘sucks’ for the players of the game as 99% of the gross profit from their sale goes to Google. A much better outcome for the player would be if they all colluded and agreed to evenly distribute the clicks between them and pay Google €0.01 per click.
So in an evenly distributed competitive market the cost of advertising will approach the gross profit margin.
For small businesses and start-ups it’s even worse
The cost of AdWords will only approach the gross profit margin if all of the participants are playing with the same cards and are playing logically. This is obviously not the case. Different companies have different profit margins, different advertising copy, different conversion rates, and different Google quality scores and advertise under different keywords.
All of this combines to make the game very difficult to play and impossible to optimise. The problem for small businesses & start-ups is that they frequently don’t have the business metrics in place to be to effectively tell what the price of a click is worth.
In the case of start-ups the product and business landscape is changing so rapidly it invalidates historic data. In the case of small non-IT companies they typically need to spend many times their initial AdWords budget simply to get their initial set of metrics.
Google’s simple and friendly interface exacerbates this in many ways. It is so easy to control and change your advertising variables that frequently companies don’t give a campaign enough time to draw any accurate conclusion. This leads to consistent and continual tweaking without real lessons being learned.
The danger for these businesses is that when they look at using Google AdWords that they take the wrong approach. Rather than asking ‘how much is a click worth to me?’, they ask ‘How much does a click cost’. The attraction of this approach is that it is much easier – you simply raise the cost per click until you are getting the number of clicks that you want.
This approach is terrible and in today’s competitive market place is almost certainly going to lose you money.
The reason for this is two-fold. Firstly, the word is full of suckers and AdWords is no exception. Take a look at your AdWords competition and ‘if you can’t see the sucker in the room …’
Every minute of the day some sucker signs up to Google Adwords with a €10K budget and bids up to first position without so much of a thought (frequently these are agents working on behalf of clients and on client instructions). They burn through their budget and don’t get a return and disappear, however no sooner than they’re gone they are replaced by another sucker. After all ‘there’s a sucker born every minute’.
Secondly, your competition is playing with a different deck to you. Maybe their conversion rate is double yours, maybe their gross profit is higher or maybe they’re a large company with plenty of capital that are deliberately over spending in order to starve you of traffic.
The point is that when you are competing against suckers and sensible players who are playing with different decks then you are mad to be judging what you should pay on the basis of what they are paying.
In Summary
Google AdWords is now a mature, competitive marketplace for advertising. It is no longer the “new medium” it was four years ago where advertising was so cheap pretty much anyone could make money from it. Now to make money from AdWords you need to be a savvy marketeer in complete control of your metrics. If you are not then you are either going to be underpaying or overpaying for your click. If you are chasing the market the chances are that you are overpaying and losing money.
The corollary to this is also true. If you know your metrics and are willing to put the time and management attention into Google AdWords then it can be a tremendously effective and controllable way of getting new business.
How have you gotten on with AdWords in your company?
Very well put. You also outlined the caveats quite clearly too
I like to use the analogy of a poker game (I hope this comment gets through moderation now). If you are a professional player playing with the yobs down the pub who don’t really know how to play very well, you get sucked into playing “their game” and ultimately, you’re chances are just as much as those around you.
With AdWords, it’s important to focus SOLELY on your own company KPIs. If it costs an extra 5 cent to move up a position, forget it if it’s not in line. The best bet is to work on your account independently of the other advertisers. Optimize your CTRs, Conversion rates and margin (back end sales) and EVENTUALLY your return will be so great that you CAN afford to bid higher and get the higher volume (but more expensive) traffic.
Far too few advertisers focus on the back end at the beginning. It’s the best time IMHO. You can bid as low as you need to and optimize the hell out of the minimal traffic that you get.
Increasing bids should be the last part of the process.
Once again someone succeeds in distilling my 1000 word post into a couple of sentences. I should really try that.
From my experience, the bigger players on Adwords have the lowest CPC. They let the suckers fight for top positions on high volume keywords and instead they manage mutiple accounts with millions long tails keywords with very low CPC.
To keep the poker game reference, it is not about winning most numbers of hands (or getting most clicks on Adwords), but about getting most of the money out of it.
Spot on Merrill.
Let’s not forget that the larger advertisers have a LOT of data to work with, they (in general) have higher than normal normalized CTRs. As a result, they have higher account level quality scores which allows them to afford a higher position, often times for cheaper than their newer competitors without a feel for the average CTR.
It makes sense for Google and for their users but it’s a tough circle to break into if you’re new to that particular vertical sometimes.
When we used Adwords we advertised on 100s of thousands of keyword combinations and automatically adjusted bids daily. We put man years of effort into getting the systems right. In the end it worked for us but not without a deep understanding of our business and a huge amount of integration effort.
Dear Mr. Caelen,
I have been doing a lot of research on google adwords as I am going to be starting our website soon. I came across this blog and found it pretty interesting.
We are a medical tourism company and going to have a global reach as well.
Just to get a rough idea, how long did you continue with ad words and approximately what was your monthly budget (or what would you recommend it should be). And do you think its a good idea to go for the long tail?
Our initial adwords campaign was going at full steam for about 12 months. After that it tailed off for another 6 months or so as organic traffic took up the slack. We still use adwords to test campaigns and keywords but we don’t use it wholesale to gain traffic anymore.
You shouldn’t have a monthly budget. What really matters is that you don’t pay more for a click that it is going to give you in profit. It doesn’t matter how much money that you have spent in a given month – if you can turn a profit by buying another click then you should buy it.
Going after the long tail is a great way of getting very targeted clicks, however it is a LOT of work.
So my general advice is start small and develop your business metrics. Once you are confident in your conversion rates and your profit margin you can work out what you should be paying per click then you can start to scale the operations.
And there is the crux. “Without a deep understanding of our business”. You really nailed it Caelen.
This is why it is *sometimes* not the best idea to outsource your PPC. Unless the agency takes the time to understand your business OR you make sure the agency bills off YOUR metrics, you’re doomed from the start.