A “Position Paradox” in Sponsored Search Auctions

1. A “Position Paradox” in Sponsored Search Auctions Kinshuk Jerath (CMU) Liye Ma (Univ. of Maryland) Young-Hoon Park (Cornell) KannanSrinivasan (CMU) Marketing Science(2011), 30(4), 612–627

2. Executive Summary • For a list of sponsored ads in response to a keyword search on a search engine, consumer click behavior depends not only on the ranks of the ads, but also on the comparative quality of the firms in the list • An important implication for sponsored search auctions is the “position paradox” • A configuration of the sponsored list in which a inferior-quality firm bids more than a superior-quality firm, is placed at a higher position, yet receives fewer clicks • Key managerial takeaways • Getting a lower rank can be more profitable for the superior-quality firm • Getting a higher rank at a higher price can be more profitable for an inferior-quality firm even if many (most!) customers realize it is of inferior quality and do not purchase from it • Search engine may strategically overweight inferior-quality firm’s bid—opposite to conventional belief

3. Sponsored Search Advertising • Reputed sellers such as Zales and Tiffany are located below lesser-known sellers such as Adiamor.com, Brillance.com and • B2CJewels.com • This pattern occurs consistently for many keywords, and is verified in larger-scale data • Superior-quality sellers can have an incentive to position themselves lower in the list of • sponsored ads compared to inferior-quality • sellers. • Why? low quality high quality

4. Key Insight • Consumers process the sponsored list to search for their ideal product/service • Search is costly because it involves clicking the link and reading and understanding the web page describing the product or service • Firms’ bids should depend on the profit difference from gaining/losing a position, which depends on quality differential between firms and the search cost of consumers • These effects combine to give the position paradox in which one firm bids more than the otherand is placed at a higher position, yet receives fewer clicks • Lower positions preferred by superior-quality firms because the firm pays a low price, while consumers will reach in search of better product/service • Higher positions preferred by inferior-quality firms even at a higher price because at lower position they will not get enough consumers as search is costly

5. More on the Position Paradox • Found when search cost to process the list of sponsored ads is significant but not too large • Robust to different auction mechanisms, such as pay-per-impression and pay-per-click • When the superior firm has a higher quality premium, the inferior firm is more likely to be at a higher position • When the superior firm has a more widespread reputation, the inferiorfirm is more likely to be at a higher position • Robust phenomenon in data—found in more than 25% cases in data from a Korean search engine

6. Implications for the Search Engine • The position paradox configuration leads to more consumer clicks (because consumers do not find the superior-quality firm at the top, so search for it at lower positions) • In a pay-per-click auction, the search engine wants to increase total number of clicks to obtain more revenue, and thus has the incentive to create the position paradox configuration • The search engine has the incentive to over-weight (i.e., artificially increase using a multiplier) the bid of the inferior firm so that it gets placed higher • Contrary to typical belief (that search engines only over-weight bids of the superior firms)

7. Summary and Conclusions • Consumer click behavior in a sponsored list depends significantly on the comparative quality of the firms in the list and consumer click/search cost • This generates the “position paradox” under certain conditions • Inferior-quality firm bids more than superior-quality firm and is placed at a higher position, yet receives fewer clicks. Alternatively stated, superior-quality firm bids lower than inferior-quality firm and is placed at a lower position, yet receives more clicks • Larger quality premium and widespread consumer knowledge for the superior-quality firm makes the inferior-quality firm more likely to be placed on top • Key managerial takeaways • Getting a lower rank can be more profitable depending on quality • Search engine may strategically overweight inferior-qualityfirm’s bid—opposite to conventional belief

8. EXTRA SLIDES: Illustration with a game-theory model (Please see paper for complete details)

9. Assumptions of Model • Two quality-differentiated firms bid to be placed on a list of sponsored ads in response to a consumer keyword query • Consumers • All consumers know firms are quality differentiated. However, • Informed consumers know the identity of the higher-quality firm • Uninformed consumers don’t know the identity of the higher-quality • Consumers navigate through the list in search of high-quality product, and incur a search cost on clicking on an ad • Consumers also have a subjective preference due to which they may not like a high-quality product • Firms consider how consumers will navigate through the list before purchasing the product

10. Formalizing the Model • Two quality differentiated firms bidding for position • “Inferior”, net value to consumer:V>0 • “Superior”, net value to consumer:V+Q, Q>0 • The superior firm’s margin is higher: mS>mI>0 • Consumers • “Informed”, size 0<φ<1: directly click on superior firm • “Uninformed”, size 1–φ: start searching from the top • Search cost:s>0 per click • “Match” probability of subjective preference:0<p<1 • Auction setup: pay-per-impression and pay-per-click

11. Illustration of Position Paradox (1) Scenario: Medium Search Cost (pV<s<pQ) Informed consumers’ navigation (does not depend on positions of firms): Click superior firm No match (1-p) Match (p) Quit pV < s Buy at superior Uninformed consumers’ navigation: If inferior firm on top If superior firm on top Click inferior firm Click superior firm Match No match No match (1-p) Match (p) Click superior firm Click superior firm s < pQ Quit pV < s Buy at superior No match Match Match No match Quit Buy at superior Buy at inferior Buy at superior

12. Illustration of Position Paradox (2) Scenario: Medium Search Cost (pV<s<pQ) Based on relative sizes of informed and uninformed consumers, and their navigation patterns (on previous slide), the revenues of the firms at different positions are: