Network buys

Department store proprietor John Wanamaker is famously said to have quipped, "Half the money I spend on advertising is wasted; the trouble is, I don't know which half." The founder of Wanamaker's department store is known as the "father of modern advertising." His innovations, in late 19th-century and early 20th-century Philadelphia and New York, included publishing reliable prices in advertisements, copyrighting pitches, offering money-back guarantees and hiring a full-time writer to produce ad copy.

A century later, advertising professionals have gotten more sophisticated and adapted to radio, television, outdoor and digital media. Wanamaker's observation about the value and effectiveness remains profound for merchants and manufacturers, as well as for media outlets that have seen broadcasting or print-advertising dollars reduced to digital pennies. The Internet has made the amount of space that can be filled with advertising virtually infinite, while the recession has all but emptied the advertising coffers of automakers, financial services firms and real estate companies.

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While digital media has disrupted the traditional ad business, it also presents the tantalizing promise to answer Wanamaker's question. Prior generations of digital advertising gave us spam and banner ads that tempted us with animated mortgage holders wildly dancing on the roof of their home or prizes for whacking a mole. The new proposition is that digital ads will allow advertisers to target audiences and track their returns on investment, and provide users with advertising and content that is more relevant.

More than 400 advertising networks have come into existence to sell ad space on the expanding inventory of Web sites and pages. These networks connect advertisers with online publishers, often shopping ad space that a Web site's own sales staff cannot fill. Many of the networks cater to niches, such as food, wine, cars or sports. Increasingly, they are selling access to a specific audience that spans several Web sites, rather than advertising space associated with a site or editorial brand. To keep up with the demand for high-tech ads, one company has founded a "university" in Costa Rica to train a new generation of content producers.

There is growth, optimism and even money flowing into digital advertising, but there is also chaos. Simple presumptions about how to measure and bill for ads are being rewritten.

The long-standard CPM, or cost per thousand, is giving way to cost per click, cost per action, cost per engagement and other ways of gauging how many people have viewed or interacted with an ad.

Forget for a moment the question of whether the economics will support so many competing ad networks, and whether broadcast and print media companies will be able to replace lost traditional advertising dollars. There are problems with our evolving concept of privacy in a society that is increasingly driven by data. People may have gotten complacent about the cookies on their computers that keep information about their activity, but the word "targeting" itself poses a tough semantic hurdle. The industry advocates self-regulation, and many say the behavioral targeting and similar technologies compile anonymous activity, not Orwellian dossiers. Still, concerns over privacy have tripped up even Facebook Inc., and some voices in Congress have begun to call for increased regulation over this nascent technology.

If this seems like a bit of a digital Wild West, well, it is. "Why do you think 400 is too many?" asks Frank Addante, CEO of the Rubicon Project, when asked about the number of ad networks. Rubicon, based in Los Angeles, connects advertising networks with publishers to sell unsold ad space. Its roster includes 1,500 publishers and more than 430 networks. "Let's put that in a different context," Addante says. The industry generates $65 billion in global revenues today, and is expected to produce $100 billion by 2011. If you divide $100 billion by 400, he says, "that's an awful lot of $250 million companies," with enough money to go around. He points to other markets such as financial services, real estate and insurance that support much larger numbers of companies. "There is actually room for a lot more ad networks," Addante says.

Though Google Inc. and Yahoo! Inc. have dominant positions, Addante suggests advertisers prefer to spread their business among several companies. Rubicon has raised $33 million from investors including Clearstone Venture Partners, Mayfield Fund, IDG Ventures and Silicon Valley Bank. The company says it reaches more than 450 million people globally, enabling its partner networks to compete against larger competitors.

Adify, which Cox Enterprises Inc. purchased for $300 million in 2008, also works with smaller ad networks. One client: Australian chef and entrepreneur Benjamin Christie. In his culinary career, Christie favors ingredients used in aboriginal societies. His Web site features recipes for dishes such as kangaroo lasagna and panna cotta flavored with wattleseed, which come from acacia trees. Christie's Sydney outfit, Gourmet Ads Pty. Ltd., places ads on restaurant, food and wine sites. He says the company, less than a year old, handles 46.5 million pages globally, with about 35 million in the U.S. "Because I work in an industry that has a lot of community, our name spread virally," he says.

Christie originally planned to focus on Australia, but within weeks he was dealing with sites in the U.S. Now he works with teams from Adify to expand into other English-speaking countries.

The borderless nature of the Internet presents a potential problem for advertisers. There is no telling where the audience is. Six Flags over Georgia doesn't get much bang for its buck if the person copying a recipe from a newspaper's Web site is in Tbilisi. Early ad networks were essentially outsourced sales teams. Often they existed off the unsophisticated arbitrage of buying space cheaply from sites and marking up the price it charged to advertisers.

Several niches have since evolved that focus on geography, pricing models, a particular subject, techniques such as behavioral targeting, mobile networks or automated exchanges such as Google's DoubleClick Inc. and Yahoo!'s Right Media Inc. CBS Corp. developed a vertical advertising network that sells ads for its sports properties.

Internet advertising revenue in the United States exceeded $23 billion in 2008, still increasing but more slowly than in previous years. The Interactive Advertising Bureau says 45% of the total came from search ads. Display ads, including banners, digital video and "rich media" interactive content, accounted for a third. Classifieds represented 14%, lead-generating ads that advertisers pay to refer customers or provide customer information came to 7% of the total and e-mail advertisements produced 2% of sales.

There are growing pains. "There was a long era of trial and error in radio, print and TV," says J.T. Batson of Rubicon, who oversees relations with publishers.

The first commercial radio broadcast occurred in Pittsburgh on Nov. 2, 1920. The first commercial television broadcast followed on July 1, 1941, in New York. Internet advertising is really entering only its second decade.

"Online advertising hasn't been around that long," Batson says. "To think it's as big a market as it is now shows the enormous potential it has."

Publishers have several concerns with ad networks. "Their biggest complaint is, 'They don't pay me enough for my inventory,' " Batson says. The quality of ads a network places on a publisher's site can be another worry. So can the potential conflict if a company has a sales staff but uses an outside network to move some of its inventory. The bewildering number of networks from which to pick does not simplify the process.

New York Times Co. senior vice president of digital operations Martin Nisenholtz explained another problem during an earnings call earlier this year. "We have seen an increasing amount of inventory on the marketplace, and we've seen that pouring in for the last year or so through the social networks and through other, what I would call nontraditional-content, companies," Nisenholtz said. "The second thing that has happened this year has been the real onslaught of the advertising network business. There are over 300 ad networks in the space now. And so the combination of those two things has put some pressure on rate." Nisenholtz's stats, delivered in January, are already out of date.

Advertisers need to get their heads around new concepts, as well. A highly targeted ad has a different value proposition than a spot on a hit situation comedy, the morning drive or the back page of a national paper. "There is a fair amount of education and evangelism to help the end marketer understand the value and the opportunity," says Raleigh Harbour, who heads ad network development for Rubicon. "Educating and being an evangelist is hard. It's much easier when it's something they've been doing for 50 years."

There is also the matter of producing all of those ads. As messages are tailored and refined to specific groups, the number of ads needed to reach a critical mass increases.

Jay Noce, the chairman and chief executive of digital media production company avVenta Worldwide LLC, perceived this need when he created his company. "If you look back five years ago, you had the big three or four networks. You used to be able to build a static ad and place it in four different spots," Noce says. "Now you have to slice and dice it across 400 ad networks. Then you have to slice and dice it across the mobile networks, and then across the social media networks."

For one client, avVenta made almost 500 iterations of the same ad. "All of this customized content takes people to build it," he says.

The company is based in Charleston, S.C., but has 480 employees in Costa Rica, the majority of whom produce digital content, whether making ads, quality assurance or other related tasks. The company has opened a digital advertising university in a partnership with Costa Rican government agencies to train 1,000 to 1,100 workers. Noce says the company plans to hire 400 more workers in Costa Rica this year.

The company raised $20 million in funding from New York firm TZP Group LLC in January and looks to expand. "We are looking at acquisitions to double or triple the size of the business in the next 18 months," Noce says.

The number of ad networks and the proliferation of technologies shows the industry is ripe for M&A. "You will see consolidation," says Roderick Moon, senior vice president in Jefferies & Co.'s media banking group.

Ad networks have proliferated as online advertising became widely accepted. "You need to have compelling technology. It's not just having a network of sites," he says. "Vertical specific networks are better positioned, as well as those that focus on a particular audience. Behavioral technologies are also well positioned. Advertisers are getting more comfortable about behavioral targeting and how it works. A slow economy actually accelerates the shift toward behavioral targeting because it provides accountability."

As recent dealmaking demonstrates, it's not just Google and Yahoo! buying online intelligence. Dublin advertising and communications giant WPP Group plc made a $25 million investment in Orem, Utah, analytics company Omniture Inc., saying the move would allow it to provide new offerings to chief marketing officers. Silicon Valley ad network Glam Media Inc., which raised $10 million from Mizuho Venture Capital in April, bought targeting technology company AdaptiveAds Inc. in January to expand its capabilities to follow audiences and brands.

AOL LLC tried to reinvent itself as a more audience- and advertising-centric company with a string of acquisitions that began in 2004. The Time Warner Inc. unit bought Advertising.com, Quigo Technologies Inc., Tacoda Inc., Third Screen Media, AdTech AG, Buy.at and Bebo Inc. The strategy initially provided growth, as AOL's ailing Internet service business faded. Despite the dealmaking, AOL remains adrift.

Pali Capital Inc. analyst Richard Greenfield used the term "free fall" to describe the company's Ebitda trajectory in a recent blog. After a change of leadership in March, there is a growing expectation that Time Warner will rid itself of the unit.

New York technology boutique Petsky Prunier LLC tracks M&A, private equity and venture capital activity among interactive advertising companies. In the first quarter of 2009, there were 30 deals totaling $321 million. Mobile advertising and ad networks were the most active niches, with five transactions each. The total has fallen significantly from the first quarter of 2008, when there were 51 transactions valued at $1.1 billion. Ad networks were the most active segment, with 14 transactions. Interactive agencies followed, with 10.

For all the developments and investments in behavioral targeting and other forms of online advertising that track an ad's performance, the thesis is still being proven in the market. "It's still unclear whether it's going to turn into the gold mine that so many people think," says Yankee Group Research Inc. director Carl Howe. "If BT is great, then people ought to pay more for it. The problem is that that doesn't seem to have happened."

Rather than target 1,000 people who might or might not care about your product or service, Howe says, targeted advertising companies seek out 10 people who fit your precise market. This group of 10 readers or viewers is, say, 100 times better than the other ones. A publisher should be able to charge 50 times more.

"The trouble is it doesn't work that way," Howe says. "Advertisers are rarely willing to pay more than a factor of 3 to 5."

Washington presents a variable for behavioral targeting and other forms of advertising that keep tabs on users. The Federal Trade Commission has favored industry self-government of online ad practices. Julius Genachowski, nominated to head the Federal Communications Commission, has significant industry credentials, as a veteran of Barry Diller's IAC/InterActiveCorp, Rock Creek Ventures and General Atlantic Partners, now General Atlantic LLC. However, two Democratic Congressmen, Reps. Rick Boucher of Virginia and Edward Markey of Massachusetts, have suggested new laws are needed to protect online privacy.

"It's fine to target behavior when you buy diapers and potato chips," says Howe. "You get into other areas like medications and what kind of medical conditions you have and people get very uncomfortable."

One issue is that behavioral targeting means different things to different people. Tacoda, which AOL purchased, developed a service that tracked Web users within a network of Web sites but did not otherwise follow them or keep information about people. Other forms could be more pernicious.

"I don't think there's a big risk, and I don't think people really care," says Stan Sandberg of the New York boutique Gridley & Co. LLC. Behavioral targeting is not about knowing an individual's personal information, he says. The applications in the marketplace create a more anonymous view of an IP address and its behavior on a network.

"How many people do you know who actually clear out their cookies on a regular basis?" Sandberg asks. Other industries collect far more data, he says, adding, "Credit card companies know more about me than my wife probably does.

"In the end, people who are online are online for entertainment or because they want to learn about something, buy something or find something and do it efficiently," Sandberg says. "Behavioral targeting helps you do that. If I'm getting served up the ads and content that are most relevant to me, I am going to see that as a benefit."

There have been cases that created public alarm over privacy. NebuAd Inc. drew the ire of Congress in 2008 for its practice of paying Internet service providers to let them track Web activity so it could deliver targeted ads, something it has since abandoned. For all its success in defining paradigms of social media, Facebook tarnished itself with its "Beacon" advertising project, which linked advertisers outside the site to users' profiles, crossing a line that, while perhaps unwritten, was clearly beyond the expectations of many. Like NebuAd, Facebook revised its policies after criticism erupted over its use of data.

Despite its prominence in online advertising, Google has trodden lightly in behavioral targeting. The company has maintained it does not practice behavioral targeting, although posting ads based on searches is a form of matching ads to a user's online activity. In a March entry on the Google blog entitled "Making ads more interesting," Google unveiled something called "interest-based" advertising. "These ads will associate categories of interest -- say, sports, gardening, cars, pets -- with your browser, based on the types of sites you visit and the pages you view," the blog said. "We may then use those interest categories to show you more relevant text and display ads." Sounds a lot like a euphemism for behavioral targeting.

Yankee Group's Howe says the larger challenge in today's media world is to find an audience. "We are overwhelmed with content," he says. The audience for the top-rated shows on television has declined every year for the past 30 years, he says. The Internet has made it worse. Amid all the change and fragmentation of media, the one constant has been the amount of consumer attention. "There is only so much time we spend looking at screens or looking at newspapers," he says. "The real problem for advertisers going forward is not going to be behavioral targeting; its finding an audience at all."

Wanamaker did not have to deal with such complexity, but one of his aphorisms is a guide to the fundamental issues of digital advertising and behavioral targeting: "The customer is always right."

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