Google and the Click Fraud Menace

This case was written by Jyothi Gupta, under the direction of Rajiv Fernando, IBS Center for Management Research. It was compiled from published sources, and is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of a management situation.

2006, IBS Center for Management Research. All rights reserved. To order copies, call +91-08417-236667/68 or write to IBS Center for Management Research (ICMR), IFHE Campus, Donthanapally, Sankarapally Road, Hyderabad 501 504, Andhra Pradesh, India or email: info@icmrindia.org

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Google and the Click Fraud Menace

Click fraud is a fin sticking out of the water: Youre not sure if its a great white shark or a dolphin.1 - John Squire, Vice President (business development), Coremetrics2, in July 2004. Search engine traffic is among the most valuable traffic to a web marketer. Click fraud, charging marketers for poor quality non-converting clicks, could poison the well.3 -Kevin Lee, Board Member, SEMPO.org4, in February 2005.

INTRODUCTION
On March 08, 2006, a post by Nicole Wong, Associate General Counsel at Google Inc. (Google), on the companys official blog5, said that the company was close to an out-of-court settlement in a class action lawsuit filed by Lanes Gifts & Collectibles (plaintiff), an online retail store. The lawsuit was filed in February 2005 in an Arkansas state court against Google, Yahoo! Inc. (Yahoo!), Time Warner and its America Online and Netscape subsidiaries, Lycos, Ask Jeeves Inc., FindWhat.com Inc., Buena Vista Internet Group, and Look Smart Ltd. In the lawsuit, the plaintiff had accused the web search companies of overcharging, by charging them for invalid clicks on the plaintiffs online advertisements. Googles blogpost said the settlement agreement would cover all advertisers who had been charged and not reimbursed for invalid clicks from 2002 onward, as this was when Google had launched its cost per click advertising program. Google said it would offer credits for all eligible invalid clicks. These credits could be used to purchase new advertisements with Google. The total value of this settlement, including legal fees, was expected to not exceed US$ 90 million. As of April 2006, the settlement had yet to get the approval of the court, after which it would become final. Most of the other popular search engines named in the lawsuit were non-committal on Googles decision. However, it was reported that Yahoo! would continue with its legal battle on this issue. A Yahoo! spokesperson said, We stand firmly by our proprietary click protection system, and look forward to vigorously defending our position in this matter.6
1 2 3

5 6

Stefanie Olsen, Exposing click fraud, http://news.com.com, July 19, 2004. Coremetrics is a web analytics firm. Click Fraud, an industry crisis, or blip on the search engine marketing, www.clickfraudreport.com, February 23, 2005. The Search Engine Marketing Professionals Organization (SEMPO) is a non-profit professional association which focuses on increasing awareness and promoting search engine marketing across the world. http://googleblog.blogspot.com/2006/03/update-lanes-gifts-v-google.html, March 08, 2006. Juan Carlos Perez, Google to settle click-fraud lawsuit for $90 million, www.networkworld.com, March 09, 2006. 1

Google and the Click Fraud Menace

Googles decision received mixed reactions from investors, analysts, and advertisers. Some analysts felt that the settlement would not really affect the Internet search giants business. Jim Friedland, an analyst at SG Cowen7, said, There are a number of issues that could hurt Google, but we believe click fraud is not one of them. We continue to expect near-term sentiment to be negative and the stock is likely to go down on this news item. Nevertheless, the fundamentals remain unchanged.8 Other analysts felt that the US$ 90 million settlement amount was very low seen against Googles revenues of US$ 6.1 billion and net income of around US$ 1.5 billion in 2005. Many analysts believed that Google was sending out the message that click fraud was a relatively small issue as the settlement amount was low when compared to the companys overall revenues. However, they felt that the problem of click fraud would not go away so easily. Chuck Richard, an analyst with research and consultancy firm Outsell, said, Its a mistake to equate the relative trivial size of the settlement to any indication of what click fraud actually is. This is a significantly heated subject, and the advertisers dont feel like it is getting the proper attention from Google, Yahoo!, or Microsofts MSN.9

BACKGROUND NOTE
Internet advertising began to emerge as an important medium for advertisement by marketers across the world in 1994. In 1999, PricewaterhouseCoopers (PWC)10 reported that the Internet was the only electronic ad supported medium to record revenues of US$ 4 billion in the first five years since inception. In March 2006, the Interactive Advertising Bureau (IAB) 11 and PWC reported that Internet advertising was expected to fetch revenues of more than US$ 12.5 billion in 2005 when compared to US$ 9.6 billion in 2004 (See Figure I for Growth in Internet Advertising Revenues). Figure I

Growth in Internet Advertising Revenues

14 12 9.6 8.1 4.6 1.9 7.1 6 7.2

12.5

US$ Billion

10 8 6 4 2 0 1998 1999

2000

2001 2002 Year

2003

2004

2005 (E)

Source: Interactive Advertising Bureau / PWC.

7 8 9 10

11

SG Cowen is a US Investment bank specializing in technology and healthcare. Kate DuBose Tomassi, Googles click fraud settlement seen as non-event, www.forbes.com, March 09, 2006. Chris Kraeuter, Why click fraud questions wont stop, www.forbes.com, March 09, 2006. PricewaterhouseCoopers is the worlds largest professional services firm and one of the big four auditing firms in the world. The Interactive Advertising Bureau, founded in 1996, represented over 225 companies that were actively involved in interactive advertising. This association is dedicated to helping online companies and interactive media companies increase their revenues and set industry standards. 2

Google and the Click Fraud Menace

The advent of the Internet opened up the possibility of personalized messages being delivered to targeted individuals. Online advertising enabled marketers to target specific customer segments, gather information, assess sales potential, and ensure product/service exposure across geographic boundaries. The Internet had the capacity to reach a global audience faster than any other medium. The multiple forms of online advertising tools used by advertisers over time were aimed at developing exciting, interactive, eye-catching advertisements that could draw consumers attention while at the same time increasing their brand or sales online. The increase in the number of Internet users worldwide also had given a tremendous boost to this medium. Pay per click (PPC) search based advertising had emerged as one of the most effective ways of promoting business online. This enabled marketers to drive instant and revelant traffic to their website. Over 80% of all searches on the Internet in 2005 were done through search engines like Google, Yahoo!, and MSN (Refer to Exhibit I for market share of online search engine companies). PPC-based advertising revenues were important for leading search engine companies like Google, the worlds most popular search engine, which had become synonymous with searching the Internet for information. This California-based company was established in 1998 by two Stanford University students, Larry Page and Sergey Brin. The phenomenal growth in search-based advertising, in the years 2003, 2004, and 2005, made Google one of the fastest growing Internet companies. In 2005, the search based advertising format accounted for 41% of all internet advertising revenues (Refer to Exhibit II for a break up of Internet advertisement revenues by ad format). Almost 98 percent of Googles revenues in 2005 were from its AdWords and AdSense PPC programs (Refer to Exhibit III for a brief note on Google and its AdWords and AdSense Programs). Yahoo!, the second most popular search engine, also recorded good growth from PPC-based advertising (Refer to Exhibit IV for a brief note on Yahoo!). Analysts estimated that keyword advertising accounted for about half of Yahoo!s revenue in 2005.12

THE PHENOMENON OF CLICK FRAUD

Click fraud usually referred to clicking of online ads on purpose without a genuine intention of buying or knowing more about the product or service. These invalid clicks, done manually or through software programs called online bots, tended to drive up advertisers costs and eat up promotional budgets without generating any commensurate return. Sometimes, a firms competitors were the ones who generated these invalid clicks to drive the firm out from the auction process. This helped them in pushing their own ads to a higher level. Click fraud also came in another form publishers of text ads from Googles AdSense Program clicked on the ads posted on their website on purpose to boost their income. This type of click fraud could be as simple as one person starting a small website, becoming a publisher of ads, and clicking on those ads to generate revenue. Often, the number of clicks and their value was so small that the fraud could go undetected. For large scale frauds, special software programs were scripted, which simulated people clicking on ads on web pages.This was more prevalent in the medical, financial, or legal sectors where the ads were more expensive. In order to remain undetected, the perpetrators of click fraud closely simulated genuine human visitor behavior. They knew that the IP address, number of page views, and time spent on the site were important when search engine firms looked to identify click fraud. They used automated tools and conducted their attacks from networks of anonymous proxy servers, thus trying to mimic legitimate traffic patterns.
12

http://aboutclickfraud.com/blog/2006/01/25/how-click-fraud-could-swallow-the-internet/ 3

Google and the Click Fraud Menace

Internet marketers, who were confronted with higher advertising fees on search networks, grew increasingly concerned over this issue. Some saw click fraud as one of the costs of taking up PPC programs. Analysts felt that the advertisers would continue to hold this view as long they perceived that their PPC programs still delivered value. In addition to being a drain on the ad campaign budgets of the advertisers, click fraud also caused an increase in the cost per click for keywords. Search engines based their keyword pricing on how popular a search term was and how many people were competing for it. Therefore, if click fraud was directed at a certain keyword, the cost of that keyword could increase for all advertisers, and not just the particular competitor who may have been the target of the click fraud attack.

QUANTIFYING CLICK FRAUD

Internet search giants like Google and Yahoo! knew that click fraud posed a threat to their business. In December 2004, at an investor conference, Googles Chief Financial Officer George Reyes (Reyes) admitted the threat of click fraud to Googles business. He said, I think something has to be done about this (click fraud) really, really quickly, because I think, potentially, it threatens our business model.13 Analysts and search engine marketing experts found it difficult to get the actual figures or quantify the number of click frauds that were taking place. Its hard to tell how big the problem is, but people are looking at it closer and closer as the cost of search advertising goes up,14 said John Squire, Vice President (business development) of Coremetrics. In August 2005, a research report published by MarketingExperiments.com, an online marketing research outfit, estimated that as much as 29.5 percent of PPC clicks could be fradulent. The report said that Google could detect only a small proportion of those fraudulent clicks and grant a refund. Most analysts estimated click fraud to be anywhere in the range of 5 percent to 20 percent of clicks on Internet ads.15 However, in April 2006, the Click Fraud Network16, which prepared a Click Fraud Index, estimated that the industry wide average for click fraud was 13.7 percent. For well-known search engines like Google and Yahoo!, click fraud was estimated at 12.1 percent. Advertisers and analysts also felt that there was an increasing need for an independent organization that would correctly assess the level of click fraud and coordinate with search engine companies and advertisers to counter it.

COMBATING CLICK FRAUD

With reference to the specific methods used by Google to identify invalid clicks, Shuman Ghosemajumder, Business Product Manager for Trust & Safety at Google, said, There are many things we do to detect invalid clicks, including looking at duplicate IP addresses, user session information, network information, geo-targeting, and browser information. These are all important signals for detecting invalid clicks.17 He added, The technology we use to detect invalid clicks is highly sophisticated and was developed by some of the worlds leading experts -- PhDs in artificial intelligence, machine learning, and statistics. Were reluctant to share more about our technology and methods, however, because doing so would make it easier for fraudsters to try to defeat our systems.18
13 14 15 16

17 18

Krysten Crawford, Google CFO: Fraud a big threat, http://money.cnn.com, December 2, 2004. Stefanie Olsen, Exposing click fraud, http://news.com.com, July 19, 2004. Brad Stone, When Mice Attack, www.msnbc.msn.com, January 24, 2006. This was a free service which advertisers could use to track their online advertisement campaigns. This service was provided by Click Forensics Inc. http://adwords.blogspot.com/2006/03/about-invalid-clicks.html, March 08, 2006. http://adwords.blogspot.com/2006/03/about-invalid-clicks.html, March 08, 2006. 4

Google and the Click Fraud Menace

In November 2004, Google filed a case against Auctions Expert International LLC, a company based in Houston, for trying to increase its revenues by clicking fraudulently on text-based ads on the company website.

FUTURE OUTLOOK
Advertisers began to closely monitor their customer conversion ratio with corresponding changes in the pay per click ratio. They also monitored their site logs regularly and reported any suspected case of click fraud to the respective search engine for further action. Installing fraud tracking tools on their website to curb this menace was also considered. Helping online advertisers counter the threat of click fraud became a hot business opportunity. Many Internet marketing and search engine optimization firms offered consulting services and software products that helped detect and prevent click fraud. Online advertisers also started to look to blogs, images, press releases, and video content as alternate advertising options. Advertising in e-zines too became a popular promotion tool. Despite the efforts of both search engines and advertisers, there was growing concern over the rise of the click fraud menace. Advertisers felt that the absence of clear standards for determining what a fraudulent click was and the lack of a third-party clearinghouse to monitor the situation meant that they could not do much other than going to court when there was a conflict. Some experts believed that a probable solution would be to have an independent auditor who would use data from search engines and advertisers to determine in a neutral environment whether the suspected clicks were fraudulent or not. Search engine companies, however, were against this idea as they felt that sharing of the data would harm their business, as their rivals could get access to the data. For companies like Google that were hugely dependent on online advertisement revenues, click fraud was clearly a threat. In addition, there were warnings of a slowdown in search advertising revenue growth by 2010. In March 2006, Reyes, speaking at a Merrill Lynch Internet conference, said that growth was starting to slow in search. He said, Clearly our growth rates are slowing. We see that each and every quarter. We are going to have to find new ways to monetize the business.19

19

Google growth forecast spooks Wall Street, http://money.cnn.com, March 02, 2006. 5

Google and the Click Fraud Menace

Exhibit I

Market Share of Online Search Engine Companies (2005)

Others 19%

MSN 11%

Google 48%

Yahoo 22%

Adapted from Wolfgang Gruener, Google grabs 48% market share in online searches, http://www.tgdaily.com, March 03, 2006.

Exhibit II

Internet Advertisement Revenues by Ad Format (In %)

Ad Format Keyword Search Display Advertising Classifieds Rich Media Referrals/Lead Generation Sponsorship E-mail Slotting Fees
Source: IAB and PWC.

2003 35 21 17 10 1 10 3 3

2004 40 19 18 10 2 8 1 2

2005 41 20 17 8 6 5 2 1

Google and the Click Fraud Menace

Exhibit III

Brief Profile of Google

Google Inc. is a company that focuses on online search services. The companys headquarters, also called Googleplex, is based in Mountain View, California, U.S.A. The company has sales and engineering offices around the globe. As of June 30, 2005, the company had over 4,183 employees. Google operates many international website domains, the most popular being www.google.com. Google is a widely popular search engine because of its speed, accuracy, and ease of use. The company also serves corporate clients, including advertisers, content publishers, and site managers with cost-effective advertising and a wide range of revenue generating search services. Google generates revenues primarily through two programs: highly targeted advertising and online search services. The advertising options include the AdWords and AdSense programs. The online search services that Google offers include the Google Search Appliance, a scalable and secure device that provides Googles quality search across individual websites or intranets. Google Wireless Services is another search service which delivers Googles search results via handheld devices like PDAs20, wireless phones, and other mobile devices. KEY FINANCIALS FOR GOOGLE (All Figures in US$ Million) Particulars Total Revenues Gross Profit Operating Profit Net profit Googles AdWords Program Googles AdWords program aimed to provide an effective advertising option for businesses of any size. The program allowed advertisers to bid for certain keywords that would appear on the section on sponsored links on Googles website and partner networks. Whenever an Internet user searched for a topic related to that keyword, the highest bidders text ad would be placed on the highest spot. The programs cost-per-click (CPC) pricing allowed the advertiser to pay only for the clicks they had received at a price set by them (the maximum CPC an advertiser could choose varied from 1 cent to US$ 100). An ads position on the page was determined by a combination of the CPC and the click-through rate (number of times the ad had been clicked on by users divided by the number of times the ad was displayed) so that the most relevant ads were displayed more prominently. There was a nominal, one-time activation fee for Google AdWords. After that, the advertiser paid only for clicks on their keyword-targeted AdWords. Advertisers could control their costs by selecting how much they were willing to pay per click or per impression and by setting a daily budget for spending.
Contd
20

2005 6,138.6 3,860.9 2,170.3 1,465.4

2004 3,186.2 1,880.0 841.2 399.1

2003 1,465.9 895.1 342.5 105.6

PDA stands for Personal Digital Assistant. 7

Google and the Click Fraud Menace Contd

Another form of pricing was the cost-per-impression (CPM) wherein the marketer could set the maximum amount (max CPM) they were willing to pay per 1000 impressions the ad received. (The number of impressions was the number of times an ad was displayed on Google or on sites/products of Googles network.) The price paid was the same whether users clicked on the ad or not. This was different from the cost-per-click (CPC) campaigns, where advertisers paid Google only when their ad was clicked on. Googles AdSense Program Google AdSense was a program for website publishers to display relevant Google ads on their websites content pages and earn money. Googles technology would match a publishers website content with the relevant ads and place those ads on their website. Every time a person clicked on one of these ads, the advertiser paid a fee and Google shared that fee with the web publisher. Google had built up an extensive advertiser base which had ads for all categories of businesses. Ads were also targeted by geography and global businesses could display local advertising with no additional effort.
Compiled from various sources.

Google and the Click Fraud Menace

Exhibit IV

Brief Profile of Yahoo!

Yahoo! is a leading online information portal, which has more than 400 million visitors to its network of websites. This portal has a mix of news, entertainment, and online shopping, as well as its own search engine, and Internet directory. Yahoo! was founded by David Filo and Jerry Yang, two Stanford University graduates, in January 1994. It was incorporated in March 1995 and became a publicly traded company in April 1996. In July 2003, Yahoo! announced that it would buy Overture Services, a search engine company, for US$ 1.63 billion. Analysts saw this as an attempt by Yahoo! to counter Googles dominance in the online search market. By 2005, Yahoo! had around 9800 employees and US$ 5.25 billion in revenues. Yahoo! publishes its content in 15 languages in 20 countries. It generates most of its revenue through advertising sales, by means of subscription charges for premium services. In addition, Yahoo! provides online marketing and other commercial services and it offers Internet access through partnerships with telecommunications companies. The company also offers registered users personalized Web pages, e-mail, and message boards. Comparison of Key Financials for Yahoo! (All Figures in US$ Million) Particulars Total Revenues Gross Profit Operating Profit Net profit
Compiled from various sources.

2005 5,257.7 3,449.4 1,107.8 1,896.2

2004 3,574.5 2,441.3 688.6 839.6

2003 1,625.1 1,372.3 295.6 237.9

Google and the Click Fraud Menace

Additional Readings and References:

1. Krysten Crawford, Google CFO: Fraud A Big Threat, http://money.cnn.com, December 2, 2004. 2. Stefanie Olsen, Exposing Click Fraud, http://news.com.com, July 19, 2004. 3. Click Fraud, An Industry Crisis, Or Blip On The Search Engine Marketing, www.clickfraudreport.com, February 23, 2005. 4. Brad Stone, When Mice Attack, www.msnbc.msn.com, January 24, 2006. 5. Burt Helm, Click Fraud Gets Smarter,www.businessweek.com, February 27, 2006. 6. Jeff Fischer, Google and Click Fraud: Itll Be A Non-Issue, www.completegrowth.com, February 28, 2006. 7. Google Growth Forecast Spooks Wall Street, http://money.cnn.com, March 02, 2006. 8. Click Fraud: How Real Is the Threat? www.emarketer.com, March 06, 2006. 9. Why Click Fraud Questions Wont Stop, www.forbes.com, March 09, 2006. 10. Chris Nuttall, GoogleUnder FireOnClick FraudDetails, http://msnbc.msn.com, March 09, 2006. 11. Google to Settle in Click Fraud Case, www.pcmag.com, March 09, 2006. 12. David Utter, AdWords Addresses Click Fraud Questions, http://www.webpronews.com, March 09, 2006. 13. Elinor Mills, Google Settlement Or Not, Click Fraud Wont Go Away, CNET News.com, April 10, 2006. Reference Websites: 1. http://googleblog.blogspot.com/ 2. www.businessweek.com 3. www.google.com 4. www.payperclickanalyst.com 5. www.wired.com 6. www.yahoo.com

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