Google’s TAC, Revenues, and Headcount Signal Red Flags

When I read Google’s (GOOG) earnings report, two things stood out:

1. Google generated over $5B in revenue, in Q2 nonetheless, historically the weakest quarter.  This means Google’s 2008 will be robust, nonetheless:



2. Despite ever growing revenues, Google’s traffic acquisition costs, or TAC, was down.

I could not get historical data, but ZDNet took care of that, and Om Malik was kind enough to point it out:

All factors being equal, as Google’s traffic increases, so should the portion paid out to sites like Ask.com, AOL.com, and the many many sites Google powers ads for, be it via search ads or contextual ads.

However, it’s fair to say that Google pretty much secured and locked up most of the Web’s real estate years ago when it acquired Applied Semantics and Sprinks and Yahoo! (YHOO) fell asleep at the wheel.  Since - oh I’d say 2005 - Google.com has continued to grow rapidly, while Google the Network has plateaued.

That being said, however, Om is dead right when he says:

TAC in general and AdSense specifically are like a black box – no one quite knows how much Google gives out. Sometimes it feels like Google can use this “black box” to come up with pretty much any numbers it wants to.

I tend to agree.  Like all ad networks, Google does not make money for publishers, it makes money for itself.  But given the black box nature of Ad Sense, Google’s TAC has long been used (disclaimer I am adding to please our counsel: the following is 100% Ashkan conspiracy theory talk) as a slush fund to offset weakness in profit margins.

What you are now seeing in that graph, with TAC leveling and balancing off, I think, is no safety margin, which makes Om right, once again, when he says: “the traffic acquisition costs is where I think the real story lies.”

Google tinkering with TAC is by of itself not a big deal… but if we’re talking about warning signs, then how about this:

Look at how TAC flattened the fiscal year after Google’s headcount took off.  From an earlier piece I wrote:

That makes sense:

• Google goes on a hiring binge throughout 2005, then the bean counters decide to find cost savings somewhere, and where better than TAC, in the ensuing fiscal year, to make sure the year end bottom line figures are met.
• Look at the TAC graph again:

The first seven quarters, TAC falls from 37% to 31%… but then, in the next 7 quarters, TAC only falls from 31% to 28.4%.

To me, that says Google can’t cut any more meat off the bone without losing publishers, partners, or triggering some red flags… or, maybe, it’s too late.

Does anyone else think this is a coincidence?

Comments

[glacier]

What you are trying to say? Cooking book?

[glacier]

What's a n.s.? Should scale of economy kick in here?

[tyneham]

When analysing overall picture, one must also assess the impact of the underestimated click fraud (over 27% and growing) on annual figures... tyneham.blogspot.com

[Vikram]

Ashkhan:
I guess Google is in a no win situation. If TAC goes up, margins go down. If TAC goes down something is fishy. It all boils down to the spin you want to put on it.

When a new product is launched, the cost of sales and the sales commissions are high to encourage new members to sign up. As the product becomes established the sales commissions come down. Once Adsense was well established and has no worthwhile competition, Google could afford to pay less in commissions and that showed in the declining TAC expenses. However there is floor to what Google can go down to, and the slowdown in the rate of decline is an indication of that.

Further since TAC payouot is based on real clicks, it is likely that any quality improvement initiatives which alters the number of clicks vs the value of the click will impact it. As the revenue per click increases, Google may not pass on the revenue proportionally to the publishers.

[shortcited]

Perhaps Google could add some reporting to show impressions displayed for partners as a ratio of impressions on GOOG owned properties. CTR gives enough cushion to maintain the black box, but it would enable them to show the relative growth of GOOG vs. publishing partners.

I'm more inclined to think that this relates to GOOG arbitrage for large parties going away in many cases. If you look at old shopping.com financials, you see a big spend with GOOG on traffic but also a big revenue line FROM GOOG as an adsense publisher. With quality scores changes, this game is pretty much done and will be reflected in more direct GOOG revenue (and consequently lower TAC). Additionally, GOOG is increasingly competing with intermediaries, which will probably shift the balance over time to GOOG as well.

This is all not to say there isn't also a payout change happening (who knows?), but I don't think that's the entire story here.

[gmartfin]

As a website operator we have seen our payouts decline drastically in the last couple of years. Worse you can trace the progress frequently as coming at the beginning of each quarter. The revenue drops across the board overnight. Not a normal traffic pattern.

Domain owners are starting to move away from adsense & traffic aggregators making advertising deals directly themselves. Going back to work with affiliates and even starting businesses selling products direct to consumers.

Development is in the air and I'm talking about people who own the top million or so domains in the domain channel.

Using their publishers for punching bags in their profit pursuits will eventually cause their TAC to soar as they scramble to get them back or alternately their revenue to drop as webmasters move away.

Believe it or not there is life beyond the goog!