Amazon.com's (AMZN +3.94%) ad business has quickly become a huge source of revenue for the online retail giant. The $11 billion business grew about 37% year over year last quarter. That's right in line with the growth in product page views coming from ad clicks, according to data from Jumpshot that was recently reported by Recode.
In July, 11% of product page views on Amazon came from ad clicks, up from just 8.8% a year prior and 6.9% in April 2018. It's unclear whether that growth stems from improved ad effectiveness, increased ad inventory, or a combination of both.
Amazon's search results have notably become more crowded with sponsored listings, pushing advertisers to spend more for top rankings and make their ads more effective. So investors need to consider how much more Amazon can grow product page views from sponsored listings and how it can keep increasing ad sales.
Examples of Amazon's sponsored brand ads. Image source: Amazon.
What's driving ad clicks?
There's one ad unit that appears to be driving more clicks for Amazon than its other ad products. Sponsored brand banners that appear atop regular product listings in search results drive an outsize portion of clicks for merchants. Banner ads accounted for just 3% of ad impressions but drove 35% of ad clicks in the second quarter, according to data from Merkle.
Importantly, Merkle also says those ads accounted for 45% of ad spending, which means that brands often get lower returns on investment from banner ads than they do from sponsored listings. But the volume of clicks coming from those ads may be worth the lower ROI for some advertisers.
That's great news for Amazon. The trend implies two likely scenarios for the future. Advertisers may continue to overvalue sponsored brand ads in order to take advantage of the volume of clicks they provide. In this scenario, either the number of banner ads will grow or the cost per impression will increase to absorb increased spending. Alternatively, some advertisers will look to maximize their ROI by shifting their budgets or allocating more spending toward sponsored product listings. In both cases, Amazon will see more ad dollars flow into the business.
Regulatory challenges could slow growth
One of the biggest competitors for Amazon's sponsored product listings is Amazon itself. The company is continually expanding its portfolio of private labels and exclusive brands, which creates new competition for popular searches on the platform. Amazon's presence in search results often encourages, if not necessitates, brands to buy ad placements for certain search keywords.
The Wall Street Journal recently reported that Amazon changed its search algorithm to favor those products over less profitable product listings. It's easy to see how that could force some brands to buy ads from Amazon to get more prominent placement in search results in the face of competing listings from Amazon itself.
Amazon's private-label practices are an area regulators are investigating. Amazon disputes the Journal's claim. Still, the report may draw further attention from regulators.
If regulators curb Amazon's private-label practices, it could result in less competition in its search results for established brands. That would reduce the need for third-party merchants and brands to buy advertisements to boost product page views.
That said, Amazon's private-label and exclusive-brand business isn't going to disappear. Nearly every major retailer offers private-label and exclusive-brand products. What tighter oversight might impact, however, is the speed and efficiency with which Amazon releases new products. Increased scrutiny could inhibit the growth of Amazon's ad business.
Overall, the health of Amazon's ad business is still very strong. Trends continue to improve, and Amazon has a clear path to increased impressions and higher average prices. Regulatory issues may be a hurdle, but its one Amazon is capable of overcoming.
