In the world of online advertising Google (NASDAQ:GOOG)(NASDAQ:GOOGL) stands alone at the top of the mountain with over $50 billion in ad revenue in 2013. That dwarfs Facebook (NASDAQ:FB), the company in second place, which pulled in a comparatively small nearly $7 million in 2013.
Much of Google's bounty -- over $13 billion -- comes from its AdSense/AdWords network, which places ads on other sites. That figure alone would make it the top company for ad revenue and now Google looks to be facing a challenge to that dominance not from Facebook, but from Amazon.com (NASDAQ:AMZN). The huge online retailer, which is currently one of AdWords' largest customers, is working on an advertising platform that will allow it to sell ads and place them on its own site as well as on those of its affiliates, according to sources who talked to The Wall Street Journal (subscription required).
With nearly 250 million registered users on its shopping platform, Amazon has a huge potential audience to sell to advertisers. It also has a deep understanding about what much of those customers purchase. An Amazon ad network could threaten Google's dominance because the company would be able to leverage its vast user base and insight into buying behavior in a way that Google can't. Google can serve ads through AdSense when a customer lands on content that uses certain keywords. Amazon can use past buying patterns to serve a user an ad for something that they are ready to buy at exactly the right time.
AdSense is focused on behavior -- a customer has to go looking for something. Amazon can do that, too, and it has the ability to be prescient -- to serve ads based on predictive analysis.
How does AdSense work?
AdSense places ads on Google's affiliate sites based on context. If you own a site focused on cars that runs AdSense ads, customers could be served everything from a broad ad that fits the category to one directed to their specific search. For example, if I use Google to search the term "Hyundai Elantra floor mats" that may lead me to a site which has news stories about floor mats. If that site is an AdSense affiliate it may offer ads taking me to a website that sells car parts in general or even one that sells exactly what I queried about. it could also show ads or links that bring me to other news sources.
Google's AdSense is effective but it only knows what you tell it based on your search term. It has no way to know context. I may have searched floor mats because I intend to buy some or I may have done it because I spilled coffee on mine. AdSense takes a good guess based on the information at hand. Amazon has the advantage of the fact that its customers on its pages are already in the mood to buy. Even if they are not, and are looking at an affiliate site, Amazon would still know their buying patterns and could serve up ads for things the customer did not even know they wanted.
How Amazon could hurt Google
If the scenario reported by The Wall Street Journal comes to fruition, the first most obvious hit Google would take is losing Amazon as a platform for its AdSense ads. Neither Amazon nor Google reports how much money Google spends placing AdSense ads on the online shopping site, but The Wall Street Journal said that Google is the chief source of third-party ads on Amazon.com. Though Google pays Amazon for placement on its site, it likely makes a profit on the transaction for the same reason it makes sense for Amazon to sell its own ads -- people are on Amazon.com ready to buy. This leads to effective (and more expensive) ads for Google's partners.
Amazon knows this and has been dabbling in selling its own ads for a few years. Though the revenue brought in doing that has been a relative drop in the bucket, Emarketer had forecast that the number would rise to $1.1 billion in 2015 and that was before it was reported that the company plans a full-fledged ad platform (Amazon does not break out ad revenue in its quarterly or annual reports). The way Amazon sells ads now is very similar to the way Google does it, according to EMarketer, which estimates:
... the bulk of Amazon's ad revenues come from ads placed in or near search results that appear when a person searches Amazon for a product. The company also earns substantial revenues from display ads served on Amazon-owned sites and through its ad network.
If Amazon makes a full-fledged run at Google it could offer advertisers more focused ad placements on its own sites and comparable offerings to Google on its affiliate sites.
Will it work?
Amazon has every incentive to ramp up its advertising offering because its core retail business has very narrow margins. Advertising is much more lucrative. The Wall Street Journal article reported that Google's ad business generated more profit in the last six months than Amazon has in its 20-year history.
By kicking Google off its site and selling the ads itself, the online retailer should be able to unlock a large profit center. Amazon already has a customer base and it has a relationship with pretty much every company which sells retail goods. The company offers an effective platform and by cutting Google out of the mix, it could offer more attractive prices.
It's actually surprising to see that Amazon has waited this long to seize hold of its own advertising inventory. It seems that as long as the company is respectful of its users' experience, it should be able to launch an ad network that will steal market share from Google just by handling the ads for its own site. Whether it can challenge Google across the rest of the web remains a large question, but the company's own site traffic and affiliate network give it a strong place to start.
Daniel Kline has no position in any stocks mentioned. The Motley Fool recommends Amazon.com, Facebook, Google (A shares), and Google (C shares). The Motley Fool owns shares of Amazon.com, Facebook, Google (A shares), and Google (C shares). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.