Understanding/Decoding Google Adwords Bid Mechanism-1

How google decides on the bid amount for each keyword/ Decoding Google Pay per Click mechanism.
Part One: Entry and Threshold Bid/ Less Competition/Few keywords/New Player Scenario

Note: The content/study written below is just based on my experience and has nothing to do with the official Google Policy. This could be accurate or totally baseless. I am just building up logic over here.
Before we start anything about how Google decides on the Keyword Bids amount, I am assuming that we all know the basics terminology about Pay Per Click, Keywords, Search Volume etc.
Summary: Ever wondered what could be the logic or foundation or idea behind the minimum bid amount required in Google Pay Per Click Ads in Google Search Network and Display Networks.
Sometimes for a keyword pizza and shoes both having almost same search volume
pizza and shoe keyword

the minimum bid amount required to enter the ad auction are different even when there is no competition. And how this change due to presence of competition, lets try to understand this.

If we compare for the keyword with different industry verticals, retail and real estate, the keyword with higher search volume in retail experience lower bid amount than the real estate keywords with lower search volumes.
For eg.
Keywords like pizza and flats

pizza and flats

Search volumes are almost same for Indian market, still for the keyword pizza, the average CPC (Cost per Click) can be maintained around Rs 10 but for keyword like flats the minimum CPC starts with Rs 100.
Everyone of us will say that its due to high competition factor. But it’s a myth built around the competition keyword column in Keyword Tool. It is one of the factor that decides the bid amount required to be on the first page or second page, but to enter the auction its not the deciding factor.
Let me explain a bit more. Lets take the keyword flats and initially there is no competition and we are the first one to advertise through Google Adwords. Then the competition would be low in the keyword tool. And this does not mean that Google will allow to enter Rs 1 bid into it to enter the auction.
Now ideally even if the search volume matches pizza keyword and there is low competition then I should be able to bid at around Rs 10 average CPC as I was doing if for keyword Pizza.
But this doesn’t happens, for keyword like flats I have to pay to at least Rs 50-100( this may differ for each country and with time) for my PPC ad to enter the auction.
And after few months the competition grew up and I started paying over Rs 250 also for one keyword. But each of my competitor has to pay the least bid amount to enter the PPC ad auction.
Which also means that my competitors are playing at the level of Rs 250 per Click.

Ever wondered why keywords like reebok and adidas despite having same search volume, same quality score,

reebok and adidas search volume

Now this means that competition column whether its high or low decides how much will be my entry bid amount at par with the competition as because the base bid amount is already exceeded by my competitor.
So technically the base bid amount which is like the first entry of the player in PPC Ad in that vertical is not the function of the competition or search volume but something else.

Lets Understand it with a case study.
I am a new and only pizza outlet in town and have started taking orders through my website.
Now I am targeting only two keywords: “buy pizza” and my brand keyword “ pizzeria” through adwords.
Now since I am the first advertiser in Pizza retail an hence I should be able to get the base price bid for both the keywords. (Base price could be from Rs 1 Paisa to Rs 2, just assumption).
But what happens actually is that I am required to pay the minimum bid of around Rs 5 on “buy pizza” keyword even when no one is there and on “pizzeria” I am just paying Rs 50 Paisa.
Now everyone will say that since “buy pizza” have search volume that’s why we are required to pay Rs 5 and pizzeria does not as initially nobody knows this keyword and hence Rs 0.50 Paisa.
However this is far from reality.
Lets see the mechanism which works for the minimum bids to be entered for your ad to enter the auction.
Assuming daily we have 1000 visitors from Adwords into our website. Out of that 50 percent is from brand keyword “pizzeria” (in most of the cases it is around 50-90 percent of the traffic). And 50 percent from the keyword “buy pizza”.
1000 Visitors  500 (Pizzeria) + 500 (buy pizza)
Now the conversion rate i.e. people paying through my website is around 1 percent for general (“buy pizza”) keyword and 5 percent for my brand keyword (Pizzeria) which is generally higher in real cases.
So for
“buy pizza” 500 - 5 people ordered pizza
“pizzeria” 500  25 people ordered pizza
Now I am assuming average order value of pizza ordered is around Rs 500. And if we take industry general average of 30 percent profit margin.
So for each 1000 visitors, 30 pizza ordered(25 + 5) of average value of Rs 500.
My profit = 30 (pizza) * Rs 500 (average order value)* (0.30) (profit margin)
= Rs 4500.
Now lets assume that I am paying Rs 0.50 Paisa for brand keyword.
I am spending = Rs 0.50 * 500 (visitors) for “pizzeria”
= Rs 250
Now remaining profit = Rs 4500 – Rs 250 = Rs 4250
Now if I am a new retailer then I can operate on No profit no loss.
Which means I can spend Rs 4250 for “buy pizza” keyword.
So average maximum CPC I am can bear = Rs 4250/500(visitor)= Rs 8.5. This we can call it as maximum threshold CPC bid. Which means provided if there is no competition and If I am operating at no profit no loss mode then I can bear maximum threshold CPC bid for general keyword.

Case 2: Now assume if I want to add one more keyword “order pizza” in my adwords campaign. How the weightage and profit and cpc is divided for that we have to assume the search volume (local if we are targeting local market and global if we are targeting global markets).
Local Search volume for “buy pizza” = 30,000 daily
“order pizza” = 60,000 daily
Now for every 1000 visitors
From “buy pizza” =200 visitors, “order pizza”=300 visitors, and “pizzeria” = 500 visitors
Assuming same conversion rate for general non brand keyword 1 percent and 5 percent for brand keyword.
Total pizza sold again is 30 and average order value is Rs 500 again.
But this time the pizza order summary :
“buy pizza” sold 2 pizza
“order pizza” sold 3 pizza
“pizzeria” sold 25 pizza
Now again at same no profit no loss status.
I am spending “pizzeria” = Rs 250 and how remaining Rs 4250 is divided is the key.
“buy pizza”  30,000 searches daily  200 visitors  sold 2 pizza
“order pizza”  60,000 searches daily  300 visitors  sold 3 pizza

Now Unit bearable price = Rs 4250/5 (pizza) = Rs 850
Now Bearable Price for “ buy pizza” = 2 (pizza) * Rs 850 = Rs 1700
For “ order pizza” = 3(pizza) *Rs 850 = Rs 2550
Hence for
“ buy pizza” for 200 visitors, average bearable /threshold CPC = Rs 1700/ 200 (visitors) = Rs 8.5
“ order pizza” for 300 visitors, average bearable/threshold CPC = Rs 2550/300 (visitors) = Rs 8.5

However, there is one more variable which come into picture is the Click Through Ratio (CTR).
For “buy pizza” out of 30,000 searches only 200 visitors clicked which = 200/30,000 *100 = 0.66 %
For “order pizza” out of 60,000 searches only 300 visitors clicked which = 300/60,000 *100 = 0.50 %
Now this factor adds up to the quality score another factor added to maximize earning potential through each keyword. Obviously, I as Google doesn’t want to waste my search over potential clicks. However, quality score we will deal with it in details in later section.
Now lets understand how competition adds upto the CPC bid change.
Assume that there is one more retailer with the brand keyword “pizzalia” enters into the adwords ads auction.
Rest of the metrics remains the same. Pizzalia bidding on only three keywords, “ Pizzalia, Buy pizza, order pizza”.
Now for Pizzalia every 1000 visitors, 500 comes from pizzalia keyword, 300 from order pizza keyword and 200 from buy pizza keyword. Conversion rate remains the same as for Pizzeria. However the only thing which changes here is the average order value, lets assume that Pizzalia average order value is around Rs 600. Now this changes the picture altogether.
For Every 1000 visitors total number of pizza sold = 25 ( pizzalia keyword), 3 (order pizza) and 2 (buy pizza).
But this the no profit no loss margin gets changes. Assuming same 30 percent profit margin then the profit comes around
= 30 (pizza) *Rs 600*30 Percent = Rs 5400.
Same for Pizzalia keyword money spent = 500 (visitors)* Rs 0.50 = Rs 250
So the money remaining = Rs 5400 – Rs 250 = Rs 5150
Now for each pizza sold on non brand keywords I can spend total of Rs 5150 at no profit no loss status.
So for each pizza sold from nonbrand keyword money that can be spent = Rs 5150 / 5 (Pizza) = Rs 1030
Now order pizza share of amount = Rs 1030 *3 (pizza) = Rs 3090.
And buy pizza share of amount = Rs 1030 * 2 (pizza )= Rs 2060
Hence maximum bearable CPC bid for order pizza = Rs 3090/ 300 Visitors =Rs 10.3
And for buy pizza = Rs 2060 / 200 Visitors = Rs 10.3

Now as we can see just because of the entry of high value player how maximum bearable bid has been increased from Rs 8.5 to Rs 10.3 straightforward.
However, we might have got confused from same maximum bearable bid for both keywords i.e. buy pizza and order pizza. This is due to the assumption of same conversion rate throughout which is not the case in real life scenario.
Now it will be very difficult to achieve conversion rate for each keywords as some might be converting and some might not be.
Hence comes the purpose of Ad groups and Campaign. Conversion rate are taken at ad group level. How quality score comes into picture and with what motives, how CTR’s affect the bid amount and adrank, how google gets all this information,how to use this information etc etc. will be dealt in detail in later section.

  • Never be tempted to bid on your competitor keyword otherwise this will start inflating the bids and neither you and nor your competitor will be benefitted from this except Google as your competitors will also be doing the same for your brand keyword.
  • Your brand keyword are the key so always on a lookout of CPC and if CPC increases beyond a percentage, contact Google.
  • Always be ready to loose out the keywords which are unprofitable to you after a certain amount of period exposure.
  • IN short play a fair game and do not cheat otherwise we all will loose in the longer term.
  • To achieve higher quality score, put converting keywords in the ad group and to reduce the cpc remove the converting keywords from the ad group.
  • Achieve higher Average Order value in your vertical/competition and enjoy higher quality score.


To Be Contd….

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