There is something wrong with advertising:

• Consumers are trained to tune out advertising because it is annoying. Why should I pay attention to an ad when I am watching a video on Hulu? I am trying to be entertained, not watch a promotional pitch. Tools that allow consumers to skip advertising are very popular. Have you ever started flipping channels as soon as there was a commercial break on TV? There are others that are gaining popularity. I use the Firefox extension Adblock to block internet ads. DVRs allow people to skip forward.
• Even the ads that consumers pay attention to are not very effective because consumers don’t trust information that they receive from the advertisers. I have had poor experience with airlines – flight delays, cancellations, lost baggage… - the list goes on. Why would I trust an airline ad that promises a great experience? In general, we expect advertisers to make exaggerated claims (that are not true) about their products.
• Most advertising that consumers see is not relevant to their needs so they miss the advertisements that they may have otherwise been interested in. If I am looking to buy a new computer, computer ads are all that I want to see. If the webpage or the television show makes me watch nine other ads along with a computer ad, I am almost certain to miss the computer ad.

Advertisers cannot track effectiveness in most mediums – print, television, outdoor advertising or product placement. They can track effectiveness somewhat with web advertising. Within web advertising only search advertising is effective. Banner ads or content ads are much less effective. A click through rate of 0.2% on a banner ad is considered very good. Yet we see plenty of banner ads. Google’s Adsense is extremely popular. In other words, most advertising dollars are wasted and advertisers can do little about it. Yet, advertising as a percentage of GDP has stayed pretty much constant over the last 60 years at around 2.2%. Wasting most of your advertising dollars does not seem smart.

Customers have purchasing criteria for a particular good or service. Teenagers want to drink the coolest drink. People look for certain features in a cell-phone before they get it. Some people are just looking for deals. The economic purpose of advertising is to distribute information regarding the purchasing criteria to consumers. Consumers also get their information from other sources. Before purchasing a product on Amazon, I read the reviews. If the item I am purchasing is a big ticket item, I might do an even more extensive research on the Internet or ask friends. In making a purchasing decision, a consumer is looking for unbiased information. While advertising helps disseminate some information, the information is mostly discounted.

It is clear that advertising is broken. Still, companies are going to continue to advertise till someone figures out a better way to communicate unbiased information to consumers.

The New York Times has a really good article on this topic:

Let’s be honest. No one actually knows when and where the housing market will bottom. Experts have been proclaiming the bottom is now — this very moment — since Alan Greenspan notoriously predicted the worst was over way back in 2006.

Different economists and firms have different takes on whether the market is overpriced or underpriced. There are conflicting views about the Bay Area housing market as well. Personally I continue to believe that the market is still overpriced.

Maybe. The prices are still a bit too high but they may come down to reasonable levels in a few months (6-18 months). If you are looking for a detailed explanation, follow along in this long post.

Do house prices appreciate in the long-run?

Historically, house prices show small appreciation in real terms over long periods. Most people find it hard to believe this and cite anecdotal data. The S&P/Case-Shiller Home Price Indices measure the nominal value of the residential real estate market in 20 metropolitan regions in the United States. The following chart shows the national index since 1890. Other than a 40 year dip between 1910 and 1950, the house prices have typically hovered around a very narrow range. The big dip in 1910 started with World War I. The dip continued as construction costs came down due to mass production techniques. The prices didn’t really go up during the great depression either. Finally, World War II helped bring the prices back to the 1910 levels. Since then the prices have stayed fairly stable except for the 70’s and the 80’s booms that lasted a few years. Something strange has happened since 2000 and the house prices have skyrocketed.

Has something changed fundamentally since 2000? No. Prices for houses are set in the same way as any other good - supply and demand.

The demand is affected by:

1. Wealth: This is fairly intuitive - the more wealth people have, the more demand there will be for houses.
2. User cost of capital: This is a fancy way of combining the effects of interest rates, maintenance, depreciation, property taxes, and risk of owning a house.
3. Demographics: The more people that move into an area, the more demand for houses there is.
4. Preferences: A lot of people in the Bay Area want to live in San Francisco making it more expensive than other places in the region.

The supply is influenced by:

1. Construction costs: Construction costs are a combination of material costs, labor costs and equipment costs. Cost of construction has been fairly stable since the 70s.
2. Land prices: The Bay Area has limited land area. The land value appreciates over time as more people move in and want houses.
3. Regulation: Local and state governments do not allow construction on all available land. They are also interested in ensuring that prices don’t collapse suddenly. So while we do see new construction in the Bay Area, it is fairly limited.

It is obviously hard to predict how demand and supply will change. However, looking at historic trends, it is clear that house prices do not appreciate significantly over long periods. The boom since 2000 is a bubble. There have been real estate bubbles in the past (70s and 80s, Japan in the 80s). Real estate bubbles take time to ‘pop’ because real estate market is not as liquid as the stock market and buyers and sellers have imperfect information in the short-run.

Is the Bay Area different from the rest of the country?

Yes, the houses in the Bay Area are more expensive than the national average but they mirror the national trends quite closely.The following chart shows the Bay Area prices and the national prices since 1987. Note that the scale on this chart (including the index values) are different from the previous chart (I could not get data that is consistent).

How can I be sure that this is a bubble?

The best way to predict if there is currently a bubble is to compare house prices to rental prices. Rental markets are typically not subject to bubbles. In rising real estate markets, people want to buy houses because they believe that they can sell the house at a higher price in the future. This is a self-fulfilling prophecy that leads to bubbles in the short-run. There is no such expectation in rental markets.  Price to Rent ratio and  Price to Income ratio are good indicators of a bubble.

The following chart tracks the Price to Rent trend for the Bay Area (The values on the vertical axis are not meaningful in an absolute sense and should only be looked at for relative comparison):

The current ratios are still quite high compared to the baseline in the mid 90s. If the trends hold, the prices may be reasonable in a few months (6-18 months). The Price to Rent ratio should drop by about 33% for the bubble to be over. Check out HousingTracker.net for the latest ratios. Unfortunately, I have used different data sources compared to this site because the sources that this site used did not go back long enough.

Sources:

1. Irrational Exuberance
2. Real Estate Demand and Supply: Are real estate markets efficient?
3. S&P/Case-Shiller Home Price Indices
4. BLS CPI Surveys

From TechCrunch comes the story:

I wonder why Google did not advertise on the market leader Yandex. Does Google not believe that it is cheaper to advertise online or did they hire incompetent marketing managers in Russia? Clearly the only people who will go to Google are the ones who are online. Why would you ever advertise offline?

A brand is consistency of experience. You should know what you will get when you purchase that brand. Any time this consistency is violated, the brand is weakened.

A baby changes everything. My son is now 3 months old. Now that I am getting a full night’s sleep, I hope to start blogging again; this time regularly!

This post is meant for everyone in the technology world who has no idea what marketing is. This includes most engineers, consumers, sales people and marketers themselves.

What is marketing?

Marketing involves

1. understanding the needs of the customers
2. focusing on a product or a service to fulfill those needs
3. communicating the value of the product or service to consumers

in that order.

What is not marketing?

Marketing is not advertising. Marketing is not creating hype around a product that does not serve market needs. Marketing is not creating meaningless jargon and slogans around your product hoping someone will understand or appreciate them. Many of these incorrect notions arise from lack of understanding of marketing by marketers themselves.

When marketers don’t know what to do, they try to throw darts hoping that at least one dart will hit the target. The darts include doing things like advertising, tradeshows, email blasts, white papers, and publishing meaningless jargon on the website. Most of these things do not work. It is no wonder that people in the technology industry have such poor opinion of marketers.

Engineering or sales driven organizations

In one of the marketing seminars by Pragmatic Marketing, Adelle Revella gave a reason for why marketing is such a neglected function in most technology companies. Most companies begin their life as a bunch of engineers furiously working to build a product that they think is cool. Once they build the product, sometimes they are able to develop something that works for a few customers. They then hire a bunch of sales people to go and sell the product. The sales people need assets and collateral. The company then hires marketing people to support the sales people. These organizations either continue to remain engineering driven or become sales driven. They either focus only on the features that the engineers think of or focus on features that big customers specify.

Marketing as a competitive advantage

Companies need to treat marketing as an important, strategic function. In the technology world where most companies treat marketing as an afterthought, the opportunity for gaining competitive advantage through marketing is tremendous.

Google reported its results today and got punished by Wall Street. Is it really true that Google has a sustainable competitive advantage? I will analyze this by first looking at Google’s value chain and then looking at how other competitors may break this down.

Google’s Value Chain

The graphic above is a simple depiction of Google’s value chain. The areas in red are the ones where Google plays a leading role. Google has also established some presence in the content creation (Google Maps) and publishing (Gmail, YouTube, Blogger, iGoogle, Reader, Groups). Google’s main business is placing advertisements on as many pages as possible. Google has two sets of customers, Internet users and advertisers. In order to ensure that Google stays dominant, it needs to make sure that its value chain is not disrupted.

Benefits that Google offers to Internet users

• Availability: Google is present everywhere! Default search box on Firefox, Google Toolbar distributed by bundling it with other software, search boxes on other websites all feed search traffic to Google.
• Good search results: For the most part Google search results are good enough. There isn’t another search engine that produces significantly better results. Also, most search that I do is essentially lookup. For example, I don’t remember the address for Southwest airlines. If I want to go to their website, I will just search for Southwest on Google. Of course, most search engines will work well for these simple queries but since Google is available everywhere, I will just use Google.
• Brand: Google has worked hard at developing its brand. Its brand promises all Internet users that it uses cutting edge technology and smartest minds to produce the best search results. In addition to their previous search experiences with Google, Google introduces really great products (content creation and publishing) that reinforce the brand.
• Fast speed of execution: Most major search engines today are fast enough. However, there are a few that are too slow to be usable (e.g. Technorati).

Benefits that Google offers to advertisers

• Market Share: Search advertising is much more effective than banner advertising (by orders of magnitude). Advertisers will advertise on a search engine that is dominant because it gives them access to the largest number of Internet users.
• Cheaper Advertising: The large inventory of ads allows Google to target the Internet users better than any other search engines. In contrast, a competitor like Yahoo does not have as much inventory and cannot often place the most relevant ads on the search page.

Sustainability of Google’s Competitive Advantage

Why does Google keeps growing its market share at the expense of Yahoo and Microsoft? Let’s analyze the main reasons:

• Google destinations : Google continues to grow traffic to its destinations by adding products like Maps, Gmail and YouTube. All this traffic increases search through Google.
• Cost advantage because of scale: Since Google monetizes its traffic better than anyone else, it can offer more money to companies like Mozilla Corporation to make Google the default search engine. This increases traffic to Google and allows it to monetize its traffic even better (larger market share leads to larger ad inventory).
• Reputation: Search is an experience good. You don’t know what the product is like till you use the product. Most people use reputation to make a choice. Google’s reputation really makes it difficult for competitors like Yahoo to make a dent.
• Learning curve: Google has a head start over all its rivals. The experience allows them to make their processes and solutions more efficient and effective. The benefits range from reducing the cost of the handling data (per TB) to reducing spam in search results.

Note that I have not included the algorithm or the employees as sustainable competitive advantages. These are either not scarce or can be bought with the same amount of money that Google is paying for them. Even something like a datacenter that I have mentioned may only be a small advantage because it is unlikely to be scarce. With the internet becoming the platform, there are other companies that are building large datacenters. Therefore, the expertise required to build a datacenter that can handle the kind of traffic that Google deals with is unlikely to remain scarce.

Beating Google

We know that Google executes very well on its current business strategy. How does someone beat Google? There are two ways to beat Google:

• Perform better than Google in its current value chain
  Based on the analysis so far, this is clearly hard. There are few companies that have the capacity to do this. The two that could possibly challenge Google are Yahoo and Facebook. Yahoo is still the most visited destination on the Internet. It has a strong reputation and an existing search engine that is used widely. The question is whether Yahoo has the will to succeed and the management ability to execute. Facebook as a destination is growing really fast. It has a reputation for being innovative. It also has a lot of information about its users. Though it does not have its own search engine, it can buy another search company and customize the results based on the profile of its users. Another possibility is that a company could offer superior benefits within the value chain - better search interface, superior commitment to privacy, etc.
• Disrupt the current value chain by changing its structure
  I think that this is a more realistic approach to beating Google. Trends like the move towards mobile devices have the potential to disrupt the value chain. As more and more people start using mobile devices to access the internet, Google’s traditional advertising model may not work. In addition, the tight control by the wireless carrier and the cell phone maker may ensure that Google is left out of the picture completely. I think Google recognizes this threat and is trying to counter by moves like developing Android and by bidding on the wireless spectrum.

Is Google going to be dominant in 2013?

Based on the analysis, it appears that Google will continue to dominate the traditional search, barring some bold moves by Facebook. The competition on the mobile devices is going to be much more intense and Google does not enjoy the same advantages that it enjoys on the desktop. With the trend of more and more people accessing the Internet on their mobile devices, Google’s overall search share will come down.

What is not a brand

Most technology companies do not understand what a brand is. They often focus solely on the representations of brands:

• A logo is not a brand. Often brands are recognized by logos, but logos are not brands. A consulting company called Interbrand publishes an annual ranking of the best global brands. In their 2007 rankings, Microsoft was the second most valuable brand in the world with a brand value of $59 billion. Do you remember what Microsoft’s logo looks like? I didn’t remember it till I looked for it on their website.It doesn’t even seem to matter what the logo looks like.I find the IBM (rank 3rd) and Google (ranked 20th) logos quite ugly (others may disagree). And yet, companies spend an inordinate amount of time and energy on creating a logo.
• A name is not a brand. Would Google, Yahoo or IBM brands be any less powerful if they were called something different?

What is a brand?

Seth defines brand as follows:

I think it is the product of two things:
[Prediction of what to expect] times [emotional power of that expectation].

So what should the companies focus on when they look to create and maintain a brand? Here the the three questions the companies need to answer:

• Who are you trying to target? A brand has a meaning only for the target segment that you are serving.
• What is the promise of your brand? Be clear about the key benefits you promise to deliver.
• Why should the consumers believe your story? You need to supply consumers with proof so that they believe your story.

In future posts I will give some specific examples of these three components of brand strategy.