New direction for Overture

The Pasadena, Calif.-based company has spent the past five years making a name for itself by unapologetically commercializing tools used to conduct basic research and navigation on the Web. Now the largest seller of paid Internet search listings is striking out in a new direction, having made two search technology acquisitions within a week, buying AltaVista and the Web search division of Norway's Fast Search & Transfer.

The move fills in a big hole in the company's search offerings, which have until now included little that commonly falls under that label. Unlike Google and other traditional search providers, Overture does not send out computerized crawlers to index Web sites or tinker over mathematical formulas that determine their relevance and rank. Rather, it sells search terms to the highest bidder.

That simple formula has created a remarkable business success story and has inspired deep changes in the ways Internet companies think about search--a legacy that likely will shape the face of the Web for years to come. But Overture's success has also set off a gold rush that is forcing the company to evolve to fend off threats to its empire.

"We created a high-class problem," said Ted Meisel, chief executive of Overture. "We understand having demonstrated success--lots of companies would be interested in a piece of the pie. Our focus is on building better products and services. We believe if we do that, the economics will sort themselves out."

Although Overture pioneered and sits atop the commercial search-listings business, the market is its to lose. The company has faced enormous pressure from its chief adversary, Google. Similarly, it's crunched by its own distribution partners, which have wised up to the financial opportunity of paid search and are asking for a bigger cut of the revenue. Squeezed from both sides, the company is looking to round out its commercial search service with technology that automatically indexes and ranks Web pages based on their content rather than on the size of their checks.

Analysts said the surprise one-two search engine purchases, worth some $240 million, could help Overture better compete with Google and other rivals that offer both Web search and paid links. But the acquisitions could prove costly if they alienate Overture's own partners, which are racing to add to their own search portfolios.

"Overture has created a market that is vibrant and growing rapidly, and they're trying to do the right things to nurture this market in a way that investors expect," said Paul Cook, director of technology investing at Munder Capital, which holds a stake in the company. "But nursing a yearling, it's a difficult thing to do."

Changing search forever
Ignored for years by some of the Web's biggest players, Overture burst to attention with the collapse of the dot-com bubble, proving that search could be a reliable cash cow at a time when other advertising dollars were fleeing the Web. The company syndicates its listings through partners, which typically include the top three or four paying links at the top of search results gleaned from a secondary source such as Inktomi.

Yahoo had long remained on the sidelines of commercial search out of concern that Web surfers would smell a sellout for what many at the time viewed as an altruistic research tool.

But the commercialization of search has so far drawn only a muted outcry from Web surfers--and scant scrutiny from regulators. A Federal Trade Commission investigation of commercial links on search pages resulted in only a mild rebuke last year, when the agency concluded that some sites did not adequately disclose paid links.

The report led some sites to revise their disclosures but has done almost nothing to slow the adoption of paid search. Web portals and other sites, including news outlets, routinely offer paid links from Overture and other partners, enriching both.

A belated deal struck between Yahoo and Overture in November 2001 played a major role in Yahoo's return to profitability last year, according to analysts.

"You look at these acquisitions, people and facilities and say, I guess the dot-com era is still going on in search," said Danny Sullivan, editor of industry newsletter SearchEngineWatch.com. "Is this a false exuberance, and are we going to pay the price again? The answer is no. I think there's a lot more money to be made in search."

Overture began as the brainchild of Bill Gross, whose start-up investment company, Idealab, incubated one-time Internet highfliers like eToys. He founded the company as GoTo.com in September 1997 and a year later, launched its search advertising service with results appearing on GoTo.com and partners including Netscape Communications.

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Unlike most of Gross's ideas, Overture has not only survived but thrived: This year, the company expects to generate more than $1 billion in revenue, up from $667 million in 2002. By contrast, some analysts estimate that privately held Google likely took in around $300 million in revenue.

In the last year, Overture has had to lease two new floors at its headquarters to support its now nearly 900 employees. After the AltaVista and Fast acquisitions close, the company expects to employ more than 1,000 people in Pasadena, Silicon Valley, New York and Europe.

Although Overture has until now avoided competing on search technology with companies such as Google and Inktomi, the company takes pride in its own technical accomplishments in building a service that aims to satisfy the demands of advertisers as well as consumers.

The company compares its service to the Yellow Pages, the phone book that offers a useful resource even as it serves the marketing goals of its advertisers.

Overture says it keeps its keyword auctions clean, employing large numbers of editors whose task it is to sort through bids on keywords and help guide customers to the best fit for their sites.

Overture's corporate offices, adjacent to CalTech in Pasadena, are packed with bodies, computers, and a manic energy that could only come from a massive space where teams of sales, editorial, management and customer service staff are sandwiched together. Despite what could be glaring differences among them, the attitude is that everyone holds equal importance.

Overture's chief operating officer, Jaynie Studenmund, sits not too far from a customer service operator. With characteristic no-nonsense style, staffers seem to be clicking away on the computer and selling Overture ads in defiance of the odds. In a sense, they are hard-working survivors who left the dot-com bust unscathed, but they still have gleaming smiles of stock market darlings.

The company claims its goal is to create a win-win situation for customers and Web surfers, enforced by self-interest. Because advertisers are required to pay a fee each time someone clicks on one of their links--a practice known as pay for performance--companies are discouraged from misleading readers.

Trouble on the horizon?
Although Overture has grown exponentially, it hasn't been without its troubles.

Despite its financial heft, the company has long faced unflattering comparisons to Google, which is admired for its technological prowess and altruistic image.

Indeed, Google has become Overture's most formidable competitor, having launched a rival syndicated pay-for-performance service last year. Shortly after the service was announced, Overture filed a patent infringement lawsuit charging Google with stealing its proprietary methods for serving keyword advertisements.

The two have since gone head-to-head in competing for distribution partners, with Google winning away America Online and EarthLink.

The margins of Overture's search distribution business are under assault too. In its recent filing, the company said that its cost to

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acquire new customers shot up by more than 140 percent to $124.8 million for the year, compared with $51.9 million in 2001. As a percentage of revenue, traffic acquisition costs were 62 percent in the fourth quarter of 2002, ended Dec. 31, compared with 51 percent a year ago.

Financial analysts say that Overture's acquisitions were largely defensive moves against rival Google and others including London-based eSpotting, which is one of the top providers of commercial search listings in Europe. Investors also speculate that Overture anticipates that one of its biggest partners, Yahoo, will take its paid search business in-house, cutting out Overture at the end of its contract in 2005.

"Overture sees the writing on the wall," said one analyst, referring to the prospect of Yahoo eventually striking out on its own. "So it's trying to mimic all the pieces that Yahoo is talking about--search, paid inclusion and paid listings--because when your biggest customer is walking away, they can't not own that technology."

Analysts said that to remain competitive, Overture had to buy a partner that specializes in so-called algorithmic searches that use mathematical formulas to judge the relevance of Web sites for any given set of search terms--an arena Google excels in. But they question whether the combination of Fast and AltaVista will prove worthy adversaries to its primary rivals in coming partnership deals.

"AltaVista's search technology is so outdated that Overture still could not compete with Looksmart, Inktomi and Google, and they needed to bolster their technological expertise," Jordan Rohan, managing director at Soundview Technology Group, wrote in a research note this week.

Overture contends that AltaVista and Fast offer equal but different benefits. With Fast, Overture will gain a superior search technology as well as additional credibility overseas. Fast has numerous Web search partnerships in Europe. Financially, Overture plans to improve the revenue potential with both Fast and AltaVista by selling what's called "paid inclusion," a service that lets Web site operators pay to have their pages indexed more frequently. With AltaVista, it specifically plans to test new search-related advertising on the portal.

Overture is also hot on expanding its paid listings into other areas besides search. One area is in contextual search, where it would display advertising text links related to stories or Web pages that a visitor is viewing. It is also investing in technology that analyzes the performance of search advertising, acquiring Carlsbad, Calif.-based KeyLime Software this year.

"This is clearly a show-me market, and we're going to have to do just that," Meisel said.