Programmatic Media Buying 101: The Difference Between First and Second Price Auctions in RTB

If you are buying advertising programmatically then you are most likely using either a first or second price auction bidding process.  Most recently there has been more talk of moving towards first price auctions because of the popularity of header bidding.  DSPs (Demand Side Platforms) have traditionally been set up to use second-price auctions and for most DSPs adapting and changing strategies to first price auctions is expensive because they have to invest in technology that will specifically adapt to the rules of every auction and allow them to bid effectively.

So what are the differences between the two types of auctions?  And why should media buyers care which one gets used?

First Price Auctions

The programmatic buying model where if your bid wins, you pay exactly what you bid. This type of auction maximizes revenue potential for the seller.

In the first price auction model the bidders pay exactly what they bid. This type of auction can lead to unnaturally high prices because buyers are forced to guess how much their competition will bid.  This auction mechanism gives publishers the highest eCPMs for their inventory but can lead to the advertisers overpaying which can then lead to a lower demand for that publisher’s inventory.

The first-price auction allows both buyers and sellers to see the actual cost of the impression and the fees taken by the SSP/ad exchange will at least be known. The winning price is exactly what the advertiser agreed on, but there is a risk of overpaying for impressions.

The workings of the first-price auctions make sense economically only when the buyer knows the fair market value of the impressions they are bidding on, and understands the mechanics of hard- and soft- price floor mechanisms. The Price Floor, is the minimum price a publisher will accept for its inventory, which technically means they will ignore all bids below that price. This can turn a second-price auction into a type of first-price auction.

Second Price Auctions

The programmatic buying model where if your bid wins, you pay $0.01 above the second highest bid in the auction. In this type of auction, it is in your best interest to bid the highest amount you are willing to pay to win that impression, knowing that you will most likely end up paying less than that amount.
The second price auction is preferable to first price auctions for advertisers because it gives the winner a chance to pay a little less for the ad impression than their original submitted offer — instead of paying the full price, the winning bidder pays the price offered by the second-highest bidder, plus a bit more, usually $0.01. The final and winning price of the impression is known as the clearing price.

So What About Header Bidding?

Header bidding has become a popular type of first price auction where publishers place a piece of code on their webpage headers that allows a limited number of advertisers to bid on inventory outside of their primary ad server. This lets advertisers compete for premium or reserved inventory before or instead of the second-price auction.

Header bidding creates an auction prior to the final auction in a publisher’s ad server. Because of that inefficiency, SSPs (Supply Side Platforms) who run a fair second-price auction in the header, will have less competitive bids for that final auction, and find themselves with low win rates.  Being less competitive in the auction has terrible implications for SSPs as more competitive bids from header bidding can steal their market share.

Media Buyers Are Asking for Transparency in the Bidding Process

Programmatic ad buying exchanges have a mostly obscure bidding process, making it unclear for the buyers whether they are dealing with first or second price auction. If you want complete transparency, then first-price auction seems to be the better option (there are no floor mechanisms or hidden fees), but it offers few real benefits for the advertiser. Truthful bidding in this model (i.e. bidding the real value of the impression, which means if an impression has a value for you of $1.00, you should also bid $1.00) is not only more challenging but it’s also more expensive. A transparent first-price auction will squeeze the margins of the many ad tech players in the middle, and deliver more actual working media to the publisher. But if programmatic media buyers think they are still playing according to second-price auction rules, they will end up overpaying for inventory. Advertisers don’t like the feeling that they are being manipulated into bidding higher than they need to, which is exactly why DSPs use algorithms to predict the price floors and bid accordingly.

Many programmatic traders are left in the dark when it comes to the setup of the auctions they are bidding in. Since media buyers can only audit the vendors they are working with directly on the demand side, they have no way to verify if other programmatic platforms in the ad supply chain are altering their auction structures to make more margin. Which means a buyer might think they are buying based on second price auction but really be in a first price auction. That can get expensive, since the bid strategies are drastically different.

The industry will likely be in a transition period for much of 2018 as DSPs adjust their algorithms to allow for some Bid Shading to minimize the chance of overpaying.  It’s important for media buyers to clarify the auction type (first or second) whenever negotiating a deal and floor price with a publisher. To combat price increases, some buyers have already started Bid Shading, or reducing bid prices. But that strategy comes with risks because buyers can lose out on inventory they want if they submit too low a bid.  So until trust or transparency in auction type and fee structure is available in the open exchange, some media buyers will either try to work with adjusted algorithms or push towards more private exchange tactics so that they can trust the contracts and pricing models.

Programmatic Media Buying 101: How the Industry is Solving Domain Spoofing and Ad Fraud with Ads.txt & Private Marketplace

In 2018 the ad tech industry, and especially the top DSPs, are going to focus on improving inventory quality for programmatic media, as seen in our top ten trends you need to know about programmatic this year.

Download the full infographic here

What Does Inventory Quality Mean?

Over the past few years, the quantity of fraudulent ads has decreased greatly as the ability to monitor and prevent ad fraud has improved. However, there was still a significant room for improvement. Much of the development that has been made is for desktops ads. As the digital ad buying process continues to become more transparent and ad inventory quality improves, focus now needs to be centered on mobile and video ads. Video ads are extremely enticing to ad fraudsters due to high CPMs. The importance of eliminating fraud and enhancing the quality of ad inventory benefits both buyers and publishers.

On the buyer’s side, there are two major reason to ensure quality ad inventory: brand safety and media waste. If a buyer purchases fraudulent ad space and their brand is presented in a negative environment, it can greatly affect their brand image. In regard to media waste, if an ad is bought and only viewed by bots, instead of human eyes, the media spend is wasted on false impressions. Purchasing quality ad inventory ensures that an ad shows up on the site it is supposed to be published on and that human eyes are viewing it.

Publishers are primarily concerned with ensuring a quality customer experience. Customer experiences are deterred through malware or annoying ads. If the ad exchange is not properly screened, malware can arrive on a publisher’s site. If the consumer clicks on the ad, it will infect their browser, creating a very negative customer experience. Customers do not like when ads refresh, flash or are otherwise annoying. Publishers need to ensure that this is not occurring with their advertisements.

Publishers and buyers need to work together to become a trusted source of quality inventory which involves the following:

  1. Publishers sharing information with one another about negative buying experiences.
  2. DSPs need to educate their advertisers, that buying ad space from many different sources opens up the door for ad fraud.
  3. Create realistic standards for viewability. It is unrealistic to set 100% viewability goals.

Solutions for Fraud and Domain Spoofing

Private Marketplace Deals

Ad space was traditionally bought through open marketplaces. This is a process in which multiple media owners offer up their ad inventory to multiple buyers. All of the buyers compete to have their ad space placed on a page and the highest bidder wins.
Private marketplaces are auctions that are only open to select advertisers through an invitation-only format. Some of these entail only one publisher offering up ad space, others have a few. Before the auction, buyers and sellers negotiate a deal. Each deal is given a unique ID and advertisers bid on that deal only – inventory that does not meet the deal will not be bid on. This marketplace structure requires more work however, it is much more transparent. Buyers will know where their ad is being placed such as the URL of the website their ad will be shown on. The marketplace ensures a more transparent ad buying process and ensures that buyers ads show up exactly where they want them to, reaching the right audience in the right place.  

DSPs Are Implementing Ads.txt

IAB (Interactive Advertising Bureau) has released the latest mechanism that boosts inventory quality and makes the ad buying process less risky. In September, IAB released the authorized digital sellers or ads.txt. This is a simple, flexible method for publishers and distributors to clearly state which companies are authorized to use their digital inventory.

Companies drop a text file on their website that lists the different companies authorized to sell inventory on their site. This will enable buyers to see which programmatic firms have authorization to sell ad space on specific websites, ensuring validity in their purchase. The upkeep for this process is also simple. Someone will have to monitor additions to an ads.txt list to stay up to date with authorized sellers.

If you haven’t already, there is no time like 2018 to get on the programmatic bandwagon.  If you need to get started Digilant University has all the information you need to get up to speed and get going.  Need more information you can also reach out to us here.

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