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First Price vs. Second Price Auctions

When programmatic advertising was first introduced to the digital advertising industry a little over five years ago, it changed the entire world of online marketing. 

Before real-time bidding (RTB) software and header bidding appeared on the scene, publishers could easily optimize their advertising revenue by selling advertising space directly to ad networks or providers. However, one of the biggest issues about programmatic advertising was that it became significantly harder to optimize this revenue. 

With programmatic advertising and RTB software being core to almost every publisher’s ad revenue, you need to be aware that there are two key types of programmatic advertising bidding. First price and second price auctions both have their advantages and drawbacks, so you should know which one will benefit you more if you’re looking at switching ad networks. 

What is a First Price Auction?

A first price auction is what you’d typically think of when auctions come to mind. In first price auctions, several advertisers bid a set amount of money per impression, and the highest bidder wins and pays the amount that they’ve bid. 

The biggest benefit of first price auctions for publishers is that they offer a greater revenue potential. Because advertisers are bidding up to their maximum available budget, or the estimated market value of your advertising inventory, you’ll always receive the true amount of the highest bid. 

Unfortunately, because of this, first price auctions aren’t yet common in programmatic advertising. While the industry is slowly changing to begin incorporating first price auctions, second price auctions are far more common. 

How do First Price Auctions Work?

In a first price auction, an advertiser bids a set amount of money on an impression, which is then compared to the other bids for that same impression. 

For example, advertiser A bids $3.00, B bids $4.00, and C bids $3.75. 

In first price auctions, advertiser B would win the auction and pay $4.00 for their ad to be shown on a publisher’s website. The winning bid is what’s known as the clearing price. 

In some instances, an ad network or publisher may set a floor price, which serves as a base level from which bids are counted. Looking at the above example, let’s say that the ad network sets a floor price of $3.50. In this case, advertiser A’s bid would automatically be discounted because it doesn’t meet the floor price. While advertiser B would still win the auction, floor prices are often set to make sure that any bids on advertising inventory meet a minimum revenue threshold. 

Bid Shading

In first price auctions, the practice of bid shading helps buyers optimize their ad spend while maintaining win rates on ad inventory. Because the highest bid will win, and advertisers will pay the full price of their bid, bid shading algorithms look at factors like site, ad size, exchange and competitive dynamics to determine where to set the bid. 

This is often considered to be a way to level the playing field with first price auctions, particularly as publishers have access to floor pricing tools to control the minimum available bid for any particular impression. 

What are Second Price Auctions?

Second price auctions are currently the most common type of auction in programmatic advertising, mainly because they directly benefit the advertiser. These types of auctions were designed so that while advertisers could bid up to their full budget, they were guaranteed to never overpay per impression. 

Unlike first price auctions, it’s difficult for publishers to optimize their ad revenue with ad networks that use second price auctions. While features like pricing floors allow you to set a minimum price for your ad inventory, second price auctions often result in publishers losing out on revenue. 

However, that’s not to say that the digital advertising industry will use second price auction programmatic systems forever. Ad networks like Google are starting to adopt first price auctions so publishers and advertisers are on the same level playing field. 

How do Second Price Auctions Work?

Similar to a first price auction, each advertiser bids a set amount per impression, which is compared to the other available bids. 

Using the same bids as the example above, let’s say that advertiser A bids $3.00, B bids $4.00, and C bids $3.75. 

Just as with the first price auction, advertiser B would be the highest bidder, and so would have their ad shown on a publisher’s website. 

However, the difference here is that advertiser B would only pay $3.76, as the clearing price is the price bid by the second place advertiser plus one cent. So, the buyer saves $0.14 on this impression, because they only have to pay one cent more than the second-highest bidder. 

As with first price auctions, floor limits can be set to ensure that publishers receive a set minimum for their ad inventory. However, this is more meaningful in second price auctions, because if all other bids than the top bid fall below the floor price, the floor price is considered to be the second-highest bidder. 

For example, when working with an ad network, you set a floor price of $4.50 for your ad inventory. Advertisers A and B submit bids that are less than this amount, so they’re automatically disqualified. Advertiser C, however, bids $5.00 for your ad inventory. Under second price auction rules, advertiser C will pay $4.51 for your ad inventory ($4.50 floor price + $0.01). 

While this means that you’ll be seeing a loss based on advertiser C’s initial bid, you’re still guaranteed to make the minimum amount on your ad inventory. 

If you’re struggling to optimize your ad revenue with second price auctions, then floor pricing can be a good way to make sure that you’re always receiving a semi-consistent amount. However, as with all RTB activities, it is purely trial and error to determine what floor prices work for you and your website. 

What’s the Difference?

The main difference between first and second price auctions is that second price auctions usually lead to an overall reduction in bids. Given that the winner of these auctions will only pay one cent more than the second-highest bidder (or floor price), as a result publishers are receiving less advertising revenue. 

This is one of the main reasons why floor pricing strategies are so important with second price auctions, as it allows publishers to regain some control over the advertising revenue they receive. 

Not only do second price auctions prevent advertisers from overpaying for ad inventory, but it also allows them to analyze the competition to optimize any future bids for the same publisher’s ad inventory. But, unfortunately for publishers like you, this means that advertisers often won’t pay the rates that your ad inventory is worth. 

First price auctions allow publishers to have greater control over their advertising revenue, even though floor pricing is less vital to this process when compared to second price auctions. This type of auction encourages advertisers to bid amounts that they feel reflect not only that inventory’s market value, but also its worth to that advertiser. 

It is worth noting that current bidding infrastructure is built around second price auctions, which is how header bidding can happen without drastically impacting a page’s load times. First price auctions, in comparison, don’t have the same level of infrastructure support, which can lead to extended load times, compromising user experience. 

How the Advertising Industry is Moving Forward

Since programmatic advertising was first introduced, it’s become increasingly convoluted and difficult for both publishers and advertisers to accurately value ad inventory. With second price auctions being the basis of the vast majority of programmatic advertising networks, parties at every stage of the advertising chain are beginning to consider if first price auctions are the new way forward. 

As the newest adopter of the first price auction, Google is set to make more waves in the advertising industry. As of September 2019, Google Ad Manager has fully rolled out first price auctions to programmatic display and video ads in its network, allowing for greater pricing transparency between advertisers and publishers. 

While Google isn’t the first to test first price auctions on its platforms, it’s expected that this move will cause significant ripple effects through the programmatic advertising industry. It’s worth noting that while this move doesn’t affect all of Google’s advertising networks, Google Ad Manager is still a significant ad exchange and one that holds a lot of power in the industry. 

Why is Google Ad Manager Moving to First Price Auctions?

According to Google, first price auctions reduce the complexity of the bidding system and allow for publishers and advertisers to work on a level playing field. As it currently stands on their platform, buyers aren’t required to provide their bidding information, making it difficult both for other buyers to compete against them and publishers to understand the value of their ad inventory. 

With the move to first price auctions, and the requirement for buyers to share their bidding information, all parties can see the current state of the advertising economy on Google Ad Manager. This way, they can form an effective strategy to remain competitive while guaranteeing that publishers  see a fair rate for their ad inventory. 

How Sortable Can Help Optimize Your Ad Revenue

Given how complex programmatic advertising and the types of auctions can be, our advertising experts at Sortable are on hand to help you optimize your ad revenue and form better relationships with advertisers. We know that the advertising ecosystem is a balancing act between your profits and an advertiser’s, which is why you can rely on us to monitor how any changes affect the advertising industry and your revenue. 

Not only that, but our dynamic flooring algorithm can ensure a fair price for your ad inventory, helping you to overcome bid shading practices and reductions in second price auctions. 

To learn more about how Sortable can help you grow your advertising revenue, get in touch with our team today — we’d love to hear how we can help you reach your business goals. Alternatively, you can check out our software with a personalized demo if you’d like to see Sortable in action.