May 21, 2008 2:06 PM PDT

Explaining the workings of Live Search Cashback

Posted by Ina Fried

REDMOND, Wash.--I'm not sure how much Microsoft's Live Search Cashback program will help Microsoft take share from Google, but I do find my brain grinding over the business model implications.

As I noted earlier, the economics are based on the same broad model as affiliate programs that pay referrers a cut on sales that they directly feed to the site. In this case the referrer (Microsoft) is shuttling all that money to the consumer. It's the same model bargain-hunting sites like Fatwallet.com use, although those sites typically keep some of the money to pay the bills.

But, where Microsoft is changing things a bit, is by moving this approach to search advertising. Essentially, advertisers can get placement by offering to pay Microsoft a cut of the sale as opposed to paying per click.

Here's where it gets interesting. In order to place a value on that ad, Microsoft has a team inside the company that figures out how much the new ads are worth to Microsoft and bids a cost-per-click amount against traditional buyers that use Microsoft's AdCenter.

But how does Microsoft do that? If it were keeping a percentage of the cut, I could understand it. It would assess a conversion rate for each advertiser and estimate what that translates to on a per-click basis. In this case, though, Microsoft is returning 100 percent of its cut to consumers. So the value to Microsoft is essentially the goodwill and loyalty that its offer generates--something that seems to me hard to put a value on vis a vis a pay-per-click ad.

It's also worth noting that although Microsoft is giving all of its revenue per search for the Cashback results to its users, it is not having to put money upfront or lose money on each sale, either.

Those retailers who are taking part in the program spoke fondly of it on Wednesday, saying it was a no-brainer that let them pay a percentage of the sale--something they basically try to do all along but using other, less precise methods.

They just pick a percentage they are willing to pay and offer that amount up to Microsoft's search users. The only tricky one is eBay, which sells much of its stuff through an auction--so it doesn't normally know the final price, unlike traditional retailers.

To deal with that, eBay plans for now to limit its participation to a subset of its Buy It Now fixed-price items.

"With auctions, it does get a little tricky," said Matt Ackley, eBay's vice president of Internet marketing and advertising. The company also has to figure out how to adjust the model to work for a site that sells items for less than $1 as well as cars and houses for thousands.

The question I have, though, is how those advertisers that are NOT part of Cashback will feel, essentially having to bid not only against other pay-per-click ads, but also against the somewhat intangible value that Microsoft itself places on the Cashback ads.

Any pay-per-click advertisers care to drop me a note? (I'm at INA dot FRIED at CNET dot COM).