How Do Ad Exchanges Charge? First‑Price, Second‑Price, and VCG Auctions Explained

Introduction

In the previous post we introduced the basic workflow of programmatic advertising and the types of ads. This article focuses on a critical step: how the Ad Exchange (ADX) charges during real‑time bidding.

Auction Types

When an impression is sent to multiple DSPs, the ADX runs an auction. Two classic auction formats are described:

English auction : participants continuously raise bids; the highest bidder wins and pays their bid.

Dutch auction : the price starts high and drops; the first bidder to stop the auction wins and pays the stopping price.

Real‑time bidding is a private auction: each DSP submits a bid without knowing others' bids.

Generalized Auction Mechanisms

The three common mechanisms are:

Generalized First Price Auction (GFP)

Generalized Second Price Auction (GSP)

Vickrey–Clarke–Groves Auction (VCG)

All award the impression to the highest bidder, but they differ in how the winner pays.

Example Scenario

Assume two ad slots (position 1 and position 2) with slightly different click‑through rates. Three advertisers submit bids as shown in the tables (images omitted for brevity). Under a first‑price rule, each winner pays its own bid: advertiser 1 pays ¥6, advertiser 2 pays ¥2, advertiser 3 pays ¥0.

This maximizes publisher revenue but leads to unstable earnings because advertisers keep probing each other's floor prices.

Generalized Second Price (GSP)

GSP charges the winner the second‑highest bid. In the example, advertiser 1 pays ¥2 (second‑highest bid) and advertiser 2 pays ¥1. This stabilizes revenue compared to GFP.

Game‑theoretic analysis shows that “telling the truth” (bidding one’s true value) is a weak dominant strategy under GSP for a single‑item auction.

VCG Auction

VCG extends second‑price to multiple items. The winner pays the externality it imposes on others, i.e., the loss in total market utility caused by its presence. The article walks through the VCG payment calculations for the example, resulting in advertiser 1 paying ¥3 and advertiser 2 paying ¥1.

Industry Adoption

Historically, Yahoo’s Overture used GFP, Google adopted GSP, and Meta uses VCG. In 2021 Google switched AdSense from GSP to GFP due to the rise of Header Bidding, which runs a first‑price auction across many ADXs before the RTB auction.

Header Bidding allows simultaneous bidding from multiple ADXs, using a generalized first‑price mechanism, thereby increasing publisher revenue and reducing the advantage of any single ADX.

Conclusion

Each auction mechanism has trade‑offs: GFP maximizes short‑term revenue but is unstable; GSP offers more stable earnings; VCG maximizes overall market efficiency but is complex. Most real‑time bidding today relies on GSP, with emerging hybrid approaches involving Header Bidding.