So I understand that Google has a quality score for each ad and each keyword, and that they use the following formula to determine the cost of each ad.

P = (B2 * Q2) / Q1
Where B2 is the bid of the next lowest ad, and Q2 is the quality of that ad.
What I don't understand is how they rotate the ads on the Google Network and how this affects pricing. Obviously they use a weighting mechanism to show the ads with a higher ad rank (bid * quality score) more often, but if an ad gets shown that doesn't have the highest ad rank, do they pay the CPC that the top ad would have paid, or do they pay their lower rate?

It seems odd that they would pay the lower rate since it is modeled after an auction and technically there would be higher bids that aren't winning.