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Search Ads: Chilly Economy's Silver Lining?

These are nervous times for marketers. With words like "crisis," "recession" and "free fall" lodged in headlines around the world, jittery companies are trimming fat wherever they can find it, and advertising budgets commonly find themselves on the short list of areas to cut.

But advertising is a big, multifaceted business, and analysts point out that the impact of the economic downturn on the online sector will be to slow growth, not to reverse it -- supported as it is by the continuing strength shown by one category in particular: search ads.

Citing the "current macro-environment, indications that a broader economic recession lies ahead and the likelihood of sustained disruptions across some of the largest online advertising verticals," Barclays analyst Doug Anmuth today cut his projection for online ad spending in 2008 by 5 percent. Yet even with his revision, the $24.8 billion that Anmuth now expects advertisers to spend on the Web represents an increase of 16.9 percent from last year.

That compares to the offline segment, where Anmuth expects spending to decline 3.6 percent this year and 5.5 percent in 2009. The two markets' differing trajectories signify that while cash-strapped companies are spending less on overall advertising than they had planned, they continue to move dollars from traditional channels in favor of the Internet -- what analysts call the "secular shift".

A major reason for Anmuth's lowered estimate for the online sector is the ongoing pressure on Web display advertising, which he describes as the "category most affected in this current environment." Part of the reason he expects a significant drop in the category is that the effectiveness of a display ad remains harder to measure than ad units in other segments. Display advertising is typically sold based on the number of times an ad is seen, while advertisers buy search advertising on a cost-per-click basis.

Speaking this morning on a conference call with JPMorgan analyst Imran Khan, two search marketers offered empirical support for Anmuth's contention that search is the strongest segment of the online advertising industry.

"We're seeing pretty much what we'd expect. Budgets haven't changed," said Steve Lagnado, controller at search marketing firm Did-it. "If they have, they've increased."

Peter Hershberg, the managing partner of Reprise Media, an interactive shop owned by the Interpublic Group agency holding company, reported a similar situation.

"We are not seeing any softness," Hershberg said. He added that the secular shift, where new advertisers are launching their first search campaigns, is continuing. "Our expectation is that we will have incremental dollars come into the channel over the quarter."

Hershberg and Lagnado said that industries that have historically ignored search advertising in the past, such as pharmaceuticals and entertainment, are increasingly turning to agencies like theirs to enter that channel.

"We're actually seeing new categories emerge," Hershberg said.

He added that there was some concern within his agency that existing clients would get spooked by the economy and worry that they'd committed too much money for search campaigns, but those fears so far have been misplaced.

"We expected that given everything that's going on we'd get some nervous phone calls from our clients, and we haven't," he said.

Hershberg also reported a "good amount of advertiser interest in YouTube," Google's popular video-sharing site. Google (NASDAQ: GOOG) has been experimenting with a variety of ad formats for the site, but has acknowledged that advertising on YouTube is a work in progress.

The advertisers Reprise Media works with are just beginning to explore the possibilities of YouTube, as Hershberg said he was seeing "a lot of questions, not a lot of spending."

"That seems like something we're going to want to keep an eye on in the coming quarters."

But now might not be a time when many advertisers are eager to experiment. In a choppy economic climate, the major selling point about search is its accountability. Advertisers are more inclined to invest in a format they can trace to a deliberate consumer action when they are under pressure to make every dollar count.

The measurable return-on-investment that search provides led many experienced advertisers make even bigger investments in the third quarter, Lagnado said.

"We're seeing that clients that are mature in the search marketing place ... continue to make big increases in search spending," he said.

Concerns about Google-Yahoo deal

Aside from the economy, the proposed advertising partnership between Google and Yahoo (NASDAQ: YHOO) is casting a long shadow over the search marketing industry.

That partnership, which would see Yahoo import a certain number of ads from Google to place next to its search results, has met with sharp opposition from some advertisers who warn that it will drive prices up. The Department of Justice's antitrust division is currently reviewing the deal.

Ads on Google's results pages are generally more expensive, and opponents of the deal worry that Yahoo, desperate to improve its balance sheet, will turn over more and more of its ad operations to Google, paving the way for an effective exit from the market.

Hershberg and Lagnado both expressed concerns about the deal, but did not say they actively opposed it. Both companies typically advise their clients to spend at least 70 percent of their search budgets to bidding on keywords from Google. That compares with about 5 percent to 6 percent to be spent on Microsoft, a distant third in the market and a staunch opponent of the deal.

In their defense of the partnership, Google and Yahoo contend that because the prices of search ads are set at an auction, the market will set costs, not the companies selling the ads.

Asked about the likelihood that the cost of search advertising will rise if the deal goes through, Hershberg said that only time will tell, but did not hide his concerns.

"It certainly could. Logically, it would seem as though that would be the case," he said. "Does it go up to the point that cost-per-click becomes cost-prohibitive? I don't know."