Google's Profit and Sales Leap, Firing a Rally

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Encouraging third-quarter results aside, Google may not be able to withstand the headwinds of a protracted recession, which economists see as increasingly likely. "We're starting to see evidence of a slowdown in online advertising," says Jonathan Weitz, an analyst at Interactive Broadband Consulting Group. Recent Interactive Advertising Bureau figures showed the first quarter-to-quarter decline in ad spending since 2004, Weitz noted. A recession could affect even search advertising, especially because it is driven by small and midsize businesses—which may be especially hurt by falling consumer demand and a scarcity of funds as banks curtail lending.

Search Ads Keep Selling

And even if companies keep spending on search ads, it's possible that consumers who click on them will end up choosing to buy less frequently. This, in turn, would make the ads less effective for advertisers, who could then bid less for ads placed alongside Google's search results. A new study by search marketing firm SearchIgnite, for instance, found a trouble spot: Retailers in particular are starting to reduce search ad spending, which slid 10% in September.

For now, however, overall search-related advertising is holding up, and that's good news for Google. "Search is not immune to macroeconomic gyrations," says Craig Macdonald, vice-president for marketing and product management at Covario, which makes online-marketing analysis software. "But [Google] will be the last to be affected," he adds. According to SearchIgnite, overall U.S. spending on search ads rose 27% in the third quarter. "Our clients continue to want to spend on search," says Kevin Lee, CEO of search marketing firm Didit.com. "Like it or not, paid search is the front door to your store."

Another reason Google's results may not reflect the larger picture in Internet advertising is the company's sheer dominance. Covario estimates that Google accounted for nearly 83% of search ad spending in the U.S. and more than 95% in Europe. Because of that lead in one of the fastest-growing segments of Internet advertising, the results shed little light on the broader market—in particular on the climate for Yahoo (YHOO), which reports its third quarter on Oct. 21.

Given the market meltdown of the past few weeks, Schmidt conceded that the economy is in "uncharted territory." As a result, analysts may remain cautious on Google's prospects. "There's a lot of doubt about whether the 2009 estimates are too high," says John Aiken, managing director of Majestic Research. Currently the consensus is for 23% revenue growth. Aiken thinks that 20% is more likely, and even 15% is possible. But for one more quarter, at least, Google has held the bears at bay.

Hof is BusinessWeek's Silicon Valley bureau chief.