White paper tracks search industry M&A

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By Sandra Swanson

When advertising agency Aegis bought search engine marketing company iProspect in December 2004 for $50 million—nearly quadruple iProspect’s 2004 revenue—it wasn’t an anomaly. Rather, it was part of a trend that will last for the next year or two, said Ken Sonenclar, senior adviser at Desilva & Phillips, in his recent report "Search-Engine Marketing: Growth Companies in Play."

Several other large advertising and marketing firms have paid top dollar for search engine marketing (SEM) companies within the past 18 months, where purchase prices as multiples of revenue have ranged from 2.9 to 4.1. DoubleClick, for example, paid $58 million for Performics, with annual revenue of about $14 million.

"Right now, the market values these companies’ skills very highly, and it values their clients, too," Sonenclar said.

Search-related advertising represented 40% of all online ad dollars spent last year. Although online advertising overall only constitutes a thin slice—around 4%—of all ad spending, that’s changing. Sonenclar points to a recent study from Forrester Research indicating Internet advertising budgets will grow at the expense of traditional channels such as direct mail and newspapers. Specifically, Forrester’s projected figures put search-related ad spending on par with radio and cable television by the end of the decade.

One appealing aspect of search-related advertising is its low customer acquisition cost. At $8.50 per customer, it’s a fraction of the cost for traditional marketing methods such as direct mail ($70) or even other online approaches, such as e-mail ($60).

To help attract customers, SEM companies typically offer several services to clients, Sonenclar said.

The most challenging task: Optimizing a customer’s Web site so it ranks as high as possible in list of search results. Since most users never even look at bottom of the first page, it’s a critical service and one that requires technical skills far beyond that of the typical marketing or ad agency, Sonenclar said.

SEM companies also help clients land top placements for the paid listings that appear alongside the main search results. To win top spots for paid ads, SEM firms must know how to bid appropriately on keywords that will match products and services with user searches.

In addition, some of these companies provide campaign management. Using analytical tools, they track the success of search-optimized Web sites and paid placements—and some can deliver updates that are nearly real time. Another frequent offering, called conversion optimization, customizes clients’ sites (after search engines have pointed users there) to minimize the number of clicks needed to close a sale.

"It’s part science, part art," said Sonenclar, of the skills SEM companies provide.

But Sonenclar thinks that those skills will become more commonplace eventually, making high-multiple SEM acquisitions a thing of the past.

But for now, demand for SEM skills will continue to outpace supply. And without SEM capabilities, large advertising and marketing firms can’t claim to be full-service agencies, said Sonenclar, and that’s prompted large clients to hire small SEM companies for specialized search needs. He didprovide a caveat, however. "The biggest misconception about [SEMs] is that everyone is good at it," he said. "If you do an online search, you’ll find a lot of companies claiming to have that skill. Do your homework and see how they work with current and past clients."

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