Source: Barclays Capital Internet Deal Book, April 2010

The U.S. turned in a fairly robust quarter in Q1 2010, with a GDP increase of 3.2%. Personal consumption expenditures also increased 3.6%. In May 2010 the unemployment rate decreased to 9.7% and personal consumption expenditures increased $24.4 billion, or 0.2%. Greater consumer activity is typically a prime motivator for greater advertising spending. Online advertising revenues in the U.S. were $5.9 billion in Q1 2010, representing a 7.5% increase over the same period in 2009, according to Interactive Advertising Bureau.

Online advertising is the fastest growing segment of the advertising industry. Online advertising spending in the U.S. is expected to reach $24.9 billion in 2010, representing 8.9% growth over last year according to Barclays Capital Internet Data Book. Economic gains, increased broadband Internet access, along with the continued shift of advertising budgets from traditional to digital media is expected to drive online advertising revenues in the U.S. to $37.5 billion by 2014, a 10.5% compound annual growth rate (CAGR) from 2009, which totaled $22.8 billion.

In 2009 online media represented 14.0% of the total U.S. advertising spending while average consumers spent about 22.0% of their media time online. This gap represents a significant opportunity for acquirers and investors of online ad firms as online advertising budgets are increased to bring them in-line with online media consumption. The popularity of social media is increasing this consumption – three of the world’s most popular brands online are social-media related: Facebook, YouTube and Wikipedia.

While online advertising did not fully escape the impact of the recession, its decline in the U.S. was much less severe than that of other advertising media. Online advertising expenditures are expected to surpass newspaper advertising for the first time in 2010

Source: Barclays Capital Internet Deal Book, April 2010

Search marketing has continued to fuel the growth of online advertising. Search revenues are expected to increase from $11.0 billion in 2009 to $21.3 billion in 2014, a 14.1% CAGR. The $12.8 billion marketers will spend on search in 2010 represents 52.0% of the total online ad spend.

Online video advertising and mobile advertising are expected to further drive digital advertising growth in the coming years. Online video advertising is expected to reach $3.7 billion in 2014, a 32.7% CAGR from 2009 revenues of just under $1.0 billion according to Barclays Capital.

The mobile advertising market also is poised for growth as wireless networks are upgraded and more Internet-enabled smart phones arrive in the market. Mobile advertising in the U.S. is expected to grow from $414 million in 2009 to $1.6 billion in 2014, a 32.0% CAGR.

It is time for investors to update their investment thesis for online advertising firms.

I recently chaired a venture capital event focused on how to raise VC funding for tech start-up’s that was hosted by Pepperdine’s Graziadio Alumni Network of Orange County. The panelists included: Eghosa Omoigui, Director of Strategic Investments at Intel Capital; Marc Averitt, Managing Director at Okapi Venture Capital; and Stuart MacFarlane, Investment Committee Member at Momentum Venture Management and CEO of iChange.com. The panel was moderated by Alexander Haislip, Senior Editor of Thomson Reuters’ Venture Capital Journal and Private Equity Week.

Entrepreneurs seeking venture capital are facing the most difficult funding climate in over a decade. In 2009 venture capitalists invested $17.7 billion in 2,795 deals, a 37% decrease in dollars and a 30% decrease in deal volume from 2008, according to the MoneyTree Report by PricewaterhouseCoopers and the National Venture Capital Association (NVCA), based on data from Thomson Reuters.

Both Okapi Venture Capital and Momentum Venture Management funded about 30% fewer deals in 2009 vs. 2008. Marc Averitt of Okapi Venture Capital noted that they are, “currently focused on existing portfolio companies, but expect to start looking at new opportunities in 2010.” Stuart MacFarlane of Momentum Venture Management had similar sentiments and indicated that in 2009 all of their funding activity was in support of current portfolio companies. Both Mr. Averitt and Mr. MacFarlane also expressed a keen awareness of the pressure to deliver solid returns to limited partners.

Eghosa Omoigui of Intel Capital indicated that while their investment activity slowed in 2009 they were still very active. According to TechCrunch Dealmaker Rankings, Intel Capital was the fourth most active investor in 2009 investing $429 million in 46 deals. As a strategic investor Intel Capital does not have to live within the same 10-year fund boundaries of traditional venture capital firms. Intel Capital is able to make a broad range of investments and Mr. Omoigui indicated that their oldest portfolio company received funding in 1993, however, this company is preparing to file a S-1 for an IPO.

A video of the event can be found here: http://www.youtube.com/watch?v=MDKxy-lG2CQ

On March 2, 2010, at the ARPA-E (Advanced Research Projects Agency – Energy) Energy Innovation Summit in Washington, D.C., U.S. Energy Secretary Steven Chu announced that $100 million in Recovery Act funding will be made available to accelerate innovation in green technology. This is ARPA-E’s third funding opportunity of this kind.

There are three areas of focus for this program:

• Grid-Scale Rampable Intermittent Dispatchable Storage (GRIDS)
• Agile Delivery of Electrical Power Technology (ADEPT)
• Building Energy Efficiency Through Innovative Thermodevices (BEET-IT)

ARPA-E’s first solicitation, announced in early 2009, was highly competitive and resulted in funding 37 projects aimed at transformational innovations in energy storage, biofuels, carbon capture, renewable power, building efficiency, vehicles, and other areas. ARPA-E’s second solicitation announced in December, 2009 – which has yeilded nearly 500 concept papers – focused specifically on three areas of technology representing new approaches for biofuels, carbon capture, and batteries for electric vehicles. Here is a complete list of ARPA-E’s funded projects.

The objective of the ARPA-E funding is to give innovative ideas that are too risky for traditional venture investment an opportunity to get beyond the concept stage. ARPA-E funding “is about unleashing the American innovation machine to solve the energy and climate challenge, while creating new jobs, new industries and new exports for America’s workers,” said Secretary Chu.

In August of 2009 the Treasury began accepting applications for the 1603 Grant. The 1603 Grant was enacted as part of the American Recovery and Reinvestment Act and its goal was to provide a 30% cash grant of total renewable energy property installed. The grant was in lieu of the then-existing Section 48 tax credit, which provided a 30% tax credit for owners of renewable energy property (as it is defined in Section 48 of the Internal Tax Code). The goal of the program was to uphold renewable energy incentives in an economy where fewer applicants could take advantage of tax credits due to the overall state of the economy.

But how is the 1603 Grant program doing? To date, Treasury has issued $2.6 billion in grants under the 1603 Grant in Lieu of Tax Credit. The majority of recipients are solar and wind energy applicants. Click here to view a list of recipients of the 1603 Grant to date.

Source: Dow Jones VentureSource

The M&A market the past twelve-months has been weak, but strategic buyers will likely lead an increase in deal activity in 2010. Financial buyers have continued to be challenged with the lack of credit availability while many potential strategic buyers are sitting on cash or have some access to existing lines of credit. We saw an increase in M&A activity in Q4 2009, but I expect deal makers to very creative this year to get deals done.

Since the economic crisis began many firms have streamlined operations and increased their cash positions. This improvement in financial health is expected to produce an increase in mergers and acquisitions as firms try to kick-start their growth.

While venture-backed companies may seek an IPO exit in 2010, I expect strategic buyers to emerge as the more likely exit. According to Dow Jones VentureSource there are 25 venture-backed companies currently in IPO registration, but there were 86 M&A transactions in Q4 2009 generating $7.3 billion. Amazon.com’s (NASDAQ: AMZN) $847 million purchase of Zappos.com was the largest deal of Q4 2009.

Mergers and acquisitions are off to a brisk start in Q1 2010 with several transactions in the media and marketing sectors. A few deals follow: Dentsu, Japan’s largest ad agency, acquired Innovation Interactive, the parent of digital ad shop 360i; AOL (NYSE: AOL) acquired StudioNow, an online platform for content creation and distribution, for $36.5 million in cash and stock; and LivePerson acquired web analytics company NuConomy for $3 million.

I contacted Alexander Haislip, senior writer at Thomson Reuters’ Venture Capital Journal and a columnist for Private Equity Hub, to get his point-of-view on the M&A outlook for 2010, particularly in the cleantech sector. “There’s a great opportunity for innovation in the cleantech M&A where startups license their technology to big manufacturers who can put it directly into production,” commented Mr. Haislip. “Project financing for cleantech is way off levels we saw just a few years before and it is harder for ever for entrepreneurs to connect with expansion capital. Investors may find their best hope for at least partial liquidity in 2010 is through licensing. That’ll mean tangoing with the likes of The ABB Group (NYSE: ABB), GE (NYSE: GE), First Solar (NASDAQ: FSLR), and a host of other biggies that have yet to make their intentions known.”

2008 – 2009 saw few interactive agency deals…mainly acquisitions of specialized (social media marketing, analytics, etc.) agencies and some subscale companies looking to be part of a bigger story. Due to the confluence of factors including an improving economic backdrop, increasing ROI focus from CMO’s driving agency service demand, and the capital that has been sitting on the sidelines getting more restless, 2010 is shaping up to be a good year for i-agency M&A. We anticipate that some mid-size players in the $15mm to $40mm revenue range will be active in looking to consolidate, and some larger independents will continue to seek private equity funds to expand transactionally. This all bodes well for a much broader base of prospective interactive agency targets. 2010 should be a great M&A year for the space.

Most entrepreneurs and operators of digital media and marketing firms are glad 2009 is over and they are looking forward to an improved 2010. Though mid-2009, U.S. digital advertising revenues were down 5.3% from the same period in 2008 according to the IAB Internet Advertising Revenue Report. As of the third-quarter 2009 Forrester Research was forecasting a 13.7% increase in 2010 for digital advertising revenues. Key segments that will likely drive growth in 2010 include:

Content Platforms – We will likely continue to see content aggregators grow both organically and through acquisition in 2010. But the real growth will come through the continued advancement of automation technologies that will produce content people are seeking and deliver advertisements that reach desired audiences. Large-scale players include Demand Media and Internet Brands (NASDAQ: INET). A smaller, emerging player includes Mail.com Media Corporation (MMC), which was founded by Jay Penske in 2004.

Mobile – Yes, this category has made the list of “emerging trends” each year for the past decade, but what was not in the aughts will begin in the tens. U.S. mobile marketing expenditures are expected to grow from $1.7 billion in 2009 to $2.2 billion in 2010 according to the Mobile Marketing Association. Google’s (NASDAQ: GOOG) recent aggressiveness in the mobile space, whether its pending acquisition of mobile ad network Admob or the launch of its Android mobile operating platform, will have significant ripple effects in 2010. Combined with Apple’s iPhone and RIM’s BlackBerry platforms, consumers are making a meaningful shift to smartphones which will allow advertisers to deliver more targeted advertisements.

Social Engagement – This is the bucket for social games, networks and other points of engagement. While social gaming company Zynga is a great example, there are multiple emerging companies with innovative approaches. A couple of examples include digital agency Zugara’s augmented reality games/applications for marketers, and mobile social network FourSquare that awards points to consumers for broadcasting their location to a network of friends via their mobile device.

The next decade should be fun.

Several interactive agency acquisitions over the past year have involved online agencies buying expertise in offline media. Why? Because as the Internet increasingly becomes the hub for consumer interaction and transaction, interactive agencies — especially those with strategy and planning chops coupled with the analytics and reporting functions so critical to cross-channel measurement – are similarly being called on to help guide the overarching marketing strategy for companies. The new world order?!

Every quarter, Shop.org conducts a survey of online retailers. 2009 is proving to be one of those contrary years, especially in retail — with a  mixture of stops and starts.

59 retailers participated in the Q2 Online Sales Flash Survey. Respondents represented a mix of business type (variations on multichannel, branded manufacturers, pure plays) and annual Web business size. As usual, we asked simply, “How did your gross online sales (top line) for the period April 1, 2009 through June 30, 2009 perform relative to the same period last year”

For more information visit the Shop.org Web site; following are a few highlights:

• Fully 59% of retailers surveyed reported that their gross online sales had indeed grown for the quarter compared to the same quarter in 2008. 9% reported flat sales (in this economy, nothing to sneeze at), and one third (32%) reported sales decreases.
• Average YOY quarterly growth across all retailers surveyed was 11.8%
• Close to two thirds of large retailers ($100+ million in annual Web sales) reported revenue increases for Q2 2009 vs. Q2 2008. Ditto for mid-sized retailers (defined as between $10 million and $100 million in annual Web sales). Smaller retailers (under $10 million) struggled somewhat more, but half of those surveyed in this segment did in fact realize sales growth.

ZenithOptimedia, part of Publicis Groupe: The Internet has performed better than expected this year, Zenith raised its forecasts from 8.6 % to 10.1 % growth this year; by 2011 Internet will have a 15.1% share of advertising spending, from 10.5% last year.

The natural migration of money flowing to media where consumer are spending their time continues. If Zenith’s report is even close, we are talking about a sea change over a very short period (2009 – 2011) that will put some air into the sails of a lot of Internet marketing firms. While display advertising as a share of Internet has dropped (PriceWaterhouseCoopers: in the U.S., display-ad spending is expected to drop to $4.4 billion in 2013 from $4.8 billion in 2008), we expect performance marketing spending as a category of Internet spending to continue to increase dramatically. We also see a shift in venture interest away from purely ad-sponsored models, which should provide additional focus on other practical models.