By Crayton Harrison

July 17 (Bloomberg) -- Google Inc. fell as much as 12 percent in late trading after reporting earnings that missed analysts' estimates on an unexpected surge in spending on new projects.

The owner of the world's most popular Web-search engine dropped to $470.55, the lowest level in three months. Excluding costs such as stock-based compensation, profit amounted to $4.63 a share, trailing the $4.73 average of estimates compiled by Bloomberg.

Research spending climbed 65 percent, sparking investor ire because Google is boosting the budget as the economy slows and concern about demand for Internet advertising is spreading. Today, Chief Executive Officer Eric Schmidt said for the first time the company faces ``a more challenging economic environment.''

``Very likely Google spent their earnings, raising headcount and doing other things that penalized the bottom line,'' Solaris Asset Management Chief Investment Officer Timothy Ghriskey told Bloomberg Radio. He also said the company missed growth estimates for clicks on ads. Clicks climbed 19 percent, decelerating from growth of 47 percent in the year-earlier period.

Google, based in Mountain View, California, fell in after- hours trading after closing at $533.44 on the Nasdaq Stock Market. If the decline holds when the market opens tomorrow, that would be the largest drop since the 2004 initial public offering.

This is only the third time Google has missed projections in 16 quarters as a public company. Net income rose to $1.25 billion, or $3.92 a share, from $925 million, or $2.93, a year earlier, the company said today in a statement. Sales excluding revenue from partner sites climbed 43 percent to $3.9 billion. Google doesn't provide forecasts.

Economic Challenges

``Strong international growth as well as sustained traffic increases on Google's web properties propelled us to another strong quarter, despite a more challenging economic environment,'' Schmidt said in the statement.

While Schmidt didn't say Google was hurt by the economic slowdown, analysts including Stanford Group Co.'s Clayton Moran said this is the first time the company had acknowledged the challenging economy.

In April, Schmidt told analysts that Google would keep winning clients if the economy slowed because its technology can deliver ads to users based on their queries, unlike other forms of advertising that can't pinpoint who views them. He said then that he didn't see an impact on results.

Economists on average estimate the U.S. economy expanded 1.2 percent last quarter, compared with 3.8 percent a year ago and 1 percent the previous quarter. First-time jobless claims rose last week to 366,000 as the U.S. housing market, tightening credit and slowing consumer spending combined weighed down growth.

Ad Spending

U.S. ad spending will grow 2 percent this year, down from an earlier forecast of 3.7 percent, New York-based researcher Magna Global said this month. Google, which got more than half its sales from the U.S. last year, is vying with Yahoo! Inc. and Microsoft Corp. for customers as advertisers look for the most effective way to spend shrinking budgets.

Google fielded about 62 percent of U.S. Internet searches in May, about double the market share of Yahoo and Redmond, Washington-based Microsoft combined. To take advantage of Google's higher prices, Yahoo Chief Executive Officer Jerry Yang struck a deal to let Google sell some ads for his company's search engine, shunning offers from Microsoft to buy all or part of the Sunnyvale, California-based company.

The partnership, under review by the Justice Department and the subject of hearings this week by U.S. lawmakers, may increase prices for Yahoo's search ads by 22 percent, said Roger Barnette, president of SearchIgnite Inc., an Atlanta-based search marketing firm.

Income from interest and other sources fell to $58 million from $167 million the previous quarter and $137 million a year ago. Research costs rose to $673 million, including expenses for stock-based pay.

To contact the reporter on this story: Crayton Harrison in Dallas at tharrison5@bloomberg.net

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