Monday, October 15, 2007

As Its Stock Tops $600, Google Faces Growing Risks

NYT, Published: October 13, 2007

In two previous postings we discussed the challenges of iconic companies like Microsoft (2/3/07 posting) and Wal-Mart (10/8/07 positing) that are trying to maintain their strong positions after years of tremendous growth. This article looks at the challenges of a company that is trying to achieve iconic status……

Can anything stop the ascent of Google’s stock?

What could reset expectations about Google? What are the risk factors — short term and longer range — that could dim the aura of inevitable success that surrounds the company? What could slow the Google juggernaut?

The potential threats, according to industry analysts, fall into three broad categories: those from inside the company, those from rivals, and public policy challenges that could bring regulatory controls and tarnish Google’s reputation and brand.


Any big, fast-growing company confronts the “law of large numbers” — that is, growth rates naturally tend to slow as a company gets bigger. (I see this over and over again. Leaders make pronouncements about desired growth rate target without ever doing the math). That should not be a real issue for Google, analysts say, until it gets to be about twice its current size.

In 2007, the company’s revenue is projected to reach $11.5 billion, a 58 percent annual increase. Google, they say, is riding a tidal shift in advertising onto the Web that is just getting under way. Today, only 5 to 10 percent of advertising budgets are spent online, even though most Americans now spend as much time on the Web as watching television.

But in the short term, the number to really watch is Google’s spending. Last quarter, expenses that came in higher than anticipated surprised Wall Street and temporarily hit Google’s stock price. “The biggest challenge to Google’s stock is going to be if it gets the rap of being an overspender and not rewarding shareholders fully,” said Scott Cleland, an analyst at the Precursor Group.

Google is hiring at a torrid pace. The company keeps doubling the number of engineers it hires each year, adding 4,000 last year. “You simply can’t maintain the quality at 4,000 hires that you had at 250 or 500 or 1,000,” said Edward Lazowska, a professor of computer science at the University of Washington.

Larry Page, a Google co-founder, said at a conference last week that hiring was a big concern. “We never have enough people to do what we want,” he said. “We always need to hire. But there are limitations to how fast you can recruit people.” (Wouldn’t a lot of us like to have this problem)
Google is hiring so aggressively to support its ambitious strategy, which now extends well beyond its core business in search and online ads. (Can they sustain this?)

It has begun offering Web-based software like word processing and spreadsheets — areas where Microsoft is the dominant supplier. Its coming mobile phone software will put Google in competition with telecommunications companies. With YouTube, which it bought for $1.65 billion last year, Google has become a major distributor of entertainment, which could put it in conflict with cable TV companies. (They are expanding their addressable market space to give the room to grow. As they do that, their target customer will expand as well as the number and types of competitors. You determine the addressable Marketspace for your business. You have to be aware of the consequences however and plan for them)
These moves are assaults on huge businesses that have entrenched competitors. Google’s management style, geared to nurture individual innovation, may not be suited to the task, analysts say. (This can be a huge change for the way Google does innovation. There was a great article by Wolcott and Lippitz in the Fall publication of MITSloan titled The Four Models on Corporate Entrepreneurship which describes among others the innovation process at Google that may come under fire)

“Google needs to make sure that its management culture is in sync with the strategy,” said Thomas R. Eisenmann, an associate professor at the Harvard Business School. “I’m not sure the bottom-up approach will do it.”


“The great risk to Google is that someday it will face real competition in search,” said Jordan Rohan, an analyst at RBC Capital Markets.

Google looks so strong today in part because of the stumbles of its principal rivals, Yahoo and Microsoft. Both have invested heavily to catch up in search and online ad auctions, but without success so far. In September, Google’s share of Web searches in the United States was 67 percent, up from 54 percent a year earlier, reports, a Web analytics firm. The Yahoo share was 19 percent, compared with 29 percent a year earlier. And Microsoft had 9 percent, up slightly from a year ago.

The company’s market lead is so large that advertisers tailor their technology to work best on Google ad networks, and Web publishers design their sites to best pull in more Google users.
Jim Lanzone, chief executive of, the fourth-largest search engine with about 4 percent share, sees no “silver bullet” that could greatly shift market share. is acknowledged as an innovator in using graphics, audio and video in its results. The search market, he said, is so large that can thrive by gradually inching forward.

But Silicon Valley start-ups and venture capitalists are betting that there is room for major innovation in search. Powerset and Haika are two well-financed start-ups working on natural-language search, where a user types a question instead of keywords.

Google, too, is apparently pursuing disruptive new search technologies. Narayanan Shivakumar, a computer scientist who heads Google’s Seattle office, is being given 100 engineers over the next three years to try to come up with search technology that beats its current offering, according to an industry consultant told of the project.

Google’s rising market power could also slow it. George F. Colony, chief executive of Forrester Research, was visiting corporate clients across Europe this week. “Nearly every company I meet here, as in the U.S., sees Google as an enemy or a potential enemy,” he said from Paris. “That could close doors for Google and make it harder to do deals with potential partners.”


Not only Google’s market power, but also its reach and influence on how millions of people navigate their digital lives invite scrutiny. Privacy advocates say Google’s dominance and practice of keeping search histories of users raise many dangers. Google’s vast databases and search tracking, they say, raise the prospect of a corporate Big Brother.

Google’s motto is “Don’t be evil.” But Privacy International, a London-based organization, ranked Google last among Internet companies and called it “an endemic threat to privacy.”
Search engines like Google identify the searches done using a particular computer, rather than actually knowing who is at the keyboard. Yet privacy advocates say that unless rules are in place to limit what kinds of personal data can be collected and how long it can be stored, Google can effectively know who you are without knowing your name.

The privacy issue, they say, will only increase as Google grows and extends into new markets. “Google underestimates how strongly people care about privacy and underestimates governments’ willingness to take action,” said Marc Rotenberg, executive director of the Electronic Privacy Information Center, a privacy rights group.

That group and others have urged the Federal Trade Commission and European authorities to block Google’s planned $3.1 billion purchase of the online advertising company DoubleClick, or to make privacy protections a condition of the deal.

History’s Pull

In technology, dominant companies look invincible for years until they are unseated by the next wave of previously unforeseen innovation. I.B.M. ruled the mainframe era and Microsoft the personal computer boom. Google has emerged as a power of the Internet economy. Huge profits and market power are the rewards for being a keystone company in each era. It is no surprise, then, that I.B.M. and Microsoft were the targets of landmark federal antitrust suits. (The classic Innovators Dilemma!!)

What the next technology wave might be is anyone’s guess. But what Wall Street will be looking for is a turn, a shift in momentum. One such shift, analysts suggest, could be a combination of slowing growth and declining profit margins. Google’s ad revenue comes mainly from two sources: text ads from its own search results and ads it places on the Web sites of other companies. On the latter, it pays 80 cents or so of each dollar to the Web site and keeps the rest. Increased competition in ad networks, especially from Microsoft, will drive the payouts higher, nibbling away at Google’s profits.

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