Category Archives: Berkshire Hathaway

Alphabet, Berkshire Hathaway, Google, Nest, Structure

Thoughts on Alphabet’s CEO struggles

We’ve had roughly two weeks now of fascinating insights into Nest specifically and Alphabet’s Other Bets in general, and I wanted to chime in on all this and revisit some of what I’ve written previously on the topic. For a quick primer on all that’s been going on, I suggest this brief reading list:

  • Google puts Boston Dynamics up for sale – Bloomberg article which suggests poor cultural fit, a lack of obvious routes to making money, and a general clampdown on financial responsibility at Alphabet companies
  • The Information’s lengthy article about Nest and Tony Fadell’s struggles there, which also mentioned the financial clampdown
  • Recode’s Mark Bergen writing about Alphabet’s broader CEO troubles
  • Another Mark Bergen piece about revenues at Nest and the two other moneymaking Other Bets (which happens to track pretty well with my estimates of these companies’s revenues here).

In three previous pieces, I wrote about Larry Page’s vision for Google as an emulator of the Berkshire Hathaway model, and then about the decision to turn Google into Alphabet, and subsequently Alphabet’s first set of financial results.

In the first of those pieces, I wrote these thoughts about why the Berkshire Hathaway model wasn’t appropriate for Google:

…the pieces of Google aren’t and can’t be independent in the way BH’s various businesses are, because many of them (including some of the largest, such as Android and YouTube) simply aren’t profitable in their own rights. Though the management of some of these bigger parts can be given a measure of autonomy, they can’t run anything like BH’s various subsidiaries can because they rely on the other parts of Google to stay afloat.

… if Page really is planning to build a conglomerate, that’s even worse news. For one thing, he’s absolutely the wrong guy to run it if he’s using Warren Buffett’s model as his ideal. Warren Buffett is, above all, a very shrewd investor, and Page’s major acquisitions have been anything but shrewd from a financial perspective.

Given what’s happened over the last few weeks, it’s becoming clear that even though Page really isn’t the right person to be running all this, Ruth Porat was brought in to offer exactly this kind of stricter oversight of the Other Bets. The challenge is that Google was never run this way, and so there’s a cultural clash there, which is only exacerbated in those parts where businesses were acquired and therefore brought their own distinct cultures. In some of the Other Bets, you now have a three-way culture clash, between the old Google culture, the new Porat-driven culture of financial discipline, and the mishmash of other cultures in acquisitions like Boston Dynamics, Nest, and Dropcam.

On balance, this tighter financial scrutiny is a good thing, and addresses some of those criticisms in my earlier pieces. In fact, in our 2016 predictions podcast, I made a somewhat out-there prediction that Alphabet would end up selling or spinning off at least one of its businesses in 2016 as a result of either poor fit or financial performance. Even I didn’t have that much confidence in that prediction, but it’s turned out to be accurate with the planned sale of Boston Dynamics. But none of that is to say that this is going to be painless for Alphabet or the individual Other Bets. It’s going to be a tough couple of years as this cultural clash works its way through.

Quick thoughts on Tony Fadell

Before I close, I wanted to just touch quickly on something I’ve hinted at on Twitter but haven’t really written about properly anywhere, and that’s Tony Fadell’s management style.

Much has been made of how Fadell’s style seems to emulate Steve Jobs’ style in many respects. The big difference, though, is that Steve Jobs always owned his brusque, rude style and never apologized for it (for better or worse). He recognized that his style wasn’t going to be popular, but believed it was still the right way to go even if people hated him for it. The difference with Fadell is that he seems to want to have his cake and eat it too – he wants to behave the way Jobs did but be loved as well. One of the strongest indicators of this is the way he seemed to recruit people to come to his defense following earlier critical articles (here and here) on his management style, and then retweeted their positive comments:Fadell tweetsThere’s nothing wrong with defending your management style if you believe it to be right, but there’s something disingenuous about embracing Steve Jobs’ abrasive style while also wanting to avoid the consequences. This was Steve Jobs’ approach to the same problem, as articulated by Jony Ive:

“I remember having a conversation with [Steve] and I was asking why it could have been perceived that in his critique of a piece of work he was a little harsh. We’d been working on this [project] and we’d put our heart and soul into this, and I was saying, ‘Couldn’t we … moderate the things we said?’

And he said, ‘Why?’ and I said, ‘ Because I care about the team.’ And he said this brutally, brilliantly insightful thing, which was, ’No Jony, you’re just really vain.’ He said, ‘You just want people to like you, and I’m surprised at you because I thought you really held the work up as the most important, not how you believed you were perceived by other people.’

I was terribly cross, because I knew he was right.”

Alphabet, Berkshire Hathaway, Big picture, Google, M&A, Management

Making sense of Google’s Alphabet move

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This afternoon, Google announced a restructuring of its business which will eventually see the current core Google business sit as a subsidiary within a new parent company called Alphabet. Google’s blog post about the move is here, and the SEC filing with some additional details and legalese is here.

Berkshire Hathaway remarks in context

This move finally puts the comments Larry Page made recently about Berkshire Hathaway in context – I wrote about those remarks previously here. As a reminder, Page had said to some shareholders that he saw Berkshire Hathaway as a model for Google to emulate, and in that piece I wrote about all the ways Google isn’t like Berkshire Hathaway, and why that model would be wrong for Google, and yet here we are facing the prospect of a conglomerate called Alphabet owning Google and a variety of other unconnected businesses.

The reasons for the move

There are two ways to explain this move. The first can be described as personal: Larry and Sergey have quite clearly been increasingly uninspired by merely running a search engine and advertising business, and this finally aligns their job titles with what they actually want to spend their time doing. It also gives Sundar Pichai a well-deserved promotion and presumably prevents him from leaving for a CEO job somewhere else. However, it would be an irresponsible thing to do to restructure a company as huge as Google simply to give three individuals the jobs they want.

Hence, we have to look at financial reasons, and I think there are a couple of them here. Firstly, this is kind of like Amazon’s recent AWS move in reverse. When Amazon broke out AWS in its financial reporting recently, it took a small but rapidly growing part of the business that was buried in the overall financials and allowed it to shine in its own right, rather eclipsing the core business in the process. Google has to some extent the opposite problem: its core business is massively profitable, but it has a growing number of non-core businesses which are masking its true performance. By breaking out the core Google business and the rest in its financial reporting, Google allows the core business to shine (I’d expect that core business to have better profitability and potentially growth numbers than Google as a company reports currently). By contrast, it will finally become clear quite how large and unprofitable all the non-core initiatives at Google are, which might well increase pressure from shareholders to exit some of those businesses. I suspect that the positive reaction in the stock market to today’s announcement is a sign that Larry Page and others have signaled to major shareholders that something like this would be happening.

The other financial reason is that separating subsidiaries in this way loosens the organizational structure and allows much easier addition and subtraction of those entities – in other words, acquisitions and spinoffs. Until now, any large acquisition contemplated by Google had to be absorbed by the core business or awkwardly separated out as Motorola was during its brief time at Google. Neither is ideal, but allowing acquisitions to sit in an “Other” bucket at Alphabet corporate level while leaving Google intact and separate might be a more attractive way of managing acquisitions going forward. At the same time, any subsidiary that either becomes so successful that it’s worth spinning off as its own company or comes to be seen as non-core is much more easily disposed of because it’s already operating somewhat independently.

A conglomerate needs an investment strategy

As I mentioned in that earlier piece, one of the biggest problems with seeing Google as a conglomerate is that it doesn’t share one of the key characteristics of other conglomerates: its subsidiaries are able to operate independently. Yes, it’s clear that Larry Page wants Google’s various subsidiaries to be operationally independent, with their own CEOs making decisions about their businesses, but it’s also clear that in the vast majority of cases they won’t be able to financially independent. In other words, those CEOs who are supposed to be independent will be going cap-in-hand to Alphabet management every quarter asking for more money to fund their operations.

But to my mind the bigger issue is that, as Google shifts from being a single company to a conglomerate, a mission statement such as organizing the world’s information needs to be replaced by an investment strategy, and it also needs an investment manager. One of the defining characteristics of Berkshire Hathaway is that it’s very transparent about the principles on which it’s managed (see the Owner’s Manual written by Buffett in 1999). Its management is both highly skilled in making investments but also highly focused on achieving specific financial goals with those investments. By contrast, it’s not clear that Larry Page or any of the other senior managers at Google has this skillset, or that there’s any investment strategy here other than doing things that Larry and Sergey find personally interesting or “important and meaningful” (to borrow the phrase they use in the blog post). That’s a poor guide to an investor as to how to think about the company and its financial performance going forward. The restructuring won’t happen until later this year, but one of the things that Google’s management will have to do between now and then is explain what their investment strategy is.

A quick note on transparency

I’ve seen some people suggesting that Google will provide more reporting transparency as a result of this move. That’s true, but only insofar as Google will now report the part of the company that’s still called Google as a separate entity from the rest. As Mark Bergen reports at Recode, only Alphabet and Google will report their results – the rest will presumably just be in a big pile called “Other”. I’d assume that the Google segment will continue to break out the Google Websites, Network, and Other buckets as at present, but anyone hoping for more data on the performance of Android, YouTube, or other bits of that Google business will likely be disappointed. It’s going to continue to be as opaque as it always has been, I suspect.

Berkshire Hathaway, Big picture, Google, Management

Google isn’t Berkshire Hathaway

Update: given Google’s Alphabet announcement on August 10th, I’ve written a new post which refers back to this one. You might like to read that one too.

That’s likely an odd title, but both the title and this post were prompted by a paragraph in a Wall Street Journal article about Google ahead of its earnings later this week. The paragraph, which references remarks made by CEO Larry Page at a meeting with large shareholders back in December, reads as follows:

Mr. Page said he looks to Berkshire Hathaway Inc., the insurance-focused conglomerate run by billionaire Warren Buffett, as a model for how to run a large, complex company, according to people who were at the meeting. Mr. Buffett has a cadre of CEOs running operating companies and doles out capital from the holding company to these businesses based on their performance each year.

I first saw references to this paragraph on Twitter, and subsequently decided to read the whole thing. While the tenor of the article overall is very much in keeping with my own views on Google (it seems to be facing increasing headwinds and is doing a poor job of explaining how it will weather them), this idea attributed to Page struck me as particularly odd, and somewhat worrying. And the simple reason is that, even though it’s perfectly normal (and sensible) for CEOs to seek to learn from other CEOs how to run their companies, Google is nothing like Berkshire Hathaway, and indeed it shouldn’t be. Below, I’ll outline several reasons why I find Page’s remarks concerning.

Berkshire Hathaway is a conglomerate

I don’t know any more about Berkshire Hathaway than the next person – it’s simply not a company I’ve spent a huge amount studying. But I have learned enough previously (and researched enough today) to provide a brief primer. First off, Berkshire Hathaway is, famously, a conglomerate. That means, in part, that one of its defining features is that it’s a very diverse business with many unconnected parts. Wikipedia’s definition is likely as good as any (emphasis mine):

A conglomerate is a combination of two or more corporations engaged in entirely different businesses that fall under one corporate group, usually involving a parent company and many subsidiaries.

Berkshire Hathaway itself wonderfully fits this description. Though the Journal article describes it as “insurance-focused”, in reality BH’s assets are incredibly diverse, including Dairy Queen (a restaurant chain), Fruit of the Loom (clothing), a railway, energy companies, half of Heinz, a whole range of others and, yes, a sizable insurance business. Many of these businesses are indeed run entirely at arm’s length, and they can be because they have no connection with each other. They can also be run in this way because they’re all profitable in their own right (at least at a divisional level), and so don’t need the other subsidiaries to prop them up. The only real connections between BH’s various businesses are the 25-strong headquarters staff and the fact that the company uses the “float” (the premiums received but not yet paid out on) from the insurance business as a cheap source of investment money for the other businesses.

Google is not a conglomerate

On, then, to Google, which I know and understand much better and which is very different from Berkshire Hathaway. There are several key points here:

  • Firstly, Google isn’t a conglomerate – its businesses have hitherto had fairly strong connections with each other, and in some cases a very strong connection. At a basic level, almost all of Google’s businesses (until relatively recently) have been Internet services businesses, and even all its current businesses are at least technology businesses. That, alone, makes them far less diverse than most conglomerates, and than the the definition above suggests.
  • Secondly, although Google has many products and services, it doesn’t have “many subsidiaries” – these products and services have largely been interconnected, as I just described, and as such can’t simply be treated as a series of subsidiaries to be managed separately, as Berkshire Hathaway’s various assets can.
  • Thirdly, the pieces of Google aren’t and can’t be independent in the way BH’s various businesses are, because many of them (including some of the largest, such as Android and YouTube) simply aren’t profitable in their own rights. Though the management of some of these bigger parts can be given a measure of autonomy, they can’t run anything like BH’s various subsidiaries can because they rely on the other parts of Google to stay afloat.

I’m not sure which explanation for this disconnect worries me more – either Larry Page doesn’t understand these important differences between Google and Berkshire Hathaway, or he’s planning to turn Google into a true conglomerate along the lines of BH. Neither seems like a good sign. I’ve already talked about the first of these, so let’s tackle the second. Though some of Google’s recent acquisitions haven’t fit with certain popular visions of what Google is as a company, I believe they all fit if you look at the company through the right lens: as a machine learning and artificial intelligence company (something I wrote about in detail in this piece). I think there are still concerns about Google, as I said at the outset, but I don’t think over-diversification is one of the biggest.

However, if Page really is planning to build a conglomerate, that’s even worse news. For one thing, he’s absolutely the wrong guy to run it if he’s using Warren Buffett’s model as his ideal. Warren Buffett is, above all, a very shrewd investor, and Page’s major acquisitions have been anything but shrewd from a financial perspective. But using Google as a vehicle for further investments also doesn’t seem like a good idea, regardless of who’s running it. Conglomerates are notorious for diminishing rather than enhancing the value of their subsidiaries, and Berkshire is the exception rather than the rule (and Buffett has articulated clear reasons why).

The one way in which Google could be like Berkshire Hathaway

There is one small way in which Google might be like Berkshire Hathaway, and that’s the fact that Google, like BH, has one part of its business that generates significant sums of money that can be used to invest in the rest. At BH, this is the float – not technically profit, but still cash on hand that can be invested elsewhere. At Google, it’s the search advertising business that is Google’s profitable core. However, unlike BH’s insurance float, which seems fairly safe for the time being and has been steadily growing over the years, Google’s core business seems increasingly threatened, and it’s not clear that any of its other businesses are in a position to supplement or supplant it as a major source of revenue in the near future. The key difference, then, remains that BH uses its float to invest heavily in businesses that are already successful, whereas Google invests its profits into businesses that need the money just to run, because they’re unprofitable.

I think the most charitable reading of Page’s remarks is that he only sees Buffett’s model as a guide at a very superficial level – of giving his various direct reports a certain amount of autonomy. I certainly hope that’s what he meant by the comparison, because almost any other reading of them is worrying, to say the least.