Category Archives: Big picture

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.

Big picture, Earnings, Microsoft, Microsoft Earnings, Q4 2014

My thesis on Microsoft

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It’s earnings season and I generally post a particular kind of post when that’s the case, including the Microsoft earnings post I did last night. Typically, I highlight a few key data points and analyze those, without stepping back to do a big-picture view on a company. But sometimes I worry that this leaves readers without a good sense of how I see the company in question and its prospects. So I wanted to do a follow-up post to yesterday’s in which I take a broader view and share my overall thoughts on Microsoft and its prospects. I’ll provide a list of links to previous pieces on Microsoft at the end of this post in case you’re interested in exploring any of this in more detail.

Windows PCs are in a long-term decline

A big part of how you see the future of Microsoft depends on what you think the underlying trend is and will be in Windows PCs, so let’s start there. I see two theories in the market at the moment, and which of these theories you subscribe to very much provides the lens through which you see Microsoft’s results each quarter. One theory is that Windows PCs are on either a stable or growing trajectory over time, and that any quarters in which there is negative growth are the exceptions to that rule. The other theory is that Windows PCs are on a downward trajectory over time, and that positive growth quarters are the exceptions rather than the rule.

For the following reasons, I subscribe to the second theory:

  • PCs as a form factor are now one of several that can be used for the purposes that once required a PC, with tablets and smartphones providing adequate computing power and capability for what many people need
  • PC hardware has reached the point where even those who see a need for a PC don’t perhaps see the need to upgrade it as frequently, because a PC from several years ago is still perfectly adequate, especially if relegated only to those tasks other devices can’t perform effectively
  • Competition is gaining ground, with Chromebooks taking significant share in education and Macs gaining share in the broader PC market, especially among college students and other key groups. As such Windows PCs will be an ever smaller share of total PCs
  • People are choosing platforms other than Windows in new device categories such as smartphones, tablets, wearables, smart TV devices, and so on. As these other platforms increase the degree of integration within their ecosystems, it will be harder for Microsoft to sell Windows PCs that don’t integrate as effectively with Android tablets or iPhones.

For all these reasons, I see a downward trajectory over time in sales of Windows in total, even accounting for the many different form factors Windows runs on. As such, last quarter’s poor performance in Windows sales is much more indicative of the longer-term trend than short-term headwinds. I see Windows 10 slowing the decline a little, but I actually think the free upgrades could stall or postpone new device purchases for some users, which may be counterproductive in the short term. I don’t see Windows 10 solving any of the fundamental challenges I just outlined. Continue reading →

Big picture, Business models, Presentations, Slides, Subsidies

Business models in consumer tech deck

I’ve recently been delivering a presentation to various tech companies on the evolving nature of business models in consumer technology, and the implications for both large and small consumer tech companies. I’m making a shortened version of the slide deck available through SlideShare (and embedded below, if you’re reading this on the web), as a way of sharing this content with a wider audience. When I deliver this presentation in person, it’s somewhat longer, and usually customized to the audience. If you’d be interested in paying to have such a presentation delivered to an audience at your company, please contact me and I can provide pricing information. You’ll notice that the deck also touches a little on the Digital Layer concept I introduced last week: I’m working on a separate slide deck which fleshes that concept out further. Feel free to view, download, embed and share the deck as you see fit!

Big picture, BlackBerry, Whole company analysis

BlackBerry’s unhappy valley

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Today, BlackBerry officially launched its latest handset, the BlackBerry Passport. I attended the launch event, because I was keen to see the new, John Chen-led BlackBerry up close and hear what they had to say first hand. So many of the people who read my work are entirely focused on the devices business, and have long since written BlackBerry off as a company because of the performance of its handset business. But my own view is more nuanced. I’ve written about BlackBerry extensively in the past, mostly while with my former employer, Ovum, although one of my earliest posts on this blog was about BlackBerry. But it’s been quite a while, so I thought I’d give an update on my thoughts on the company, using today’s event as a jumping-off point.

BlackBerry was never just about devices

There’s no doubt that BlackBerry has fallen a long way from its peak.  Beating up on the company on this point is fruitless – it’s a fact that it’s a shadow of its former self when it comes to its handset sales, which formed the core of the company’s business for many years. Revenue from devices made up the majority of the company’s revenues very consistently from 2003 to 2013, and for much of that time it made up well over 70% (and sometimes over 80%) of the company’s revenues. Thus, in many people’s minds, BlackBerry is first and foremost a handset company, and given the decline in its fortunes in that area, they assume that it’s done for. The company’s device revenues peaked at around $16.5 billion annually in 2013 but have fallen to under $2 billion annually.

Were BlackBerry to have been simply a handset sales company like HTC or Kyocera, this decline would have been terminal (no pun intended). But BlackBerry has always been more than just a devices company. Even when its revenues were dominated by handsets, it derived a significant proportion from service fees associated with BlackBerry subscriptions. Those were directly tied to the number of BlackBerry devices sold, in that both revenue streams derived from the same source. So, to the extent that the number of BlackBerry devices has plummeted, its service revenues have fallen too, from a peak of over $4 billion per year to under $2.5 billion – not quite as dramatic, but still a fairly sharp decline. However, that business, and BlackBerry’s broader foothold in the enterprise, has been its salvation even as device sales have fallen off a cliff. Continue reading →

Big picture, Communications, Comscore, Content

Communications and content drive consumer tech

I have a chart I often use in my presentations to clients, which encapsulates my perspective on the consumer technology market:

Comms and ContentThe point of the diagram is that, although much of the money and almost all the attention in consumer technology is centered on devices, devices are just a means to an end. What really drives consumer purchasing in this market isn’t hardware for its own sake but the ability to engage in communications and consume (and to a lesser extent create and share) content 1.

Comscore today released an in-depth report featuring many of its statistics on the mobile app market, and it’s full of interesting charts and data points. But given the framework I outlined above, I was particularly intrigued by the charts showing the most used apps by age group, based on share of time spent on mobile apps. ComScore presents this in four separate charts, but I’ve compiled that data into one chart for an easier overview:

Comscore app time spentWhat’s striking to me is that virtually all of these apps can be described as either content or communications (I see Facebook as a blend of the two categories, and it’s therefore interesting that it comes out on top by some margin). The only possible exception is Google Maps, which is arguably a form of content but sits outside my usual categories. The apps that make up the list vary considerably by age group, but the broad categories are similar. Among 18-24 year olds, messaging apps are disproportionately used, with Snapchat and Kik making their only appearances in the top 10 in this group, while with older age groups Gmail and Yahoo Mail creep in. Interestingly, games make an appearance in the top 10 among the two older age groups but not the two younger ones. Other than gaming, however, the top content apps are the same in all four age groups: Pandora on top, followed by YouTube and Netflix, in that order (Netflix drops out of the top 10 in the oldest age group):

Comscore three major content apps

Another fascinating feature of the data is somewhat counter-intuitive: the older you get, the less concentrated your app usage is in the top 10 apps. Comscore refers to this briefly in its report, characterizing it as a greater emphasis on fun and entertainment among younger users, while older users spend more time on productivity tasks as well, but I’m not sure it’s that simple. Still, it’s a very clear trend:

Comscore top 10 apps as share of time spent in apps

The other fascinating thing to think about is that very few of the apps in the top lists are monetized directly from users. Users spend hundreds of dollars on the devices they use these apps on, but very few of them spend money on these apps. Netflix is the highest-paid app/service on the list, but essentially all the others at least offer a free tier and many of them are entirely free to users, funded by advertising. As such, even though communications and content drive purchasing in consumer technology, they don’t drive much of the consumer revenue in this space.

Notes:

  1. To be clear, my definition of content includes video, music, gaming, news, weather, books and so on, and my definition of communications includes audio, text, video and other forms. ↩
Big picture, Dan Hesse, Sprint

Evaluating Hesse’s tenure at Sprint

With news today that Dan Hesse is being replaced as CEO of Sprint by Marcelo Claure , I thought it would be worth looking back at Hesse’s tenure as CEO.

An early opinion, from 2008

I dug out an old blog post from 2008 from a now-defunct blog I used to maintain, and it’s worth revisiting. This was just a few months into Hesse’s time as CEO of Sprint, and probably my first close-up encounter with him 1. I quote from that post:

Just got back from [a group] dinner with Dan Hesse, Sprint CEO, at CTIA here in Vegas… My first question was what he had learned about what had gone wrong at Sprint which had led it to the predicament it’s in today.

His main answer was that it ultimately all comes down to the merger with Nextel… The main issues stemmed from the fact that the merger was ultimately billed as, and contracted as, a “merger of equals” because the market valuations of the two companies were similar. This created huge problems, both in terms of the price paid and in terms of the structures and policies which flowed from that decision.

Firstly, in terms of the price paid, this led to massive synergy requirements to provide a return on investment. These synergy targets were overly ambitious and became the driving force for all the other targets at the company. The focus was therefore on massive cost-cutting, was very internal, and ignored external considerations, and especially considerations of customer care, churn and customer service, all of which suffered as a direct result.

The second problem was that the “merger of equals” narrative required an equitable distribution of various goodies after the merger concluded. This included seats on the board and in the senior management roles at the company, which were distributed equally between Sprint and Nextel. The split headquarters between Reston and Overland Park also resulted from this mentality. And it meant that no single unifying strategy led the company during that time, but rather it was constantly torn between the competing visions and philosophies of the people who had brought the two companies together.

From all this flowed the lack of focus on the important things, the over-focus on secondary considerations, and the mess Sprint is in today. Hesse is quickly changing all of this – one of his first moves was instituting greater accountability throughout the business (Gary Forsee had been the only person in the company with P&L responsibility before he left). And he has also made customer care, churn and other external metrics key to incentive structures and reporting throughout the business.

There is still a massive mountain to climb at Sprint, but Hesse certainly seems to have grasped the essential issues and made quick changes which should lead to the kind of turnaround that’s required. It remains to be seen whether the rest of the company can execute on his vision, but it certainly appears to be the right vision in many respects.

Consistent strategic priorities

To an extent that would become even clearer during the course of 2008, Hesse’s hands were tied to a great extent by the mistakes made by his predecessor. But he did the best he could with what he had to work with, and did an amazing job of turning the company around over the next few months and years. He established three key priorities for the company in those first few months, which he outlined at an analyst event I attended in May 2008 (again, quoting from that earlier blog):

Sprint has three clear strategic priorities: fixing the customer experience, establishing a clear brand in the market, and focusing on profitability. This clarity of purpose and focus on fundamentals is a good thing, and the key will be to execute on it without adding a raft of additional initiatives and programs over the coming months. Sprint needs to get the basics right before it gets distracted again.

One of the most impressive things about Hesse’s tenure is that he stuck to these three strategic priorities throughout it, and he reiterated these at the analyst event Sprint held in June this year. Fixing the customer experience, which had become so broken in the time after the Nextel merger, was priority number one, and Hesse made very rapid progress here, by looking at root causes of dissatisfaction and solving those one by one, leading both to increased satisfaction and a smaller call center footprint and staff. By October that year, Sprint was coming first in customer service surveys, a huge turnaround from last place two and a half years earlier. Under Hesse, Sprint transformed its customer experience and customer service, and this helped hugely in returning the company to growth and repairing a damaged brand.

Hesse also worked to personally fix the brand, appearing in commercials for the company to personalize his message of fixing the company and making Sprint great again. I’d argue that advertising was some of the most effective of any ads run by major US wireless companies over the last several years, and certainly Sprint’s most effective ad campaign of Hesse’s tenure. It led with Sprint’s new Simply Everything plan, which offered unlimited voice and data for $99.99, and was emblematic of a theme of simplification across Sprint’s business. Many calls to care involved questions about bills and overages, so Sprint simply moved to plans that were priced simply and didn’t incur overages. This built on Hesse’s history with price plan innovation, which he liked to point out started much earlier at AT&T, with the first 800 numbers, and later with the Digital One Rate plan at AT&T Wireless.

WiMAX – another albatross around Hesse’s neck

Continue reading →

Notes:

  1. Throughout his tenure, and throughout my time as an industry analyst, Hesse has been and remains one of the most accessible CEOs in the business, something I’ve been grateful for. ↩
Big picture, Microsoft, Whole company analysis

Nadella’s manifesto

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Satya Nadella today wrote an email to Microsoft employees, which was simultaneously published on the Microsoft website. We’ve had glimpses and snippets of Nadella’s vision for Microsoft over the past several months, but this is the first time we’ve had the whole thing laid out in clear terms, and it marks something of a strategic break with the Ballmer era.

The most visible sign of this is the dismissal of “Devices and Services” as the descriptor of Microsoft’s strategy and mission. This was the vision Ballmer cooked up in his last couple of years at the company, as he sought to find a way forward for Microsoft in the face of serious threats to its two biggest businesses – productivity and operating systems. It did one thing well: recognized that operating systems would in future be monetized through hardware sales, and that productivity software would be monetized through services. But that was about as far as it went. Neither Ballmer nor anyone else at Microsoft ever really articulated how the two fit together, or how Microsoft would bridge the competing demands of providing the best services on any platform versus providing devices that offered truly differentiated experiences.

I do think the two could have been rationalized, as I’ve written elsewhere. Ultimately, a devices and services strategy properly executed would have meant creating really compelling services and then having Microsoft devices serve as the best possible instantiation of those services. But Microsoft was never really able to articulate that vision, and in the process created some really awkward questions for OEMs about why Microsoft was competing with its partners, first with the Surface and then with the Nokia devices acquisition. The fundamental problem, though, with Devices and Services as a strategy, was that it was never fleshed out, and thus was mostly a description of new business models for its two existing businesses, rather than a true vision for transforming Microsoft. It also never answered the question of what Microsoft was really about, or why it does what it does.

Satya Nadella’s new strategy replaces the Devices and Services pairing with another: Productivity and Platforms. On the surface, that could seem like a startlingly unoriginal vision for the Office and Windows company – more of the same. But drilling into what Nadella actually means by those two things shows that he has a much more expansive vision of what both terms signify, but one that’s rooted in the things Microsoft is good at. That’s a subtler shift, and we have yet to see the full implications of it. But it positions Microsoft as an enabler of its users, both enterprise and consumer, rather than a seller of devices and services, and that’s an important change, because it speaks to potential customers rather than merely to investors.

The other major implication of all this is a refocused Microsoft, one which sees “dual users” (a term that Microsoft uses to describe what others have called “prosumers”) as its target market. It’s in some ways an admission of defeat in the broader consumer market, and a statement that it’s going to focus on the narrower segment of people who see “getting things done” as a major reason to buy a personal device or use a consumer service. There certainly is a substantial segment of the population that views getting things done as important when selecting a device vendor or online service, but I suspect it’s a minority.

The other challenge is that, as Microsoft has been broadly absent from the smartphone and tablet markets for the last several years, people have found plenty of other ways to get things done without Microsoft’s help. Given its slow response to the demand for Office on the iPad, for example, it now faces much more of an uphill battle than it would have done had it embraced that opportunity before many alternatives moved in to fill the void. The same applies to many other domains where Microsoft has lost a step over the last few years.

Where Microsoft seems much better placed is in the broader platforms business, beyond traditional device-based operating systems, in what Nadella calls “Cloud OS” in his email. Microsoft was the only one of the big three consumer technology companies to split its developer conference keynote into two, and it did it to focus almost entirely on this opportunity in the second part. With Azure at the center, Microsoft is building a truly device- and platform-independent set of cloud services and infrastructure for developers, and doing well at it. But this revenue stream today is a small fraction of Microsoft’s overall revenues, at a couple of billion dollars a quarter across both its Enterprise and Cloud services businesses. Cloud Services itself – which also includes Enterprise Office 365 revenues – is smaller than Microsoft’s online advertising revenue, though growing much more quickly.

One upshot of all this is that we may be looking at a smaller Microsoft over time.  Last quarter, Microsoft’s revenues actually shrank year on year for the first time in a couple of years. If Microsoft yields much of the consumer market to competitors while focusing on a narrower segment, it could see revenue declines in some historical areas along with smaller growth in the new areas it’s successful in. But once it crosses the chasm from its historical highs to a new, refocused business, it should be set for better growth again. At least Nadella seems to be seeing Microsoft’s strengths and weaknesses clearly and taking steps to reshape the company in the right mold. There are also hints towards the end of the email about efficiency, streamlining and flattening in the organization, which could be read innocuously as having the same team operate more efficiently but could also be seen as an indication that some cuts may be coming.

Lastly, it’s interesting to see the word “privacy” pop up four times in the email, and particularly interesting in the context of the fact that it was never uttered during the keynotes at Build (security was mentioned, in the context of the enterprise). This was a recurring theme at Apple’s WWDC, and although Microsoft’s Scroogled campaigns arguably haven’t been that effective, there seems to be a sense at both Apple and Microsoft that privacy can be an effective competitive vector against Google if done right.

Nadella still hasn’t given us many specifics in terms of what this will all mean for new products and services at Microsoft. But he has now at least given us the framework for thinking about where Microsoft might go next, and how it sees its mission in the world. That’s going to give the company some valuable direction and focus following several years of seeming a bit lost. But as with any strategy, the devil is in the execution, and we’ve seen very little of how Nadella will deliver on that yet.

Apple, Big picture, Developer events, iMessage, Messaging, Whole company analysis, WWDC, WWDC 2014

What “winning” means for Apple

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I posted a tweet yesterday that seemed to hit a nerve with people, and so I thought I’d expand on my thinking a bit here. What I actually posted was two related tweets, though it was the second that seemed to resonate – the first was merely context:

There were at least two articles that prompted my tweet, but the main one was this one from Ellis Hamburger at the Verge. Both took a tack that I felt fundamentally misunderstood what Apple does and how it does it, but there was one particular section of piece on the Verge that sums up the mentality here very well, so I’ll use that as the jumping off point:

But today, communications are a commodity, and it’s hard (if not impossible) to survive in the long-run as an app that only works on one platform. A dozen messaging apps are sweeping the globe, and all of them work whether you have an iPhone, Android, Mac, or PC. Apple’s Messages app, and the iMessage platform therein, only work if your friends and family use Apple products. In the United States, where iPhone market share is highest of almost any country, iMessage’s thin ice is harder to perceive. The United States is one of the only countries where no one messaging app reigns king, but elsewhere markets are dominated by one messaging app or another, all of which have similar features and work on all platforms.

A single-platform messaging app cannot win. Despite its tasteful new feature additions, however derivative they may be, Apple is playing on borrowed time. If Apple is determined to stay single-platform, it’s going to take more than new features to save its messaging ambitions.

To suggest that Apple is trying to “win” in the messaging wars is equivalent to suggesting that iTunes was an attempt to “win” in the music-playing software wars. Neither is the case. The first thing to understand about Apple is that it’s motivated first and foremost by creating the best possible experience on Apple devices. This imperative drove Steve Jobs to the extent that he made poor business decisions early on in his time at Apple, ultimately leading to his ouster. He was so fixated with this objective that he lost sight of others and ultimately of what it would take to keep Apple in business as a public company, a lesson he learned the hard way and ultimately brought back to Apple when he returned. But that has always been the fundamental motivation for Apple’s senior leaders above all else.

That motivation leads to one of the other defining characteristics of Apple as a company: the tight integration of hardware, software and services. Apple has never been about creating cross-platform services. To those of you who may wish to point out that Apple has long had iTunes on Windows, I direct you to this quote from Walter Isaacson’s 2011 book on Steve Jobs:

We put iTunes on Windows in order to sell more iPods. But I don’t see an advantage of putting our music app on Android, except to make Android users happy. And I don’t want to make Android users happy.

Apple’s only significant cross-platform move was still a move to make Apple devices more compelling – the simple fact is that an iPod was not a standalone device, and it needed iTunes to be at all useful. Given the Mac’s very low share of the global PC market, releasing iTunes for Windows was an obvious strategic imperative. But it was done with one objective in mind – making the iPod a compelling device for a larger number of users, and yes, selling more iPods as a result.

What both the pieces I linked to above ignore is that everything Apple does is part of an ecosystem, and that’s exactly why people buy its products. Ever since the iPod and iTunes launched, Apple has been in the business of connecting its devices together in a way that adds value to each of them. The iPod added value to the Mac by providing a portable music player for your iTunes music, and iTunes on the Mac added value to the iPod by providing the conduit through which you obtained music to put on your device. When Apple released iTunes, it wasn’t competing in the music-playing software market anymore than iMessage is Apple’s attempt to compete in the messaging market. Both products were software Apple developed to add more value to its hardware products, and should not be seen as products in their own right.

When the whole rationale for Apple’s software is to add value to its hardware products, the idea of providing cross-platform software or services becomes inimical. To the extent that Apple software or services are available on non-Apple devices, they cease to provide meaningful differentiation for Apple products. By contrast, making Apple-exclusive software and services available on various different Apple hardware products adds significant value, and providing tighter integration between those devices through software and services adds even more. Hence the focus on these things at WWDC on Monday. To suggest that Apple needs to make its Messages product (or any other product) cross-platform in order to succeed is to get things exactly backwards – Apple doesn’t make hardware to be successful in messaging; it makes a messaging product to be successful in hardware.

This makes its Beats acquisition particularly interesting, since the Beats music streaming service is cross-platform today. But I suspect that the product we eventually see from Apple which integrates Beats’ streaming and curation technology will go back to being Apple-only. If there’s any strategic rationale to Apple spending so much money to stay at the forefront of the music business, it’s to make the iPhone the best device for music, and not to create a broad-based music subscription service.

All of this is part of a broader trend in the consumer technology space, which is that the most successful companies are competing in a different way, by combining hardware, software, content, communications (and in some cases connectivity) in integrated ways which create compelling end-to-end experiences for consumers. I see the same flawed logic among people criticizing Amazon’s entry to the smartphone market on the basis that no-one makes money in smartphones. If Amazon is entering the smartphone market, it’s not to make money on smartphones, but to drive buyers to spend more money with Amazon as a whole, across digital content and e-commerce. Amazon and Apple each have a core business that makes the bulk of their money, and their entry into adjacent spaces is intended to reinforce the core business, often at break-even or even negative margins. Google is the archetype of this model, providing many services for free, all of them funded by advertising and especially search advertising. It provides those services not out of the kindness of its heart but in order to increase the appeal of the Google ecosystem and to gather data that helps with its other businesses.

Apple isn’t fighting the messaging war. To the extent it’s fighting a war at all, it’s fighting an ecosystem war, and so far it’s winning. Is Apple’s tightly-integrated model the only way to be successful in the consumer technology market? Not at all, though it certainly seems to be the way to generate the best margins. There’s always going to be room and demand for other models too, and both Microsoft and Google have benefited greatly in market share terms from taking a less integrated approach. But to imply that Apple’s approach is ultimately doomed is to ignore what’s made it so successful over the past several decades, and the model it needs to continue to pursue to remain successful.

Big picture, Pauline Kael, Tech media

“No-one I know voted for Nixon” in tech

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There’s a famous quote attributed to Pauline Kael, the movie critic, which is usually paraphrased as “How did Nixon win? I don’t know anyone who voted for him” but which actually goes like this:

“I live in a rather special world. I only know one person who voted for Nixon. Where they are I don’t know. They’re outside my ken. But sometimes when I’m in a theater I can feel them.”

The point was, Nixon had just won the US presidential election, and yet Pauline Kael lived in a world where almost no-one had voted for him. How was this possible? Who were these mysterious people who voted for Nixon, and what made them tick?

I fear that the people who spend all day thinking and writing about technology often suffer from the same myopia about the behavior and mentality of the vast majority of everyday users of technology. We are nothing like them in many respects – we know far more about the technology than they do, we use a far greater variety of devices and services than they do, we read far more about it than they do, and we inhabit the same sort of bubble as Pauline Kael did, where we’re often shut off from how regular people think about technology. Sure, we use our spouses, our parents, our non-techy friends and siblings as proxies and convince ourselves we get it. But I fear we’re often fooling ourselves. And it’s dangerous, because we often get things really wrong as a result.

This was in evidence this past week with regard to the rumored Apple/Beats acquisition. There was a sneering condescension about the Beats product and its users on the part of the tech media, and a collective “I don’t get it” about the value of the Beats product and brand 1. And that’s because the tech press is largely not the target market for Beats products, and it’s insulated from the segment that is. But the same thing applies to tech bloggers’ obsession with stock Android and many other things regular users just don’t care about. Those things loom much larger in the minds of the expert class than they do in ordinary people’s minds, and it distorts judgments about what really matters in the market.

As a result of these distortions, coverage of major products and companies is often skewed to deem new products, tweaks to existing products or other news as much more important than they really are. Most people are much less prone to change, much less well informed, much more influenced by casual conversations and friends’ recommendations than we think. Just consider the fact that AOL still has almost 2.5 million dial-up subscribers, or that the churn rates at Verizon Wireless and AT&T mean that the average subscriber stays with them for about 8-10 years. Apathy is a huge factor in technology choices, coupled with feelings of safety and simplicity that drive behavior that might seem baffling to the experts.

This is a self-reinforcing problem – much of the tech media writes for the obsessives, those who care about the topic as much as we do. We’re not writing for the normals, because they simply don’t care, and definitely don’t read our stuff. With the exception of the personal tech columnists at major newspapers, the vast majority of us are writing for a very unrepresentative sample of the population as a whole. But that means all our engagement comes from commenters and forum posters who are unrepresentative too, reinforcing our removedness from the general population and further distorting our perceptions of reality.

I don’t know how we solve this problem, but we all have a responsibility to try, because it’s hurting us, and hurting our ability to do our jobs properly.

Notes:

  1. I’m not saying the Apple/Beats acquisition is a shoo-in either – I wrote about it here and I’m still on the fence about its merits. I’m talking about the Beats headphones specifically ↩