Tuesday, August 16, 2011

Google’s Motorola buy: Searching for more robust results…

With its latest acquisition, Google seeks to escape a one-trick pony fate.

Many a rationale has been advanced for Google’s headline-grabbing buy of Motorola Mobility. These attribute the buy, variously, to a defensive move by Google to protect Android from patent litigation, and to Google searching for a more vertically integrated mobile phone strategy a la Apple. While there may be truth to these attributions, I think most people have just forgotten the simplest rationale: a search for revenue streams beyond search-based advertising.

Google is a marvelously innovative company. However, I’ve frequently derided Google for being a one-trick pony (as have many others), deriving more than 95 percent of its revenues from a single source: search-based advertising. And, as I've written elsewhere, such a model is enormously vulnerable to disruption. Which means, the company just hasn’t been able to convert its vaunted innovative prowess into hard cash.

But isn't it a terrible idea to become a competitor to your own customers, as Google must now compete with other handset manufacturers who have pitched in their lot with Android, such as Samsung, HTC, and Sony Ericsson? You bet it is. However, Google is adroitly straddling a fine tradeoff here – it seems to have decided that the risk of antagonizing a few customers is outweighed by the benefits. The move derisks Google and makes its business model more robust by creating an entirely new revenue stream.

And for a Google desperate to escape a one-trick pony fate, the $12 billion or so extra revenues from Motorola’s handset sales, even at low profitability, can scarcely hurt. As an added benefit, the integration gives a revenue model for Android, something it has lacked despite obvious popularity. Overall, it must be stated that this is an audacious and welcome move on Google's part as it seeks to become a strong mobile industry player. Google sure has a right to feel lucky with this one.

Friday, August 12, 2011

A standard too poor to judge nations by

Sovereign ratings such as those awarded by Standard and Poor’s are deeply flawed.

The recent downgrade of the US sovereign debt by Standard & Poor’s has three intriguing implications. First, it sends the message that like mere individuals, companies and lesser states, the US government too cannot live beyond its means. Second, S&P’s action suggests that the US is no longer the world’s prime economic mover, a status it has enjoyed for well over a century.

The former message is welcome, but the latter is less so. Just as a bunch of unruly schoolkids needs a strong chaperone, the world’s nations need a strong and credible leader to play an anchor role, particularly in terms of crisis. Institutions such as G7, G20, the EU and the IMF are too weak, too decrepit or simply do not enjoy the widespread trust needed to play that leadership role credibly. An America, however weakened, is better than no leader at all. The world economy without a firm hand on the rudder is not a pleasant prospect.

The third interesting observation from the downgrade and the events that followed is that it’s possible for a private company to take a decision that shakes the world’s most powerful governments. Nations and governments have traditionally enjoyed huge power over the private sector, and until recently it would have been unthinkable that one private company could take one decision that reverberated thru the world economy and left the world’s most powerful government scrambling to salvage it’s reputation.

But just how reliable are the sovereign ratings, and do changes in those ratings merit such mayhem? To see the answer, one has to look no further than the list of S&P’s AAA rated countries. If you could invest a million bucks in Guernsey, Isle of Man or the US, would you choose either of the first two? Yet those countries continue to retain their AAA ratings! Austria, Australia, Liechtenstein, Luxembourg, France and the UK are well-run countries, but would you really choose all of those above the US for your investments?

The US is still the largest, most diversified and most vibrant economy in the world. Whatever it lacks in quality of political leadership, it makes up in terms of these factors. America also has the world's largest private sector (which as observed earlier is steadily gaining importance). Also, America’s political process is fairly transparent so the risk of idiosyncratic or whimsical policy making is low – during the recent debt ceiling negotiations, every move was ruthlessly scrutinized by the world’s media. Many of the countries in the AAA list above have policy-making that’s opaque, run by a few individuals such as a President, Prime Minister or Finance Minister or by coteries. In addition, the US dollar is the world’s reserve currency. So as long as Uncle Sam runs the world’s money printing press, the likelihood of its defaulting is virtually nil.

Let me hasten to add that I’m no fan of the US or any other nation’s economic management – hubris, maneuvering for narrow political ends, lobbying etc. are rampant in America as in most other places. All the horse sense view is saying is, if the US is demoted from the top trustworthiness rating, so should every other AAA country be. If that doesn’t happen soon we can safely conclude that the sovereign debt rating process lacks integrity.

And let’s not forget that these ratings are being awarded by agencies that played a starring role in the financial crisis - by awarding stellar ratings to mortgage-backed securities that nearly allowed financial institutions to bring down the entire financial system, they failed investors and the financial system at large.

So, particularly given the psychological impact of these ratings, it’s incumbent upon the rating agencies to devise much more sophisticated rating methodologies that span a much wider range of factors.