Google & Chill — Part 1

The Strategy Teardown

Source: IGN

Author: Anonymous | Editor: Siyu Chen, Ibrahim Bengali

Editor’s Intro: Possibly THE wildest moment of my 1Y MBA experience was sign-ups for Google’s coffee chats. Hundreds of students SWARMED the page, refreshing every half-second until the sign-up time at exactly noon.

At noon, holy mother of a potato. People were signing up on top of each other. One poor soul pasted their entire resume on accident, overriding a host of different sign-ups. People (well, me) kept checking to make sure someone didn’t steal their spot.

How many of us really know what Google is about? Admittedly, I am an absolute Google-head. That said, watching Google’s Launch Night In, I was dazzled by the product lines but had no idea how to understand Google’s strategic decisions and positioning hidden behind it.

A badass (and anonymous) 2Y member of Wharton Tech Club will help us lift the curtain and see what is really going on. This is a phenomenal analysis that helps us understand Google at a much deeper level.

In Part 1 of this 2-part series, we tackle the overall strategy that Google is chasing and why. In Part 2, we will pick apart specific products and how they clearly align and contribute to this strategy (e.g., is Pixel 5 actually trying to steal iPhone users, will Google TV kill Apple TV). Enjoy!

Truth is, my brother Zain and I constantly debate Apple vs. Google . So I needed help to get back at all of his well crafted (annoying) arguments. Love you bro

Context: Google’s Launch Night In was a fun event where Google debuted a host of new products. Also, can we pause for a moment and talk about how freaking cute that drummer kid was? Without question, he was the absolute star of the show and a brilliant gift to the world. Speaking of stars, y’all see all those celebrity endorsements, including Queen Selena? The whole production definitely had a younger vibe and the online medium allowed for interesting new takes on the prototypical product launch, which I found more effective.

However, behind all of that razzle dazzle, Google clearly highlighted the company’s strategy:

1. Software-first-hardware (read: Services)
2. Products designed for the current and post-pandemic reality

Sections

• Why Services?
• New Target Consumer: COVID Homebody

Why Services?

Ad revenue growth is slowing

Quick reminder, Google is absolutely an Ads company. Recently, however, Google’s been diversifying its revenue and products to areas such as Cloud, hardware, YouTube, and services. They are compensating for a slowdown in ad growth. These “side-activities” have steadily grown , reaching $20.5B in 2018 up from ~$1B in 2009. More importantly, though, the proportion of non-ad revenue grew from 3.2% in 2009 to 15% in 2018, indicating that the search giant can no longer be considered a one trick pony.

COVID ain’t helping the Ad business: Q2 2020 total ad revenue fell 8% and Search + other ads revenues fell 10% y-o-y.

Source: Statista

These figures highlight the need for diversity as the pandemic marked the first time in 26-years that ad revenue declined YoY.

Hardware-As-A-Challenge

Google’s initial diversification attempts focused on hardware. Yet, this segment never quite took off. Google rarely breaks out hardware sales, but we know that only 3.7M Pixel units were sold in 2017 and Nest’s 2017 revenues are estimated at $726M. Attempts to calculate its value recently suggest hardware to be at least $2 billion in Q4 2019. Why isn’t hardware taking off?

Google has a few core problems:

• First, many of Google’s hardware competitors are also its partners (e.g., Samsung), creating difficult competitive dynamics
• Second, Google’s hardware is too diversified, only performing well in a subset (e.g., Chromebook for education) and lacking economies of scale
• Third, Google hasn’t been able to attract the right talent — its hardware experts are from acquisitions, leading to difficulties in retaining leaders

Services-As-A-Strength

The world’s increasing utilization of digital services is a glorious opportunity for Google. As more and more services rely on cloud and AI, their most recent financial results highlight this bright opportunity.

Google, Amazon, and Apple have looked to services as a more profitable and faster growing revenue opportunity.

In Q2 2020, a 26% y-o-y increase in ‘other revenues’ was driven by growth in key services through Play and YouTube non-ad revenues. Comprising 14 –15% of total revenue, “other” accounts for apps, in-app purchases, and digital content in the Google Play store; Google Cloud offerings; and Hardware.

Google is taking notes from Apple in prioritization of services to drive growth. In Q3 2020, Apple’s services division (e.g., Apple Pay, Apple Music, iTunes, App Store) reached an all-time revenue high of $13.35B, a 15% y-o-y growth. Tim Cook attributes this increase to all-time records within the App Store and Apple Music driven by the spike in employees working from home and students attending school remotely.

Source: Statista

While Google hasn’t released profit margins, industry benchmarks indicate low profit margins for consumer electronics. As a result, Big Tech looks to services as a more profitable and faster growing revenue opportunity. For example, Apple’s financials show a hardware product gross margin of 29.7% while its services gross margin was a whopping 67.2%!

Editor comment: This concept of nearly zero marginal cost for SaaS is really important for students new to tech. Take some time to read up on it — see the plethora of Ben Thompson articles on Aggregators and Platforms.

Solution: Connected Ecosystem of Services + Hardware

The best way for Google to compete is to leverage its market-leading strengths in software and services. Google’s Launch Night In directly showcased their latest efforts to grow their connected hardware ecosystem by launching hardware primarily showcasing their delightful software. If Google can do this right, it is a damn exciting opportunity.

A 2018 report shows Amazon Echo owners are Amazon’s most loyal and frequent shoppers. These smart speaker device owners spend an average of $1,700 a year on Amazon, even more than Prime members. Compared to average spend by all Amazon customers, Echo owners spend 66% more. Further, while Amazon remains tight-lipped on Alexa skill revenue, analysts project users spend at least $2B per year with a 90% gross profit margin. Apple’s App Store is a tremendous source of value with an estimated gross margin of ~90% and $10B in annual gross profits.

If Google can monetize appropriately, these trends highlight exciting opportunities for Google’s connected ecosystem of software, services, and hardware to provide consumers with helpful and delightful experiences.

New Target Consumer: COVID Homebody

Google’s Launch Night In reflects today’s wild world. Due to COVID-19, Americans are spending more time using devices and streaming videos and music. With more time at home, consumers care more about making their lives simpler, easier, and full of quality entertainment.

1. Increased Time at Home —“Rise of the Homebody Economy”

• Consumers have more free time than ever (no commute), a propensity to stay up later and restrictions on fun activities (thanks, social distancing)
• Americans are concerned about the safety of going back to regular activities outside the home and have begun to adjust accordingly

2. Decreased consumer spending

• ~25% of US consumers are expecting to spend significantly less on non-mobile electronics and appliances in the next 6 months
• 85% of Americans are approaching the holidays with spending caution
• Launch Night In targets the upcoming holiday sales season and, by lowering Pixel prices, they seem to take this price sensitivity into account

3. Exception is Smart Devices and Entertainment

• COVID accelerated adoption of Smart Home devices — today, 41.3M US households use at least 1 smart home product, projected to reach 61.5M households by 2024
• By August 2021, over 80 million US households intend to purchase a new type of smart home device, higher than industry forecasts
• Smart TVs and streaming sticks (like Chromecast) are the devices consumers intend to purchase in the next 6 months
• Explains why Google TV was prominently featured as the first slot in Launch Night In’s lineup

4. Media consumption is increasing, dominated by music and TV

• Consumers have turned to media to keep them company, pre-occupy their brains, or perhaps even to replace the hum of a chatty office
• Americans working from home due to COVID are spending more time consuming digital media and TV-connected devices
• 75% of people noted that they listen to music while working at least once a week, and 40% of those listeners do so daily
• These trends could point to an increased consumer appetite for YouTube TV, YouTube Music, Google TV, or Nest Audio — they were giving hella free trials
• Consumers are streaming TV while working whether as a break or simply as background noise to pass through the day
• 25% of total TV usage comes from streaming in Q2 2020, up from 19% in Q4 2019
• Google TV and YouTube Premium were the first products featured during Launch Night In, showing Google’s awareness and attempt to use a human-centered design approach to capitalize on these opportunities

This is a condensed analysis of why and how Google is transitioning away from Ads to software-first-hardware. If you would love to learn more about how the different Google solutions presented during Launch Night In fit the strategy, check out our follow-up analysis here, which will help you answer:

Why did Google not launch a premium phone to steal iPhone users? What is the situation with Google TV and YouTube TV? Is Google ever going to catch up with Alexa? And why is Google in Gaming?!