This is in response to Anu’s comment on my previous post on Google: Search and Destroy.  I started off responding as a comment, but had been planning a follow-up post on the issues she had raised.  Read the first post and her comments here.

Anu’s queries are centred around the stability of Google’s current market dominance  – namely, can a new entrant do to Google what Google appears to be doing to Microsoft? In an industry of constant innovation, what is to say the next big innovation – in search, or in data storage etc – won’t come from somewhere completely unexpected and upend the Google applecart?

These arguments are in essence the arguments that Google has consistently cited – this is not to say that this is problem: these are very good arguments with no clear answers and are the reason that Google is still around in its present form and has not been split into many smaller Googules.

The stability of near-monopolies is actually a very interesting question – one that a lot of MBA classes spend a lot of time over. There might be a bit of jargon in this post, but I think its worth the effort.

On Competition: Despite all the rhetoric about competition making us stronger, the fact is that most businesses hate competition.  The key to successful business is create a market and then erect enough barriers to entry to make life hell for new entrants. The better the barriers, the greater are your profit margins.  So, are there barriers to entry in Google-land – or is it simply a case of being better than everyone?

Google’s primary response has always been that “competition is just a click away“, and that Web 2.0 has no significant barriers to entry. Someone comes up with a better search or better data storage, and Google goes the way of IBM. Switching costs from Google to the new entrant are zero and so the search market is perfectly competitive.

Unfortunately, things are not so simple.

There is a litmus test (not foolproof but indicative) of how to know if a particular sector is highly competitive or has severe barriers to entry – i.e. to look at the firm’s financials and analyse something called “Operating Margin” – operating margin is essentially operating income divided by net sales. This gives an idea of how much money the company makes per unit sold.

High operating margins are suggestive of monopolistic markets while low margins show more competitive markets: the idea being that the primary advantage of monopolies is to be able to dictate price and thereby ensure high margins for yourself.  So what are Google’s margins like?

According to Yahoo finance, Google has extremely high operating margins of about 33 % which puts it in the company of well known monopolists like Microsoft at 36%, and Coca Cola at 27.1 % suggesting that Google has the online search market pretty much tied up.

So what stops someone else from building a completely new search engine? The answer is pretty much nothing – the way that nothing has stopped anyone from building a rival to Windows. However, with the money and resources at Google’s disposal, it is hard for a new entrant to pose any serious challenge. The “Bing” experiment is a case in point of Microsoft moving in on Google’s turf and failing.  Google’s page rank algorithm also works on a “virtuous feedback cycle” of its search technology: basically, the more you use Google search the better Google becomes: and the better it becomes, the more you use it.  Further, the aggressive expansion of Google into areas outside search – like Gmail, Google documents, Youtube, Orkut, etc- make it a very effective data aggregator – and the more Google knows about you, the better it is at search – and the better it is at selling ads – and the more you use it and so on and so on.

Open Source versus Open Markets:

Google has consistently spoken about their dedication to the web “ecosystem”. But there is no direct relation between an open market and an open-source movement  – especially when the open-source movement does not impinge on Google’s core business.  The Google algorithm for instance is a highly guarded secret on par with the Coca Cola secret formula; however, Google is happy to offer freebies and support to open-source movements that affect competitors like Microsoft.  Google’s support of Firefox is a case in point.  However, a casual conversation with a person well-placed at Firefox suggested that the launch of Google’s browser – Chrome – might significantly alter the dynamics between Google and Firefox. The New York Times has a great article that you can read here.

Similarly, Google’s announcement that they shall launch a complete OS by 2010 suggests that it is rapidly moving into Microsoft’s terrain. So the company is basically using the online community to antagonise Microsoft even as it makes rapid moves to lock down its core ad-sense/ad-words business.

Does this mean that we as users are better off, or worse off? Net-net one could argue that we currently better off, and Google appears to be a more responsible monopolist than Microsoft. However, in the future, we might see Microsoft and Google declare a truce, team up and screw us all. That may seem unlikely now – but typical MBA case studies like Coke and Pepsi and Phillip Morris and R.J Reynolds suggest that stranger things have been known to happen.

Monopolies, Demographics and Third World Users

Anu’s final point on Greed of Monopolies ”

“The greed of the monopolies also makes it want more and more users. They will keep looking for users belonging to a new demography all the time,”

Again, I’m not sure of the linkages. The great thing about being a monopoly is that you don’t need to look for users – they simple come to you, and are forced to engage with you on your own terms. As a professor of mine once pointed out – the best kind of customer is the one who hates you viscerally but is still forced to use you. Users of Microsoft windows will be well acquainted with that feeling.

Anu, thank you once again for your questions.