Google (GOOG) announced last night that it would create a triple class structure, to ensure the founders and Eric Schmidt hold on to full control of the company forever even as they use more stock for employee compensation.
There's nothing really new here. Google has always had this unfounded fear of shareholder accountability going back to their 2004 IPO letter.
Here's what they said then:
"We are creating a corporate structure that is designed for stability over long time horizons. By investing in Google, you are placing an unusual long term bet on the team, especially Sergey and me, and on our innovative approach…
We want Google to become an important and significant institution. That takes time, stability and independence…
In the transition to public ownership, we have set up a corporate structure that will make it harder for outside parties to take over or influence Google. This structure will also make it easier for our management team to follow the long term, innovative approach emphasized earlier…
The main effect of this structure is likely to leave our team, especially Sergey and me, with increasingly significant control over the company's decisions and fate, as Google shares change hands…
New investors will fully share in Google's long term economic future but will have little ability to influence its strategic decisions through their voting rights…
Our colleagues will be able to trust that they themselves and their labors of hard work, love and creativity will be well cared for by a company focused on stability and the long term…
As an investor, you are placing a potentially risky long term bet on the team, especially Sergey and me. …. Sergey and I are committed to Google for the long term."
Here's what they said yesterday:
In our experience, success is more likely if you concentrate on the long term. Technology products often require significant investment over many years to fulfill their potential. For example, it took over three years just to ship our first Android handset, and then another three years on top of that before the operating system truly reached critical mass. These kinds of investments are not for the faint-hearted.
We have protected Google from outside pressures and the temptation to sacrifice future opportunities to meet short-term demands. Long-term product investments, like Chrome and YouTube, which now enjoy phenomenal usage, were made with a significant degree of independence.
We have a structure that prevents outside parties from taking over or unduly influencing our management decisions. However, day-to-day dilution from routine equity-based employee compensation and other possible dilution, such as stock-based acquisitions, will likely undermine this dual-class structure and our aspirations for Google over the very long term. We have put our hearts into Google and hope to do so for many more years to come. So we want to ensure that our corporate structure can sustain these efforts and our desire to improve the world.
But the truth is that Larry and Sergey have got it exactly wrong. Their archaic and paranoid governance structure has made them less innovative over time, not more.
Everyone from Silicon Valley loves to champion it to the rest of the world as the cradle of innovation. And this is true. Some of the greatest technology companies and innovations have come from there.
Silicon Valley's legacy will always be Apple (AAPL), Intel (INTC), Google (GOOG) and now Facebook (FB). But there's another part of the Silicon Valley legacy that Valley types like to sweep under the carpet: Xerox PARC.
Xerox PARC came up with a bunch of great innovations – and yet they did nothing with them. They got copied by others, but were never capitalized on by Xerox (XRX) itself. They also had a lot of spending down rat holes projects. There are many reasons for why this happened: weak leadership locally, absentee owners, little accountability, a false sense of security/overconfidence of those who worked there.
With Google – both prior to yesterday's letter and now after – you are getting the best and worst of Silicon Valley in one. On the one hand, you are getting the preeminent search company in the world with probably the best business model in the world tied to it (pay per click). On the other hand, you are getting Xerox PARC. A lot of spending down the rat hole. A lot of flowers blooming and dying. A lot of false sense of security.
Someone once said Google is a one-trick pony, but it's a hell of a pony. That's true. Desktop index search is estimated to account for 90% of Google's revenues and 98% of its profits. That success covers up the fact that Google has done little else to "innovate" over the years.
Was copying Internet Explorer innovating? Or Yahoo! (YHOO) mail? Or Facebook? Or buying YouTube?
When they've truly tried to "innovate" it's been in areas like driverless cars and Terminator sunglasses.
How has Google's governance structure caused this lack of innovation?
Necessity is the mother of innovation. Larry and Sergey didn't need "time, stability, and independence" to create Google. Why would they need it now?
It sounds great to have the luxury of time and $49 billion in cash sitting in your bank account. But it can also create complacency, overconfidence, and a false sense of security.
To me, these Google co-founders have always seemed unjustifiably fearful of investors banging on their door and holding them accountable. As Brian Sullivan of CNBC tweeted yesterday, it would take an activist hedge fund $10 billion to build a 5% stake in Google. That will never happen. Yet, they decided to double-down on this dumb structure yesterday.
Forget "do no evil." This is "do no accountability."
Building a 5% stake in Apple is even more unrealistic than doing it in Google. But Apple, to its credit, doesn't bother with some "Katie bar the door" governance structure. Instead, they have figured out how to "innovate" again and again over decades. Focus on what matters – not on what doesn't.
With Google, we're still waiting for that second trick pony. (It must be in this pile somewhere.)
You think Android is it? The co-founders pointed to it as evidence of their long-term thinking because it's taken them 6 years to get here. (And, again, was it "innovating" or did they rip off Apple, as Steve Jobs alleged?)
But where exactly is "here"? They've apparently only made just $544 million from Android over that time. Remember they announced yesterday they made $10 billion in Q1.
I was on a business show yesterday with a Google bull and he said "but it's cheap and it still could make so much money from Android and YouTube in the future." Maybe.
But doesn't the fact that Google's stock price first hit $600 in 2007 and it's still trading there now say something? Doesn't the fact that it's trading 11% below its all-time high say something? And doesn't the fact that Apple's stock is up 587% in the last 5 years while Google's is up 37% (a difference of 16x) say something?
Maybe if Google did have to answer to shareholders more, there would be fewer dog massages, drop-off dry cleaning, and cafeteria options and more tangible results.
Sometimes being too spoiled in life early on can stunt your personal growth later. You expect to succeed every time you do something. You forget to stop working so hard. You move into areas that are beyond your domain expertise. And, when you fail once, twice, and three times, you get frustrated and blame someone other than yourself for the mistakes. "If I just had more time and the critics would just shut up!"
Maybe that's what's happened here with Larry and Sergey.
They'll be able to screw the shareholders again with this triple class structure. But, we'll probably see 6 more years like the last 6 years – both in terms of new "innovations" and the stock price.
[Long YHOO and AAPL]
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