Energy Economists Having Fun

I would be remiss not to link to a post by my colleague Catherine Wolfram at Haas.  The short story: using a Kill-A-Watt meter she found that Severin’s Dell uses 50 times as much energy when idle as her iMac.  Presumably the Dell is not going to sleep.  I don’t know what version of Windows it’s running, but I suspect it’s not the very latest (Severin still has an iPhone 3GS with little interest in upgrading, last I checked).  Nevertheless, it will always be easier to implement reliable sleep/wake functionality when the same vendor manufactures both the hardware and the software.

I don’t have much else to say about this except that with our new SmartMeter it became abundantly clear that the main electricity drain in our apartment is the 46″ Samsung LCD TV.  It’s ironic that “old” technologies like lighting and refrigerators have become very efficient, but “new” technologies like computers and TVs have not.  Of course, normalized by computing power or screen size, efficiency has increased remarkably for these devices.  But in an absolute sense, it has not.

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In Defense of Microsoft (or, You Cannot Have Your Cake and Eat It Too)

In the latest episode of his excellent podcast, Hypercritical, John Siracusa discusses what ails Microsoft. His central thesis is that Microsoft has invested too much effort catering to the highly profitable enterprise market at the expense of the consumer market. In particular, enterprise customers value backwards compatibility, but focusing on backwards compatibility retards innovation and prevents clean breaks from legacy products.

I completely agree with this thesis, but I disagree with John’s contention that the 1990s Microsoft could have ignored enterprise customers’ demands at minimal cost.  The argument is that Microsoft had no viable competitors in the enterprise space – IT managers simply were not going to replace all their Windows machines with Macs or Linux boxes except under extreme conditions.  Thus Microsoft had no need to focus on pleasing enterprise customers.  In a sense, enterprise customers are akin to political extremists in the median voter theorem; they’re a captive audience that can be taken for granted by their preferred vendor.

While all of this is true, it glosses over one critical point: Microsoft’s biggest competitor in the OS market is not Apple or Linux but previous versions of Windows.  Microsoft have said this historically and they continue to say it today (“our biggest competitor for new user acquisition is previous versions of Office and Windows…”). Microsoft doesn’t make money unless a business upgrades its software, and the entire Vista debacle demonstrated that businesses are perfectly willing to skip an entire OS version if it offers diminished backwards compatibility (one exception is businesses that are on subscription plans, but I believe these were less common in the 1990s). I suspect that if Microsoft prioritized consumers over enterprise, they would see significant reductions in Business Division (Office) and Windows revenues, as enterprise customers lengthened their upgrade cycles. Focusing on consumers over enterprise might still have been the correct strategy, but it would not have come at a low cost.

Big Welfare Mommas

Why am I not surprised to learn that the banks received $1.2 trillion in near-zero interest loans during the financial crisis?  Apparently the Fed netted $13 billion on these loans between Aug 2007 and Dec 2009, which amounts to a 1% return.  The “collateral” that the Fed accepted for these loans included junk bonds and stocks.

So let me get this straight.  The US taxpayers took an enormous risk and in exchange were compensated with an annual return of less than 1%.  There is no way to see this as anything but a massive subsidy to the banks.  Perhaps that subsidy was necessary, but given that it took all the risk, why was the government not compensated with billions of shares in these institutions so that it could share in the upside?

The Data

Here are the data underlying all the calculations in the previous post.  Please feel free to use them for your own calculations if you would like.

Of course, no data are perfect.  ComScore data come from repeated surveys of smartphone owners.  Chitika data come from tabulating hits to websites on Chitika’s ad network.  There are two ways that this figure could overstate Android’s decline in Verizon net additions.

  1. ComScore might be understating Android’s overall growth.  My ComScore estimates imply that the Android base grew 58% from Feb 2011 to Aug 2011 (from 22.9 million units to 36.1 million units).  It’s possible that this is an underestimate, but that seems unlikely.  In fact, ComScore’s estimates of US Android market share are higher than any others I’ve seen.
  2. Chitika might be overstating the reduction in Verizon’s Android share. Chitika’s numbers are not exactly right, because Verizon Android users may have slightly different browsing habits than Sprint or T-Mobile Android users. Our concern, however, pertains to changes in shares.  The question is whether large numbers of Verizon Android users have suddenly stopped visiting Chitika-affiliated websites since March, while Sprint and T-Mobile Android users have not. While technically possible, this seems unlikely.

In my view, the most likely explanation for the observed data is that Android has lost momentum on Verizon.  If so, I’m certain that Google knew this many months before any of us did.

Why Is Google Buying Motorola?

Like most, I was surprised to read on Monday that Google is paying $12.5 billion to purchase Motorola Mobility (MMI). Although Google is clearly looking to buy patents, $12.5 billion is a huge amount for a group of patents that is of little use in Google’s primary lawsuit and hasn’t deterred others from suing MMI. Furthermore, MMI comes “encumbered” with a giant mobile device manufacturing business that doesn’t make money. A takeover of MMI will be difficult, awkward, and expensive.

By all accounts, Android is thriving. Android activations have grown 244% YOY, from 160,000/day in June 2010 to 550,000/day in July 2011. Android’s share of the US installed smartphone base has increased from 13% in May 2010 to 40% in June 2011. Meanwhile, the iPhone has “stagnated” at around 24–27% of the US installed base. Android appears almost unstoppable, potential patent licensing fees notwithstanding, so why would Google jeopardize everything by jumping into direct competition with its own OEMs?

My suspicion after seeing this Android carrier share data release by Chitika is that Google is dissatisfied with Android’s market performance and is concerned about its US prospects once the iPhone is available on Sprint and T-Mobile. Given the statistics above, it seems shocking that Google could be dissatisfied with Android’s market performance (as opposed to its IP liability), but I’ll lay out the facts below.

The First Warning Sign: Low ASPs

It first occurred to me that Google might be dissatisfied with Android’s market performance when MMI released its Q2 2011 results. Unsurprisingly, MMI reported strong YOY growth (63%) in smartphone sales. However, what surprised me was that their implied smartphone average selling price (ASP) dropped by over $100, from $493 to $384. (To figure this out you need to make assumptions about feature phone and Xoom ASPs. Based on observable market prices I assumed a feature phone ASP of $70 and a Xoom ASP of $700, but the overall conclusion is not sensitive to reasonable deviations in these assumptions.) This implies that either MMI’s product mix has shifted towards selling lower-end Android phones, or that MMI has had to slash prices to clear inventory. Either way it implies that they are not doing well in the high-end smartphone market. HTC – arguably the most successful of Android OEMs – reported a similar pattern in its Q2 2011 results: average revenue per phone sold dropped by 16% YOY. A large share of Android’s phenomenal success is coming in the mid-to-low end of the market. But what’s wrong with that – isn’t that where most of the potential sales are?

The other oddity in MMI’s earnings report was its apparent weakness in North America. In Q2 2010, 66% ($1.14 billion) of  MMI’s revenue came from North America. Last quarter, only 43% ($1.04 billion) of  MMI’s revenue came from North America.  MMI’s North American revenue actually declined by 10% during a time when overall Android shipments more than tripled. This decline is even worse than it looks when you consider that the Xoom – a North American-focused product – accounted for approximately $300 million of revenue last quarter. North American phone revenue must have declined by 20–30%. MMI’s weakness in North America, however, was masked by significant growth in Latin America, China, and the rest of Asia.

The Real Concern: Weakness on Verizon

Because of how each company makes its money, Google cares much more about the US market than Apple does. Apple makes approximately the same amount of profit on an iPhone sold in China as it does on an iPhone sold in the US. There’s probably a little more profit to be made from iTunes and App Store sales on US iPhones than on Chinese iPhones, but it’s rounding error in the average profit per iPhone. Google, in contrast, makes money selling ads on Android phones (and iPhones!). To a first approximation, an average middle-class Chinese consumer has zero value to Google’s advertisers. Furthermore, Chinese Android phones don’t even ship with Google as the default search engine, which is not surprising given that Google has given up on the Chinese search market. I have little doubt that Google would rather sell 1 Android phone in the US than sell 10 Android phones in China. Hence, while US sales make up only a small fraction of the 550,000 daily Android activations (a generous guess would be 20%), they are very important to Google.

I want to look at Android’s success in the US market from several different angles. First, consider net subscriber additions (as measured by ComScore) to the two leading smartphone platforms, Android and iPhone:

Android clearly has the momentum, averaging  well over twice as many net subscriber additions per month as iPhone. While iPhone net additions rose in February 2011 with the release of the Verizon iPhone, Android net additions have not declined much in response. This figure is unflattering to the iPhone because a large share of US iPhone sales are replacements of existing iPhones and thus do not qualify as net subscriber additions. Few Android sales are replacements of existing Android phones since the vast majority of Android sales have occurred within the last 12 months (the minimum window in which a subscriber can qualify for a new phone subsidy). Nevertheless, based on this figure, it’s hard to see how Google could be concerned about Android’s US market performance.

(Data note: ComScore has not yet measured subscriber growth for 3 month periods centered on July 1 or August 1. In this chart and subsequent charts I have stacked the deck in Android’s favor by assuming that growth in July and August was 10% above its recent average of 2.1 million net additions per month.)

Now combine the ComScore data with the Chitika data on Android carrier share, measured in June 2010, January 2011, March 2011, and August 2011. (Data note: Intermediate months are interpolated. This affects the accuracy of intermediate month figures but does not affect the overall trend.) This allows us to compute subscriber numbers by platform and carrier. Of particular interest is the number of net subscriber additions for each platform on Verizon:

As soon as I saw these numbers, the expensive MMI purchase made much more sense to me. A single 14-month-old iPhone model, priced at $199 or above, has stolen most of Android’s subscriber growth on Verizon. And unlike Apple on AT&T, Google can’t take solace in large sales of devices to existing subscribers or appeal to saturation of smartphones among Verizon subscribers (50% of AT&T postpaid subscribers own smartphones, while only 36% of Verizon postpaid subscribers own smartphones).

It gets worse. Since overall Android growth has not stalled, it must be the case that other carriers are picking up the slack for Verizon. Who are these other carriers? This figure plots net Android additions for four groups of carriers: Verizon, Sprint/T-Mobile, AT&T, and prepaid carriers:

Two carriers took up the slack for Verizon’s declining net additions. One was AT&T – the arrival of top-end phones like the Atrix 4G and the Inspire 4G have finally moved Android’s AT&T share from “nothing” to “small”. But half of the slack was taken up by growth in net additions at prepaid carriers. Prepaid customers are of little value to carriers, and they are unlikely to be coveted by advertisers or developers either. Hence, like emerging market customers, they are of little value to Google.

The Nightmare Scenario

If I were a slightly paranoid executive at Google, I would worry about the following hypothetical scenario circa December 2011:

  1. Apple releases a new iPhone 5 this fall on all major US carriers. It also releases an “iPhone 4 Lite” on most or all carriers, possibly priced as low as $49.
  2. Verizon iPhone net additions increase by 50% in response to the new hardware and price points (history suggests this could be conservative – AT&T iPhone net additions more than tripled in the quarter following the iPhone 4 GSM release).
  3. Sprint + T-Mobile iPhone net additions follow a similar pattern to Verizon iPhone net additions (Verizon has almost the exact same number of Android subscribers as a combined Sprint + T-Mobile).
  4. Verizon Android net additions continue to stay depressed in light of the new iPhones, and Sprint + T-Mobile Android net additions follow the same pattern that happened at Verizon.
  5. AT&T Android net additions decline slightly from current levels in response to the new iPhones. However, AT&T does not gain any new iPhone subscribers as it is already heavily saturated with iPhones.
  6. Prepaid Android net additions remain strong, but I (the Google executive) don’t care much about those.

That scenario, which may not happen but is certainly plausible, looks like this (focusing on postpaid customers only):

Suddenly the momentum shifts. This momentum shift would be particularly bad because the iPhone has other advantages that can compound any loss in Android momentum. It has what most consider to be a much more successful App Store. It leverages an ecosystem that also includes the iPod Touch and the wildly successful iPad. Ceding most of the mid-to-high range phone market to iOS could be a serious blow to Android.

Understanding that, I might not want to leave Android’s fate in the hands of OEMs that I can’t control. If I were someone prone to rash decisions or bet-the-company moves, I might pull the trigger and purchase my own OEM to try to beat Apple at its own game.

All Xeroxes are copiers, but not all copiers are Xeroxes*

I hate Xerox machines because you never know when they’re going to jam. When our Xerox machine jams, I’m stuck opening random doors and pulling levers, desperately trying to unjam it so that I can produce enough copies of an exam before class starts. Even if successful, I often end up with toner on my hands. Many others share the same frustrations. If you asked me how satisfied I am with our Xerox, I would say, “Not very.” But there’s no better way to produce scores of exams in an economical manner, so I keep using it.

Does this imply a huge market opportunity for Xerox competitors? Not really. In fact, our “Xerox” isn’t even made by Xerox, but rather one of its competitors. Paper jams are an unfortunate but common event in any high volume copier. It’s simply the nature of moving thousands of sheets of paper per day at high speeds through confined spaces.

Google’s argument for releasing Google+, its Facebook competitor, is that “people are barely tolerant of the Facebook they have.” I wholeheartedly agree, and count myself as one of those people. But when many of us say that we find “Facebook” annoying, we are not referring to Facebook specifically. We’re referring to social networking sites in general, of which Facebook is the ubiquitous example.

I personally find Facebook distasteful for several reasons. I dislike handing over my information, knowing it will be repackaged and sold to marketers in one form or another. I find many status updates to be of little relevance or interest. But I sign on nevertheless because it’s the most practical way to share my photos with a large group of people and stay up to date with them.

Of course, these factors will be true of Google+ or any other free social networking site run by a for-profit company. If Google+ supplants Facebook – any unlikely but possible scenario – then I will migrate there along with everyone else. If that happens, I will be at least as dissatisfied with Google+ as I am with Facebook (and possibly more so, as Google will collect even more information about me than Facebook does since they also see all my searches). I would be shocked if a wildly successful Google+ did not get satisfaction ratings similar to the IRS, just as the wildly successful Facebook does. It’s all but unavoidable given how closely it duplicates Facebook’s functionality.

From a strategic perspective, however, the difference between Facebook and Google is that Facebook’s only product is social networking.  As long as Facebook retains overwhelming market share, it doesn’t matter whether users dislike them, because there is no practical alternative. Furthermore, the negative brand recognition does not spill over onto other Facebook products because, well, there are no other Facebook products. For Google, however, the negative brand recognition associated with a successful Google+ (i.e., one that kills off Facebook) would spill over onto its other products.

That leads me to one of two conclusions. One possibility is that Google executives truly believe that people will somehow find a scaled-up Google+ to be much more satisfying than the scaled-up Facebook. That seems like an implausible scenario, but it’s possible they’ve convinced themselves of it. These are, after all, the same people that wanted to pay $6 billion for Groupon. The second possibility is that they are perfectly aware of the risks to the brand, but the potential to monetize all that juicy personal information, especially when combined with their search data, is just too tasty to pass up. And they might well be right.

* Technically the first statement is untrue, as Xerox surely makes other products besides copiers.

Sales are “quite smooth”…

ComScore just released their latest attempt to estimate traffic patterns for devices other than PCs, entitled “Device Essentials“.*  Taking their data at face value, the iPad dominates Android tablets by a ratio of 9-to-1 worldwide and 36-to-1 in the US.

Now, we know that the iPad has sold 25 million units worldwide.  If average usage patterns are similar for Android and iPad tablets, then around 2.8 million Android tablets were in use by the end of May (25/9 = 2.8).  But recall that Samsung announced five months ago that it had shipped 2 million Galaxy Tabs!  Assuming the comScore data are remotely accurate, this implies at least one of three things:

1.  There are a lot of unsold Galaxy Tabs sitting on store shelves.

2.  Sales of the Honeycomb tablets from February through May have been, to put it mildly, underwhelming (by my count, the devices available during this period include the Xoom, Iconia Tab, Transformer, and G-Slate).

3.  Consumers buying Android tablets are not using them as heavily as consumers buying iPads.  No doubt this is true of people buying the Nook Color, who may use it primarily as an e-reader rather than a general purpose tablet.

I suspect all three are true to varying degrees. In summary, shipped != sold, and I would not be surprised if reports that OEMs are shifting resources from tablets to smartphones prove to be true.

* ComScore is vague about the methodology underlying the Device Essentials report.  It is based off their Unified Digital Measurement data, which they claim is a “hybrid” of their non-random sample of 2 million PC users combined with Internet traffic data collected by comScore affiliated servers.  In other words, they appear to be taking a weighted average of estimates from survey respondents and estimates from traffic data at a set of websites.