Google vs. Microsoft: What's Going on Here?

I wrote Tuesday about trouble with Google's (GOOG) AdWords platform. I noted that it's not performing as well as it used to, and that that will spell short-term trouble for the company and stock because 99% of Google's revenue comes from its ads.

On Wednesday, Digg switched from partnering with Google to provide ads on its reader-powered news site, to partnering with Microsoft (MSFT). Digg will still display small text ads, just like the ones previously delivered by Google, but now they'll come from Microsoft and are expected to be better.

How could this be? Google is supposed to be the cutting edge of all things Internet, yet it's grown relatively stodgy in the ad business, which is its only revenue-generating endeavor. Everything else it does is just to gather people around pages that show content and...ads. If it blows it in the ad game, it's in real trouble because that its only game.

Meanwhile, old crusty Microsoft is leading the charge in the ad category. Jay Adelson, Digg's CEO, said his company couldn't "think of a better partner to get to where we need to go. They're a young ad service, they're innovative, they're willing to work with us on the cutting edge."

Last summer, Microsoft signed up the social networking site Facebook. Now it has Digg. It's in the process of acquiring aQuantive to keep its adCenter division at, well, the center of advertising.

Rather than Google's plain-Jane pasted-on-the-page ad system, Microsoft is developing a more interactive approach. Users have been screwed by too many worthless text ads that have, in fact, little to do with what they're doing online. The context sensitive approach was nice five years ago, but has been worked to death to the point where fewer and fewer people bother looking at anything but organic search results (the ones that the web turns up by actually searching, not the ones that are placed as ads). Everybody's onto the text ad trick by now.

Steve Berkowitz, a senior vice president in Microsoft's online services group, says Microsoft is the innovator, not the copy-cat, in online advertising. "We actually now are in the forefront of what we believe is going to be the next generation of advertising."

True, Microsoft has a long way to go to catch up with Google, but it certainly doesn't lack the money to get there.

I've written for some time now that my interest in Google has to do with its endeavors to make Microsoft alternatives. I want to use Google Docs instead of Microsoft Office, for instance, and I'd like to see an entirely free operating system made available and amazing, just as Mozilla has made the entirely free Firefox the best thing in browsing. Try using Internet Explorer after Firefox and you can scarcely believe anybody's stupid enough to keep it.

Is Microsoft taking Google's encroachment onto its core turf in stride? No. The Redmond giant is well aware that its main business is threatened by web-based applications, online advertising, and other ventures.

Last night, Microsoft CEO Steve Ballmer told analysts that web services and consumer devices are vital parts of the company's future. He said, "Great things don't happen overnight. Most successes require long-term investment and innovation...and that's our perspective."

He said he sees more opportunities for growth in the next 10 years than in the past 30 years. Rather than hiding from new, disruptive technologies, Microsoft will embrace them. He referred specifically to the threat of web-based software versus Microsoft's traditional local hard-drive-based software.

"Every piece of software -- the basic core value in the way software gets created -- will change in the next three, five or 10 years," he said, and predicted that all software will soon use the desktop, Internet, and server to get its job done. He said that software will never switch to an Internet-only model.

What's going on here?

Google is an online advertising company that has plans to become a software company. Microsoft is a software company that has plans to become an online advertising company. They're both much better than the other in their current area of strength at the moment, but they're both looking a little uninteresting in that area as the other catches up in exciting ways. They both have a lot of money to get where they want to be.

Microsoft shares were stuck between $22 and $30 from mid-2002 to mid-2006. From early June of last year to now, the shares are up some 36%, but that's just the difference from $22 to $30, so the situation hasn't changed all that much. Pay no attention to what excited onlookers say about the percentage gain.

Google shares are the toast of the town, having gone up 400% from $100 to $500 in the past five years. However, there have been bumps along the way. From January 2006 to mid-March 2006, GOOG dropped 28%. Could we be on the verge of another such sale?

I think so. It reported earlier this month that it hired 1,500 new people. It now has 14,000 people on its payroll to support all of its new endeavors, not one of which makes money beyond providing pages for ads. It's little surprise, then, that Google's operating margin has fallen from 35% two years ago to less than 29% now, and it's still falling.

I'd steer clear of GOOG shares for a while. Keep using all of its amazing services, keep loving the pressure it's putting on Microsoft to innovate, keep hoping that it announces one day an entirely free operating system, but let the sale around its shares continue.

GOOG/MSFT 1-yr comparison chart

Comments

[Jeff Molander:]

Great thoughts, Jason. Indeed, "Everybody's onto the text ad trick by now" but Google has made some interesting acknowledgments of this fact -- and responses to it (by cleaning up AdWords through creating affiliate-focused restrictions and AdSense through offering more control).

As you seem to be pointing out, it will be interesting to see how social media monetization shakes out considering that it may be monetized in new, innovative ways (beyond the page view and/or cost-per-click). Scott Karp and I seem to believe that Google's new Pay Per Action hedge could explode revs for GOOG in the area of blogs -- opening the door on the gaming of "per action" similar to the way domainers, as an example, have gamed the Pay-Per-Click system. This could spell big opportunity for GOOG in terms of dominating the <strong>smaller&... nooks and crannies of the social Web (vs. the Facebooks)... just as they've done with AdSense.

Speaking of, considering all of your points above, I think we need to also pay some attention to how GOOG is proceeding to clean up its AdSense network via the Pay Per Action scheme and kicking out the Made-for-AdSense crowd.

2007 Jul 27 10:10 AM

[Derrick She...:]

I agree with the premise of your article however I don't think it was GOOG's intention to "trick" users into clicking on contextual, text-based advertisements. While an older generation may not be able to really tell the difference, these advertisements are clearly labeled as such. What are you are saying is akin to saying that television commercials are no good because consumers are aware that the brands/advertisers paid to have their commercial shown.

As an online marketer I have to appreciate the fact there is a clear difference between paid advertisements and organic search results.

Additionally, I think it's wrong to assume that the text-ads are irrelevant or not useful to the user. Let's say you did a search for "cheap online brokerages". Of course the top 10 organic results would be (hopefully) relevant but I think it would be fair to assume that the paid advertisements would be very relevant as well.

I also think it's interesting that in your article from Tuesday you rant about how the cost of clicks is going up and is becoming less and less profitable for advertisers, and then you encourage your blog readers to click the ads on your site to see if they find something "interesting". This is clearly against Google AdSense TOS and you should be careful with requests like this.

One positive aspect to the cost of clicks going up is that big companies with real advertising budgets will (hopefully) dominate the top spots the user experience is a positive one, instead of ending up in MFA nowhere land as Jeff was speaking about above.

2007 Jul 27 11:23 AM

[Jeff Molander:]

A lot of research out there (Jakob Nielsen has published some) indicates tremendous confusion among the masses (not just older folks) as to separation of ads from non-commercial information. Example. As well there's a multi-million (some say approaching billion) dollar industry out there based (to date... things are changing) entirely on arbitrage called domaining. This is built entirely on syndicated paid search ads and capitalizes on typical, routine Web surfer traffic and usage patterns. It's what gives Marchex most of its valuation. So IMO Web marketers are forced to appreciate (even more!) the confusion of what is and is not an ad :)

As well, let's face it -- GOOG is a public company and they have good reason to not improve non-commercial search results and blur the lines. GOOG is not alone -- YHOO and others are in same boat.

On the subject of Google not trying to trick or play games with Web users (leverage typical behavior patterns) I'm not encouraged by their investment in AdSense for Domains. More importantly I'm encouraged to look at this support of interested third parties (companies like Marchex) as a short term play for GOOG.

Nonetheless, GOOG has been on quite a tear and they continue to make very few mistakes. That stated, I appreciate your being a contrarian, Jason!

2007 Jul 27 12:19 PM

[Jeff Molander:]

Related to my prior comment. Here's more details/data on usage of search for navigation and the recent shift to the browser bar. From DMNews.com:

www.dmnews.com/cms/dm-...

2007 Jul 27 02:48 PM

[Derrick She...:]

Jeff- I see your point however there is a difference between the syndicated ads that appear on domains and the advertisements that appear next to organic search results.

I am very familiar with arbitrage and domaining and while I'm personally against the whole concept, I do not think GOOG is crossing any lines by providing domainers with access to their ad feeds in this manner, because as I said this content is clearly differentiated from search results on the google.com domain.

So, where do companies cross the line? I think Yahoo! is coming close to the line in the current special k promotion. Considered a "Yahoo Shortcut", the promotion allows Kellog's advertisement to a.) get a Logo and b.) be labeled a "Yahoo Shortcut."

Here's another example, this time from Google. It's clever marketing and will garner a lot of attention, but perhaps needs to be labeled with more than just a "Google Promotion".

2007 Jul 27 02:49 PM

[Jeff Molander:]

Yes, I'm blurring a bit so thanks for bringing me back into focus :)

Indeed, what's a "promotion" and a "shortcut"? It's all about disclosure and walking that fine line that each company (GOOG and YHOO) walks so very well.

2007 Jul 27 02:55 PM

[Jason Kelly:]

Thank you, Jeff and Derrick, for the informative discussion.

I responded to some of your comments on my site.

2007 Jul 30 03:23 AM