The online search business is not about technology. It’s about distribution.
The US Department of Justice made that clear Wednesday when it proposed fixes for a judge’s earth-shaking ruling that Google is an illegal monopolist.
The DOJ’s remedies cut to the heart of how Google distributes its search engine and how that broad reach is key to the company’s dominance of this crucial and lucrative market.
The government’s suggestion that Google be forced to sell Chrome initially grabbed the headlines. But, on Thursday, the potential crackdown on all distribution deals caught investors’ attention.
The US government’s lawyers said Google should be banned from offering “anything of value for any form” of search distribution. That especially includes Apple, but also covers any other partner or company, with limited exceptions, according to the DOJ’s executive summary.
ISI Evercore internet analyst Mark Mahaney called this distribution crackdown “draconian” and said investors were surprised by the severity of the proposals. Google shares dropped 5% on Thursday.
The reason for this concern is that the online search business is not really about the quality of the technology. The edge comes from massive distribution and the huge volume of user queries that come with such a broad reach.
When people use Google to search on the web, the company monitors what results they click on. It feeds these responses back into its search engine, and the product gets constantly better. For instance, if most people click on the third result for a particular query, Google’s search engine will likely adjust and rank that result higher in the future.
This self-reinforcing system is very hard to compete against. This is how the DOJ put it on Wednesday:
“Search engines rely on user data to improve search quality — an outcome that drives more users to a search engine. Users attract advertisers, and advertising dollars fund general search engines, creating a perpetual feedback loop that further entrenches Google.”
One of the few ways to compete is to get more distribution than Google and pull in the extra queries and click-behavior data.
For many years, Google has paid to lock down most major sources of distribution. The most famous deal is with Apple. Google pays the iPhone maker about $20 billion a year to be the default search engine on Apple’s mobile devices.
If the search business was actually about the quality of Google’s technology, why does it have to pay Apple $20 billion a year? That question is at the heart of the DOJ’s case, and Google has never been able to answer it properly. Because it keeps paying Apple.
If Google search technology is so great, the company shouldn’t have to pay for distribution. People would just flock to its search engine all by themselves.
We could soon see a real-world test of this.
If the judge in this case agrees with the DOJ, then these payments will end— not just with Apple, but with any other source of online distribution for Google’s search engine.
This may have freaked investors out on Thursday. They know that the search business is mainly about distribution, and Google may not be able to do this now.
In a worst-case scenario, Google could lose a material slice of the US search market, according to Mahaney.
“We believe Google’s default search placements via contractual agreements represent 50%+ of Google’s US search queries,” he estimated on Thursday.
If half of Google’s search queries go away, that could threaten the self-reinforcing cycle of user click data improving its results.
Suddenly, Google Search may not be so uncatchable.
Google’s top lawyer, Kent Walker, said the DOJ’s proposals would “break” the company’s search engine and “deliberately hobble people’s ability to access” the service.
Google gets to propose its own remedies on December 20.
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