Spelling it out

THESE days it seems as if there is almost no area of technology that Google can resist dipping its toes into. Among other things it is working on driverless cars, delivery drones, glucose-detecting contact lenses for diabetics, devices for the “smart home” and research into extending human lifespans. The corporate reorganisation it announced this week is an acknowledgment of what Google has become: a sprawling conglomerate, albeit with one predominant, profit-generating division in the form of its original internet business.

Google’s founders, Larry Page and Sergey Brin, will serve as chief executive and president, respectively, of a new holding company, called Alphabet. Google’s internet-search and advertising business, including its YouTube online-video service, Chrome web browser and Android operating system, will be a subsidiary of Alphabet. So will its other, newer ventures, which will henceforth be run more independently from the main business. In creating this new set-up, Messrs Page and Brin are taking inspiration from Berkshire Hathaway, a successful conglomerate that invests in more established industries (see article, and Schumpeter).

In practical terms, the two founders will be freer to spend time on emerging business lines that tickle their fancy. The group’s main moneymaking activity—which last year produced 89% of its $66 billion in revenues—will be overseen by Sundar Pichai, a well-liked veteran Googler. An engineer, he understands the firm’s internet and advertising products well, and can concentrate on driving improvements in them. The heads of the other units will report directly to Mr Page, and be able to ask for more investment or support without navigating the bureaucracy of Google’s core business. (Eric Schmidt, who will be Alphabet’s chairman, is on the board of The Economist’s parent company.)

The new structure will also bring more transparency, pleasing shareholders fed up with the firm’s opacity. Google can serve up search results on any subject in fractions of a second, but it has been slow in providing detail on its own businesses. For example, no one outside Google knows whether YouTube, which Google bought in 2006, is profitable. Nor is anyone certain how much it is pumping into its “moon-shots”, its speculative research projects. “All they have done every quarter is offer investors assurances that their spending is controlled and proportional, but now we are going to be able to see if it is,” says Peter Stabler, an analyst at Wells Fargo Securities. The day after Google’s announcement, its shares gained over 4%. Likewise, Amazon, another secretive web giant, got a boost to its share price when it released more detail about its cloud-computing business in April.

Mr Page quipped that one reason they chose the name Alphabet was because they strive to make the group an “alpha bet”, that is, one that will outperform the market. For now, outperformance looks likely. Google’s internet operation has successfully anticipated shifts in consumer demand, such as the rise of mobile devices and the growing popularity of online video. Few firms can claim such a lucrative core business: Google’s advertising operation probably has profit margins of more than 60%, reckons RBC Capital, an investment bank, and it gets more than 70% of all worldwide online-search revenues.

However, the need for a new corporate structure reflects its transformation into a mature company, with the challenges that brings. The European Commission accuses Google of abusing its dominance of the online-advertising market by favouring its own products in search results. Google is due to respond to the charges soon. Meanwhile, even Google’s most devout boosters are anxious to see proof each quarter that its impressive growth rate can continue unabated. Ads on the small screens of mobile phones are not as lucrative as desktop advertisements, and could be a drag on margins in the future.

In the longer term Alphabet will also have to prove that its various dream factories can turn into viable businesses. In setting them up as stand-alone companies, Messrs Page and Brin have raised hopes that they are getting close to being commercialised. But so far, with the exception of a smallish business that provides fibre-optic broadband service and Nest, a maker of smart thermostats that was bought last year for $3.2 billion, the group’s newer initiatives have no revenues, according to Mr Stabler of Wells Fargo Securities.

Many technology firms have tried to exploit promising new ideas, only to see them stifled by the existing, profitable core business—Microsoft being one example. In creating the holding company and liberating their moon-shot ventures from the main internet business, Messrs Page and Brin are seeking to avoid this fate. Turning them into formal subsidiaries could be a step towards spinning off the successful ones, if that is the chosen outcome for them. It also makes it harder quietly to sideline those that do not pan out. In either case, the expectation is that Alphabet will spell things out more clearly.

^{Correction: Google's smart contact lens detects levels of glucose, not insulin, as we originally said. The article has been changed accordingly}