The Real Story Behind Google's Product Failures

Google (Nasdaq: GOOG  ) has been celebrating its ability to "fail fast and learn" with the recent shutdown of Google Wave and Nexus One. But critics of Google have been impatiently waiting for a product breakthrough to provide a new revenue stream beyond Google's core search advertising business.

For impatient Google investors, "failing quickly" may not seem like a management breakthrough. Growth rates on the company's $24 billion ad operations are slowing, and nothing from Google's stellar portfolio of products -- not Gmail, Google Maps, Google Apps, Chrome, or even acquisitions such as YouTube or DoubleClick -- has demonstrated that it can become the company's next growth engine.  Perhaps that's why Google's shares look relatively cheap right now, trading at a forward price-to-earnings ratio of 15.92 and an enterprise value-to-EBITDA ratio of 12.  

Still, I think Google's public celebration of its recent product failures strongly suggests that its growth story is far from over. Given the way CEO Eric Schmidt has been talking up the "failure" of Wave, I suspect that Google's confident that it's about to have a big hit on its hands.

Lessons from the Nexus One
Before Wave bit the dust, Google was publicly celebrating another failure last month. The Nexus One smartphone was a shot across the bow at wireless carriers Sprint (NYSE: S  ) , Verizon (NYSE: VZ  ) , and AT&T (NYSE: T  ) when it launched last January.

Since Google was selling the Nexus One phone directly to consumers online, it controlled the purchase experience, leaving the wireless carriers' retail stores out of the loop. Potentially, this could give Google tremendous leverage over the carriers, in addition to revenue on the sale of the device. Google doesn't make any money today on the purchase of Android phones (phones built on Google's mobile operating system) when they're sold directly by the carriers.

But imagine if Google could sell phones directly to consumers, and force the carriers to compete to win a Google phone customer's business. That competition might even force carriers to pay Google a bounty for each new Nexus One account.

Alas, Nexus One didn't work out that way. Google's online sales were insignificant.  The Nexus phone didn't exactly blow the socks off anyone as a competitor to Apple's (Nasdaq: AAPL  ) iPhone, or the wireless carriers' own versions of phones running on Google's Android platform. This last point is the most important. Schmidt announced last week that more than 200,000 Android phones are being activated each day, and that the search volume driven by Android users makes the platform profitable for Google.  

Here's what I think Google's Nexus One strategy was all along:

  • Use the direct-to-consumer distribution strategy to light a fire under other carriers' support for Android-based phones.
  • Accelerate the growth of downloadable applications in the Android Marketplace -- which, while still smaller than Apple's, is much larger than Research In Motion's (Nasdaq: RIMM  ) BlackBerry application network.
  • Test the waters to see whether competing with the carriers on distribution was preferable to partnering in their retail channels.

Nexus One didn't need to succeed as a stand-alone product or business, as long as Google successfully attracted developers and accelerated the wireless carriers' distribution of Android phones.  While I can't prove it, I think Nexus One was critical for Google to achieve both objectives.

The stakes are large here. The developing mobile market is threatening Google's search-advertising dominance. Android is Google's strategy to rule mobile ads the same way it all but owns the traditional Internet. Some forecast that mobile advertising from Google's AdMob acquisition could be generating as much as $6 billion by 2020.

Wave goodbye, or Wave hello?
On another front, Facebook's continued growth has begun to menace Google's core business. In June, Facebook showed that it's nipping at Google's heels, with 141 million unique visitors to Google's 179 million. In response, Google Wave could prove to be the Nexus One of Google's social-networking strategy. 

Google Wave combined elements of email, instant messaging, and a Facebook-like news stream. The product was either a confusing mess or a revolutionary integration of these communication platforms, depending on your perspective. While I don't think Wave created the same type of leverage for Google that the Nexus One provided over the carriers, I do think it's critical for Google to demonstrate that it will be a viable player on the social web.

Google needs a sturdy social-networking platform to persuade social-gaming giant Zynga that Google's the right partner to reduce the Farmville maker's dependence on Facebook. Sure, Google's rumored $100 million-$200 million investment in Zynga certainly didn't hurt, but it's not a stretch to say that Zynga doesn't really need Google's money.

Instead, I'll bet the Wave technology, software development team, and technology roadmap were important in making a Google-Zynga partnership a reality. With this week's acquisition of Slide, Google is taking another step to launch a competitor to Facebook, rumored to be a stealth project called GoogleMe. I'll bet the Google Wave team is taking what they learned from their brief product run, and working with the teams from Slide and Zynga to put that knowledge to good use.

You take it from here
Do you think Google's "failures" bode well for the company's future success? Will Google dominate mobile search and advertising? Can Google compete with or disrupt Facebook? Let us know your thoughts in the comments box below, or click over to Motley Fool CAPS to vote on the stocks that you think are most likely to outperform (or underperform) the market.

John Keeling does not own a position in any of the stocks mentioned in this article. Sprint Nextel is a Motley Fool Inside Value selection. Google is a Motley Fool Rule Breakers pick. Apple is a Motley Fool Stock Advisor recommendation. The Fool owns shares of Google. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.


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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 09, 2010, at 11:05 AM, plange01 wrote:

    google is nothing more than a online phone directory! all the cheap copys it makes of other peoples ideas are simply its desperation as the company that rose like a rocket is now falling like a meteor!

  • Report this Comment On August 09, 2010, at 11:37 AM, Henry3Dogg wrote:

    Google is a one trick pony with delusions.

    Your fantasy justifications for it's failures are bizarre.

    It was clear the day that Google announced the Nexus One that it would have to withdraw it again, or accept that within a short time it would be the only brand of Android phone.

    The other phone makers may have been slow at times, but they're not stupid.  And they would have to be stupid to invest to build the Android presence, knowing that Google was a competitor and that ultimately Google would have no need of them.

  • Report this Comment On August 09, 2010, at 11:44 AM, Henry3Dogg wrote:

    This article should not have been published under the title of "The Real Story Behind" without compelling evidence.

  • Report this Comment On August 09, 2010, at 1:31 PM, mDuo13 wrote:

    I admire Google's ability to recognize when something is failing and pull the plug rather than chugging along "just a little farther" until it becomes profitable. However, I still need to see a few more runaway successes from them before I'm more confident in their future.

    By contrast, Microsoft has shown that dogged persistence as with its Xbox brand can sometimes win out in the long run. I have to wonder, though, whether or not the successes-at-long-last pay for the other dogs that never make it, no matter how long it takes.

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