Alphabet (NASDAQ:GOOGL) (NASDAQ:GOOG) subsidiary Google is about to start charging Android manufacturers licensing fees in the European Union, in response to a major antitrust decision from regulators. That could lead to more choice for consumers, but also higher prices after manufacturers pass along those fees.
A full transcript follows the video.
This video was recorded on Oct. 19, 2018.
Dylan Lewis: Why don't we switch gears and talk Android in Europe? We got a recent ruling from the European Commission, basically looking at Google's Android practices and deciding that they are anti-competitive. Evan, do you want to give us the rundown?
Evan Niu: The European Commission slapped Google with a pretty massive $5 billion fine, which, of course, they're appealing. That'll make its way through the courts. Maybe they settle, who knows. The issue is, some of the things that Google does with Android are anti-competitive, particularly how it has long paid device manufacturers to pre-install Google Apps and Google Play Store. That gives them this huge advantage within the Android platform. It really undermines the competitive nature of other companies that might want to compete in search.
There's a lot going on here. When the decision was announced, Google CEO Sundar Pichai also suggested that this model is going to have to change. The speculation was that they're going to start charging a licensing fee. Now, that's actually kind of what's happening. Google has now said that they will start charging manufacturers a licensing fee -- not for Android, the platform itself, but specifically related to its suite of apps and services, which includes the Play Store. The Play Store is a pretty huge piece there, because that's where you get all your apps and stuff.
It's a pretty big reversal, in terms of the economics of where the money goes. Instead of them paying manufacturers, manufacturers now have to pay them. And, of course, those companies will probably pass along those costs to consumers in the form of higher prices. We've seen this in other computing form factors. When you have one company that makes the operating system licenses it out, that generally leads to higher prices, because those companies need to make that money back, and they typically throw their own margin on top. I think that has some pretty important implications with the Android ecosystem and the business model, in Europe at least.
Lewis: The upshot for all of this is, short-term, it could mean that prices go up on Android devices simply because manufacturers have to pay to access this stuff in a way that they haven't in the past. Longer-term, theoretically, this leads to more competition. The barriers to competition are a little bit lower for people providing apps in the space.
Niu: Right. It also depends on, are manufacturers going to really try to sell Android devices that don't have Google Apps and services? Maybe some will try, test the market, see if those devices can sell well. If those devices can sell well, then certainly, consumers might prefer lower prices, manufacturers prefer lower costs.
Actually, news broke today that the licensing fee is actually going to be pretty high. Google had initially said that this fee would be pretty small and not too much to worry about. I think that what they're doing is trying to put in the high fee as a way to incentivize manufacturers to make other concessions. This fee is reportedly as high as $40, which is massive. That's more than what Window's phones used to charge for its platforms, back when Windows phones were a thing. That fee will vary based on country and device type. It's as low as $3, but can go as high as $40. Google will offer breaks if the manufacturer pre-installs Chrome and Google Search. Pre-installing Chrome will also become a requirement for some of these revenue sharing agreements they have around Search. It's basically saying, "We're going to charge a ton of money, but we'll give you a break if you basically keep pre-installing it." It's a roundabout way to more or less keep the status quo. It presents a really strong financial incentive for them to still pre-install Chrome and Search, which have always been Android's primary monetization strategy for Google.
Lewis: The reality is, the reason that the European Commission is so narrowly focused in on Google is, it dominates this market. It's dominant here in the United States, but I think within the top five largest European countries, it has over 80% market share, something crazy like that.
Niu: Right. That's according to Kantar estimates. The big five European markets, Android is huge, it's like 80% of the market. Globally, of course, Android is huge, too. But, yeah, this decision does specifically relate to Europe. They're such a huge player there and they dominate this market, and they have this massive market power position where they can really undermine all competing search providers, particularly on the mobile front.
Lewis: Right. Also, the core of it is, they make good products. That's why people continue to use them. Yes, they are the default for so many of these Android devices. They're packaged in in a way that makes it very easy for consumers to use. The less friction you have there, the more likely they are to use those apps. But a lot of people go out of their way -- on iPhones, even -- to use Google Apps because they're pretty much top of the line for the industry.
Niu: Right. They also have those agreements with Apple, too, where they pay Apple for the default search spot. To your point about removing friction, pre-installing this stuff is a huge advantage because a lot of people, even if they really like Google apps and services, may not go out and install it themselves. If you buy a new phone and it already has the stuff on there, it's a seamless thing, it feeds straight into their search products and other services. That's such a huge strategic benefit of having these things pre-installed.
Lewis: The big picture takeaway for this news is basically, Google is going to do everything that it can to maintain the status quo, although they'll have to jump through a couple of hoops to make that happen.
Niu: Right. That seems like how they're trying to approach it. They don't want to give up any of these advantages they have, but at the same time, they have to navigate this new, precarious legal position that they're in because of this antitrust decision. If they restructure the way the model works, then they can maybe get away with it. They did have to get rid of some of these other restrictions around what devices other people can sell. Overall, on paper, it's a positive thing for consumers, because theoretically it will create more choice, ultimately. But if that turns out to result in higher prices, that's not a great thing. To the extent that Google can keep things the way they are, maybe there's not that much change.
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Dylan Lewis owns shares of Alphabet (A shares) and AAPL. Evan Niu, CFA owns shares of AAPL. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), and AAPL. The Motley Fool has the following options: long January 2020 $150 calls on AAPL and short January 2020 $155 calls on AAPL. The Motley Fool has a disclosure policy.