Internet Outsider

Readers Weigh In: Goldman Bonuses "Pure Greed"

Off topic, but thought you might enjoy the reader response to an Op-Ed I recently wrote for the New York Times on the astronomical bonuses awarded this year at Goldman Sachs.  I argued that although the bonuses obviously weren't fair in a moral sense, they were at least justifiable in the context of the amount of profit Goldman generated.  Even after the $16.5 billion payout, Goldman still generated more pre-tax profit per employee than almost any other company in the economy, including Google (so it is hard to say that Goldman's shareholders got cheated).

Not surprisingly, Times readers weighed in, and their responses were unanimous: The Goldman bonuses are undeserved, unfair, and the result of unadulterated greed.  So take that, Goldman (and me).

Wall Street does consistently generate otherwordly pay-packages, even for the rank-and-file, so the reaction is understandable.  Other industries generate vast wealth, too, though--it just doesn't come from salaries. 

For example, I wonder if the reaction would be the same if I had written about the average post-IPO wealth of pre-IPO Google employees.  My guess is no--most people have more respect for entreneurial success stories like Google than perennial success stories like Goldman--but even here the admiration would probably be fleeting.  Today's inspiring start-up is tomorrow's oppressive incumbent, as Microsoft employees learned in the 1990s and Google employees have been learning over the past two years.  (Goldman employees, meanwhile, have long since learned to preserve the health of their golden goose by remaining as discreet as possible.)

Success over a career at a Goldman--for those who can manage to get jobs there--is probably more likely than success in a series of promising start-ups (would love to see some numbers on this), so perhaps the comparison is unfair.  In any case, those of us who don't have the good fortune of working at a Goldman or Google this holiday season can always dream...

Happy Holidays

Will be away for a few days (snow-less, 45-degree Vermont), so won't be anything new for a week or so.  Thanks as always for reading and contributing.  Best to all for holidays and 2007.

PS: Lots of readers have asked for ability to start conversations about topics that I don't know much about or don't have time to research and write about.  If anyone knows an easy way to do this, please let me know.  One method might be for you to write short initial posts with a clear, defensible point of view and send them to me by email.  If they are on topic (Internet business), I can post, and then the discussion can start from there.  (If you do this, though, please include your full real name.  If you want to submit something anonymously, we can discuss, but please make sure I can at least email you back).  Happy to consider other methods if there are better ones.

The Bad News About Google's 70% Search Share

Rich Skrenta (via Searchblog) analyzed the source of traffic for ten big sites and illustrated what "everyone in the web business already knows," which is that Google has a heck of a lot more than 40% share of the search market.  The analysis covers only a small sample, but it certainly seems plausible that, as Skrenta concludes, Google already has 70% share.

For Google bulls, this is good news and bad news.  The good news is that their predictions have already come true.  The bad news is that, if Skrenta's estimate is accurate, Google only has another 30% market share to gain.

In the past three years, Google's growth has been driven by increases in 1) revenue per search, and 2) number of searches.  The second factor, increasing searches, has been driven by growth in global market share and, to a lesser extent, growth of the Internet.  If and when Google's market-share gains slow or stop, this will act as a major drag on its revenue growth.

Can Google gain that last 30% share?  Yes, possibly, if Yahoo, Microsoft, Ask, et al, reach new heights of search patheticness.  Will it?  Unlikely.  As synonymous as Google has become with search, the network effects in this business are not as strong as they are in, say, auctions, and they are probably not strong enough to warrant 90%-100% market share. 

It would be a mistake to make too much out of a small sample, and pinpointing the likely ceiling on Google's search share is difficult at best.  It does, however, seem reasonable to note that at some point Google will no longer be able to gain share and that this will have a "material adverse impact" on its revenue growth.

Google Option Plan Better for Shareholders, Too (UPDATED)

If anyone has figured out the drawbacks of Google's new transferable option plan, please weigh in, because at first glance it looks like a win all around.  (Which begs the question: Why haven't other companies done this?  Why does Google seem to be the only Valley company dead-set on innovating?)

There are two main constituencies who stand to gain or lose from the option program change: 1) shareholders (which include some employees) and 2) employees.  At first glance, the transferable program appears to benefit both of them.

For employees, the program should:

• Function more like a restricted stock grant, in that employees will be able to realize option value even if the stock drops.  This will make it easier for employees to assess the value of their options and be less worried about drops in the stock price.  In exchange for this advantage, the employees will receive fewer options, which will cap their upside if the stock does very well.  Most employees, however, would probably be glad to make this trade-off.

For shareholders, the program should:

• Result in less option-related dilution.  The company will grant fewer options to each employee (because each option is worth more), so the program should result in less dilution.
• Retain the risk-sharing aspect of options.  One reason option grants can be good for shareholders is that, if they aren't egregrious AND they aren't repriced, they can reduce compensation expense when the stock does not do well.  (Employees take options in lieu of some cash compensation.  If the options expire worthless, the employees don't get paid.)
• Less risk that options will be repriced.  Option repricing is one of the most egregious and remarkable gifts in the history of capitalism.  When a company reprices options, it removes the "alignment of interests" between employees and shareholders by removing any downside risk to employees if the stock drops.    In the new program, employees will feel pain as the stock drops.  Because there will be less reason to reprice, however (the options will retain some value), shareholders can worry less that management will plead "retention" and reprice.

Potential drawbacks:

• Less "aligning of incentives."  One could argue that, because employees will be able to generate some value from the options even if the stock drops, their interests are not as aligned with those of shareholders as they are in a traditional option program.  This drawback, if any, is minimal.  Employees will still feel the pain of a stock drop. 

Bottom line: Looks like another smart Google move.

UPDATE

Analyst Scott Cleland weighs in with a list of negatives.  I don't agree with any of them.

• Cleland says the new plan will enable employees to "rush for the exits", creating a short-term culture in which employees don't care about the company's long-term value.  He says a restricted stock plan would be much better, because it is long-term focused.  What he may be missing is that the new options vest on the same schedule as the old ones and on the same type of schedule that "restricted stock" would vest.  Employees will not be able to sell the new options sooner than the old options.  They will just be able to collect some of the "time value" of the options that they would otherwise give up if they did not hold the options to term.  This feature might encourage employees to sell earlier, but it should not trigger a rush for the exits any more than a cash salary would trigger one. 

• Cleland says the new program tells us that Google is having trouble hiring enough smart people because the stock price is so high (implication: they know it's overvalued).  This may be true, but it doesn't undermine the idea of transferable options.

• Cleland suggests that the program will lead to even more dilution for shareholders.  This is only true if Google grants more options than they would have under the old program.  They will probably do exactly the reverse: grant fewer options (because each option will be worth more).  What Cleland may be missing is that by "transfering" their options to an investment bank, the employees will NOT be exercising the options.  They will merely be selling them to another party (which may or may not exercise them at some future date).  What matters is the number of options granted, not whether/when they are transferred.

• Cleland says Google is arrogantly "innovating without permission" and should have checked with the SEC.  According to Google, they DID check with the SEC.  And, again, it's hard to see why the SEC would have a huge beef with an idea that's better for both shareholders and employees.

More alleged negatives?  (I'm sure there are some--I just haven't heard any good ones yet).

Big Media YouTube Competitor? Sorry, Quincy Smith is Not a Moron

Reading the WSJ today, you might have been forgiven for thinking that even after a decade of futility, Big Media has learned exactly nothing about the Internet.  For today came new rumors that Fox, CBS, Viacom, and NBC are discussing forming a "competitor to YouTube."

A competitor to YouTube?  On the theory that Big Media content is so valuable that if Big Media companies form their own video downloading site, net users will flock to it--and YouTube will be toast?  Apparently.  But net users won't flock, of course, and YouTube won't be toast, even if Big Media presses on with--and manages to execute--its preposterous plan, which it most likely won't.

Why not?

Because although Big Media in general is still clueless when it comes to the Internet, a couple of folks sitting at the Big Media-YouTube negotiating table aren't.  One of them, in fact, Quincy Smith, the head of CBS's interactive team, even played a role in selling YouTube to Google.  So if anyone "gets" YouTube, Quincy does.

So then what is Big Media doing leaking rumors of "YouTube competitor talks" if not being moronic?  Increasing its negotiating leverage. 

Quincy Smith, presumably, knows that a Big-Media-sponsored YouTube competitor has no more than a snowball's chance in hell, but he also presumably knows that the threat of such a competitor, however ridiculous, might result in slightly better YouTube royalties for the eventual Big Media-YouTube deal.  Quincy also presumably knows that even though Google knows that a Big Media YouTube competitor is a hallucination, it also knows that Quincy's Big Media bosses probably don't know it, and therefore that the Big Media Bosses might just be moronic enough to put their eggs in that basket for a while (thus slowing YouTube's march to world video domination).  So Quincy is probably right that, even though everyone at the Big Media-YouTube negotiating table regards the "Big Media YouTube competitor" rumors as a joke, they still might nudge Google-YouTube into parting with a few more cents on the dollar.

Expect rumors of an imminent Big Media video-portal deal to intensify for a few more news cycles...right up until we get the announcement of a more comprehensive Big Media-YouTube deal.  Or, if Big Media actually presses on with the absurd idea, shake your head in dismay.

Yahoo Study Group: What Decker Needs to Succeed

As several readers observed, the Yahoo shake-up hasn't "fixed" anything yet--it has just shown that the company has finally recognized that there is a problem and (possibly) held some people accountable for it.  Whether the re-org can actually restore Yahoo's competitiveness will depend on two factors:

First, Sue Decker must immediately be given CEO-level authority.  She doesn't need to be CEO to make the necessary changes, but she does need to be able to act as if she were.  As reader SI points out, creating separate "audience" and "advertising" groups could actually turn out to be just as much of a bureaucratic nightmare as the old situation, if Sue has to waste time lobbying for changes. 

As group head, for example, Sue won't be able to singlehandedly fire 20% of the audience group--if that, in fact, is what's needed.  Because the company has merely "launched a search" for the person who will lead the Audience Group, moreover, the potential gridlock could remain for months.  Any high-powered executive being recruited to run the group will want to understand exactly where he/she sits in the pecking order.  If the answer is, "On the same level with Sue and Farzad (head of the third group, Technology"), the company will be frozen until the executive arrives.  (And, then, it will be locked in a power-struggle for another year, while the executive tries to show Semel that he/she, and not Sue, should be in line for the CEO job.)  If the answer is "Somewhere below Sue," no one who wants to eventually be CEO will be interested.

(If we dissect the re-org, in fact, it seems as though the "big opportunity" that Dan Rosensweig is said to have passed on was probably the "Audience Group."  If this is so, the three-group structure was probably designed in part to keep him happy, but it was also clearly a demotion.  So Dan said "no, thanks," but the group remained.  And now, at best, Yahoo has to waste another couple of months trying to find someone to lead it.)

The answer?  If Terry really is grooming Sue for the CEO role, he should just make her "president" tomorrow and then gracefully fade away.  If he isn't grooming her for the role, he should consider doing so.  Given the rate at which Google is pulling away from Yahoo, the company can't afford another six months of status quo.

The second success-factor is that, yes, assuming she has the authority to do so, Decker has to figure out a way to attract and retain top engineering talent.  Contrary to the opinion of many observers, she does not, herself, need to be an engineer.  She just needs to develop the right environment and incentives to compete with Google for the best people.  Given how much money, star-power, and buzz Google has these days, this won't be easy, but it is critical to Yahoo's success.

The re-org was a fine initial step.  Now the company needs to make it a decisive one.

Yahoo Shake-Up Good News; Decker Can Handle It

As a Yahoo shareholder, I'm happy about two things: First, that Terry finally acknowledged with actions that the company has broken down, and, second, that Sue Decker is still on the rise.  Whether the changes will be enough to put the fight back into Yahoo is still a question, but I feel like the re-org is a step in the right direction.

People will undoubtedly worry that Sue lacks the CEO experience necessary for her new job (as well as the job she now seems to be in line for--Terry's).  I am much less concerned about this than I would have been had I not watched closely as she took over the CFO job in the summer of 2000, three minutes before the company self-destructed.  The way she handled that disaster (which she had nothing to do with), and the way she handled the subsequent purge, layoffs, restart, and rebuilding of confidence with Wall Street convinced me that she is one of those rare people who will rise to whatever challenge she takes on. 

The fact that Sue undoubtedly understands the magnitude of the challenge, as well as the fact that she will have to win over doubters both inside and outside the company, is also encouraging.  Unlike a CEO from the outside who might regard the Yahoo job as a fun challenge with which to cap off a successful career (see AOL) or, worse, just another CEO job, Sue will likely arrive at work every day intent on proving that she deserves not only her new responsibilities but a reputation as a top Fortune 500 CEO.  She understands the company (in addition to serving as CFO for five years, she helped take it public when she worked as analyst at DLJ), she understands the Internet (she's been covering the industry since the beginning), she understands the old media world (she covered that, too, for a decade), and she has the right skills, passion, and experience. 

I should also say that I'm impressed with how Terry handled the whole Peanut Butter Manifesto thing.  No word yet on where Brad Garlinghouse will sit in the newly reorganized Yahoo, but Terry's calm refusal to address the memo publicly, combined with rapid actions that acknowledged much of what it said, strike me as supremely professional.

Photo by the New York Times.