It’s hard to fathom what the two-day e-G8 meeting in Paris, which starts tomorrow, will offer us. It’s received only minimal coverage, despite the fact that the attendees include such high-profile people as Jeff Bezos, Eric Schmidt and Jimmy Wales, along with scores of other technology company managers, entrepreneurs, political leaders and journalists.

The quasi-governmental sponsorship of Nicolas Sarkozy may explain part of the reason why the event hasn’t received many headlines. He asked Maurice Levy of Publicis to host the event, which is entitled “The Internet: Accelerating Growth”. The aim is to bring technologists and policy-makers together, “to discuss the challenges and opportunities which they believe relevant to the future of the Internet, offering their opinions on a wide range of issues, including for example human rights, intellectual property and technological investment.”

However, we all know that the Internet actually accelerates creative destruction: something France and other countries in Europe are less keen on. That has many wondering whether the real policy objectives of the e-G8 have more to do with additional regulation and control, rather than more freedom, innovation and economic incentives.

The French have an uneasy relationship with the Internet on both an economic and a personal level. Economically, the ability for companies, particularly Google, to be able to extract large economic value out of the French economy is troubling in a model in which the government provides large subsidies (billions of euros) for foundation technologies like broadband. Personally, people in France are just a little less comfortable with the online model, and Internet business, than some other cultures in the developed world. For example, PriceMinister, a French web commerce company, was acquired by a Japanese firm. According to an insider at the French company, “there are no natural French buyers for Internet companies because they don’t really believe in it. They pretend to care about the Internet, and spend some money on it, but they are not serious at all.” [Quote from LeWeb, December 2010.]

There’s a robust band of successful entrepreneurs and business owners on the Internet in France, but big companies see it more as a risk than an opportunity. No wonder they are losing out to more aggressive international competitors. [This is going to get even worse with the dramatic rise of the mobile Internet, but that deserves treatment as a separate and full post.] For most successful French technologists, their path has involved a move or partner outside of France.

There is an agenda, but it’s fairly high level. Other than the welcome by Levy, and the opening speech by Sarkozy, no sessions have speakers listed. We’ve been able to piece together some sessions by matching up Twitter streams with the agenda, but it’s a far cry from a complete, detailed, official agenda. The last time Sarkozy appeared at a technology event, it was LeWeb 2008, which was a disaster. He lectured an unwilling English-speaking audience at length – in French – about the need for interactivity, and then proceeded to end his speech and abruptly leave stage left. The crowd was livid.

But the French are technology friendly and, since then, other French ministers like Christine Lagarde have made a far better impression by appearing at technology events and speaking intelligently and frankly in English to attentive and appreciative audiences. I’ve also met with French officials who oversaw the conversion of many government offices to modern technology using open source software. So all the ingredients are here, but somehow the recipes and presentation are not quite right. This event may be an attempt to improve things, but two days isn’t much time.

Are there Investment Implications?

Probably not the type that will impact 2011 stock performance. But in the longer term, whether we like it or not, business on the Internet is going to be impacted by politics, legal differences, societal needs and human factors. Because the Internet involves personal data, privacy, security and interaction, it’s different from moving a product or a piece of content into a foreign market.

The implications cut in two directions. If countries like France act to protect their near-term interests, it can limit the opportunities for global firms like Google, Apple and Facebook in the local market. We’re all familiar with this from examining the development of business and the Internet in China, where Baidu continues to lead the market. As for Russia, it appears that Yandex will be the Internet search leader there.

Strong domestic companies are important and welcome, but the question is: what cost do consumers and taxpayers have to pay for them? And this isn’t just in terms of money, but also with respect to choice of content, freedom of expression, efficiency and ultimately even the quality of life. Limiting or restricting consumers to narrow and inferior content and tools, merely to preserve local interests, won’t work in the long term.

In conclusion, the objective of the organizers is to have some specific recommendations that can be made to the leaders at the G8 meeting immediately following the event. What kind of things are even possible? Most technologists would say, “spend money on building the roads and ramps (broadband), then get out of the way.” One senses that the leaders of the free world want to put their fingers on the path of progress to influence how it all turns out.

Politics is unlikely ever to welcome the term “creative destruction” into its lexicon, because the destruction part is too lethal for poll ratings. But why not use government power and wealth to incentivize and assist those people who are dislocated by the process? Most developed countries, including the US, still seem to have a problem in creating the jobs that many of us have enjoyed in the past. Healthcare costs are a big reason in the US; slow growth, regulatory burdens and high costs are reasons in France. (Research 2.0 looked into hiring some people in France about five years ago and concluded that it would basically break our admittedly “lightweight” business model.)

With iPad in hand, I’ll don my top hat and tails to stroll under the luxury tents assembled in the gardens of the Tuileries. Few places could host a more sumptuous gathering spot for a discussion of the Internet and policy. At the same time, thousands of students will be shifting gears to spend the summer developing software and Internet sites that may become the next Google, Facebook, Match.com or GroupOn, instead of whining to their parents how they can’t get an interview for that $100K entry-level job at Goldman Sachs that they were planning on. “Dad, maybe if you could get me into that e-G8 thing where I can network…”

Related articles

• What Will e-G8 Create: Solutions or More Cynicism? (readwriteweb.com)
• France To Internet: G8 Will Talk To You, For a Price (gigaom.com)
• Chaos of Internet Will Meet French Sense of Order (nytimes.com)*
• The e-G8: Promises and Problems (jilliancyork.com)
• Is France Plotting to Kill the Free Internet? (gigaom.com)

*Requires registration

This is part three of  a longer note on internet content in general and Demand Media in particular.  The full report can be downloaded with this link: Demand Media Crapification.  Below is the section on DMD along with a link to our Intrinsic Valuation of $30.

Do you Quora?

A new kid on the block has captured the attention of alpha geeks and early adopters and has certainly entered the hype cycle as the “next big thing.”  Quora starts with a focus on questions and answers, adds to it elements of social networking (like Twitter) plus a crowd-sourced ranking mechanisms found in Slashdot and made popular by Digg.  This sounds a little esoteric at first but it ends up being effective at turning online information and the energies and knowledge of the many into productive results.

The crux of Quora is that it allows users to determine what questions to ask, answer them, and then provokes the community to rank the best ones so they are at the top.  In this way they combine elements of Wikipedia with Digg; however, the ability to follow topics and have networks of followers adds another dimension.

There are a few reasons Quora is proving more useful than other online networks, so they are worth a closer look:

Topical focus: Quora uses questions and answers to provide a framework for information sharing.  Users can submit new questions as well as answers to existing ones.  There is an approval filter on questions to guard against multiple instances of the same question and “junk” questions.

Notion of authority: Quora has been blessed with a very high level of initial user.  For example, answers are from individuals who are clear authorities.  It’s not unusual to see a founder or CEO of a company answering questions like “how did ABC company get their name?” But anyone can end up with the best answer to any question by dint of knowledge and their effort to express it.

Crowd filtering and ranking: Questions tend to elicit multiple answers, and in addition to authority the users vote for the answers they think best address the question.  In this way, the best information “bubbles up” to the top of the list and silly or wrong answers are pushed out of focus.  Over time this leads to an inventory of “right” answers to interesting and useful questions.   This is a filtering mechanism that works very well.

Intersection with networks: You can “bring your network” to Quora by following people you already know and also start following new ones.  The combination of following people and following questions leads to a more productive filter that still allows for discovery.

There are some other benefits that result from the Quora approach.  The first is that people stop adding their 2 cents when it’s not needed.  After a question has been addressed for a while, the best answer is right on top and is typically quite good.  This helps prevent subsequent visitors from adding content that doesn’t improve the answer and instead encourages them to vote, comment, answer other questions or ask new ones.

Quora is also a good place to build your network and meet new people because it’s based on shared interests, knowledge and constructive interaction.  In other words, it’s about the content that people generate more than the jobs they’ve had or people they know.  LinkedIn takes the latter approach and is not nearly as effective.

Is Quora a flash in the pan?  That’s a question that has some people worried because they enjoy the service so much.  Part of what has made Quora special is the quality of the dialog and the fact that so far the company has been willing to forgo a business model.  Will a huge increase in the number of active users result in a “dumbing down” or a “smartening up and broadening out” of the content?  Quora does have a few mechanisms that may protect them from the adverse effects of a very large user base but these will need to be tested.

The other main risk for Quora comes from within. Users are building something that may be of great value and the company will want to monetize it to stay in business.  Advertising is the most common path but doing so without jeopardizing the character, energy and quality of the site is a challenge.  Right now the costs to run Quora are low and if they stay that way it may be possible to preserve the aspects that make the site special.  Craigslist is an example of a site that was largely able to preserve their free and open model and only charge for specific things like job postings.

What can Google do?

There are some deep concerns about Google being able to address the shortcomings of their search results.  The focus on speed and general answers for search may fail to capture enough semantic processing to deliver improved results.

Of course the folks at Google know all about the problems we have described here, and have myriad solutions they could apply.  Technologies like instant search make it clear how deep their technology reservoir is.  Google now finds itself facing the innovator’s dilemma.

Google has been disruptive by giving away valuable services “for free” since they could earn billions of dollars in advertising fees.  Today that’s a huge and very profitable business for Google.  If the path to continue to delight users happens to involve showing far fewer ads, is it one that Google can afford to take?

Based on recent statements, it sounds as if Google will make noise about improving results but is unlikely to do anything radical. As the market leader they can afford to move slowly, at least for now.  However, there are a few fairly simple but powerful changes Google could implement to improve results:

User-defined site rankings: A simple way to provide positive and negative feedback on sites would make a big difference.  A heavily bookmarked site generally has good content.  Offering the opposite would be sensible. There are many sites for which I would check the box “never show search results from this site.”  Google could make this easy.

Leverage social and professional networks: There are social and professional graphs emerging that also go a long way to defining some notion of authority or at least superior judgment.  Google already can show me a search result that has been bookmarked by someone I’m following on Twitter.   Ranking sites bookmarked or tweeted by people one follows would be a helpful option.

Penalize sites with high advertising content: This is crux of Google’s problem.  Users want more content and less advertising.  We’ve reached the point where pages have more ads than content and viewers are beginning to find other places to look. Google isn’t in danger yet but if they don’t do something about the advertising proportions of returned results they’ll lose share.  It might take years, but once a decline starts it’s hard to stop. [Look how many years it took for Microsoft Internet Explorer to shrink from having the vast majority of market share to now less than 50% and falling.]

More collaborative filtering: Taking bookmarking and combining it with search and networks would allow Google to show users new sites in results lists that are more likely to fit the nature of the searcher. This would generally improve the quality of new sites being discovered.

Making enough changes to produce high quality results would could put a big dent in advertising revenues.

The race is on in terms of who will do the best job integrating social graphs and networks into filtering information and search results.  One likely outcome is that search traffic will spread out more evenly among more players and be less concentrated in Google. It’s already more natural to search Yelp if you are looking for restaurant reviews, Amazon if you want to buy a book, eBay if you want to buy a used motorcycle, Foodily if you want to find recipes, and Craigslist if you are looking for an apartment.  This trend will continue and erode some of the power Google has in the market.

Time for a New Search Engine

Internet content management will be an unending cycle of massive undifferentiated expansion followed by the tools and attenuation need to turn it into real intelligence.  Recognizing that it’s a cycle scientifically and realizing that business models end up getting embedded into the existing players means that starting a new search engine company is a good idea.

However, “search engine” is probably not the right term and should be replaced with something more active like “content finder” or, more charmingly, “librarian.”

As noted, users are already searching on individual sites that tend to offer either the general content they like (as in National Public Radio or The Economist) or better answers to specific questions (like Yelp for restaurants and Amazon for books.)

There’s a “curation” craze on right now that should die out and be replaced by intelligence based on actions (bookmarks) and relationships (social networks) that can scale more effectively.

This is a huge global market that offers extremely high returns on invested capital.  Why aren’t we seeing more investment in better information finders?  We’ve seen a few like Blekko and Wolfram but there should be more.  It turns out it only costs about $25M to create a fully functioning, scalable search engine.  Adding some intelligence to the results and offering improved results would create a large multiple of value on that investment.

There are also some existing companies that deserve a second look.  For example, a search property like InfoSpace (INSP – $8.54) has a small market share but enough of a presence to do something interesting in this market and improve their fortunes.  Other companies like Oracle, IBM and HP are in a strong position to create technology and online services that rival Google.  We’re due for a little disruption in search.

[Disclosure: None]

Related articles

• How Not To Be Influential? Quora Spam On Mechanical Turk (techcrunch.com)
• Is Quora Worth the Hype? (gigaom.com)
• Quora, Quora, Quora…but why? (ragtag.wordpress.com)

This is part two of  a longer note on internet content in general and Demand Media in particular.  The full report can be downloaded with this link: Demand Media Crapification.  Below is the section on DMD along with a link to our Intrinsic Valuation of $30.

The launch of the Demand Media IPO provides a detailed look at the massive machine whose purpose is to make money by serving content with a high affinity for advertisers and clicking consumers. First they figure out what people are searching for, intersect that with what advertisers are interested in, and then use a freelance team of thousands of content creators to write articles that will rank highly in search results and draw clicks on paid advertising links.

Although the company takes pains to demonstrate that they do, in fact, produce some decent content that provides complete and unique answers to some queries (like “how to draw a basket of fruit”), the vast majority is basically a page with a blurb of text surrounded by layers of advertising.

Fundamentally, Demand Media is an upgraded, well-capitalized and professionally managed version of other content farms. They are not trying to fool anyone with their statement: “Our Mission is to fulfill the world’s demand for commercially valuable content” (emphasis added). Demand Media brings more technology and resources to this enterprise than the myriad “small time spammers” out there but, in the end, they exist only to push out content that gets clicks. The content is cursory, sometimes cut and pasted from elsewhere, and all the time buried in piles of advertising. It’s certainly not the rich, high quality content users want.

Demand Media is a giant sensing and production engine. They collect and analyze a huge amount of data and then use their production engine, DemandStudios, to publish 4,000 “articles” per day from over 10,000 writers. The company lists articles like “how to become a stockbroker” or “how to look sexy in a bathing suit” that can be written in exchange for a $15 fee. Combine inane questions with uninformed articles by the masses and you have a recipe for a pile of insipid web pages. The last step insert ads on top, both sides, the bottom, and weaves them into the text to complete the exercise.

Of course, an elitist view of content can lead to missing some great investments. YouTube had plenty of garbage on it to start with. Many blogs and instant messaging traffic streams can be just as content-light as Demand Media sites. There are also companies like I Can Has Cheezburger, which has been extremely successful by dealing unabashedly with sites that provide silly content. Their sites comprise a vast network of distracting and useless sites like LOLcats. There’s real money to be made online by giving people fun, distracting or entertaining content.

Unlike these other companies, however, Demand Media is not trying to entertain but instead to inform and do so with the sole intent of driving advertising clicks. This creates what can only be called spam.

Uninformed search algorithms like Google’s will return enough of these results to fill the first page or two of a screen. Most of the time it’s not obvious to users that the results are spam until they click on them. Google sees this as “Another happy user clicks on this link. We’re the best!”

Whether one is happy about what Demand Media is doing is beside the point from an investment perspective. Similar arguments were made concerning QuinStreet (QNST – $23) after their IPO, but in our view a year ago the shares were undervalued at $13. Demand Media has an attractive business even though we think innovations in search technologies may make parts of it harder to monetize. Our Intrinsic Valuation model for DMD suggests a $30 stock price.

QuinStreet took time to prove their model to investors. After a solid IPO early in 2010, the shares reached $17 only to fall back to $10 by the summer. Subsequently, however, the company has executed on their strategy and now the stock is more in line with their IV at $23. Last year we saw similar stock dynamics for Ancestry.com and Higher One Holdings.

In order to shed more light on what will help improve information content on the web, our next post will look at Quora, another player in the online content space that has been turning heads within the “tech-noscenti” and is beginning to enter the mainstream.

[Disclosure: None]

Although I started out to write a report on Demand Media this report ended up being more about the online content problem, Google, Quora and the prospects for new search engines.  The full report (PDF) is available here: Demand Media Crapification.

The report is a bit long for a single email or blog post so over the next few days I’ll post the three sections of content in order.  The first section deals with what’s behind an alarming decline in the general content returned from the Internet.

After 15,000 hours of hands-on research it’s clear that most of the easily accessed Internet content, particularly what is returned from Google search results, is crap. Although generally acknowledged by people in the hard-core knowledge worker segment, this viewpoint is now becoming main-stream.

So how did things get this bad? While advertising may be the “root of all evil,” how deep it goes depends on the conditions. The number and size of the forces at work here are prodigious. Here are some of the more technical and content-related forces:

“Search Engine Optimization,” or SEO, takes advantage of the algorithms Google uses to game the system. By relying on computers to rank search results, we invite the endless contest between those that find ways to outsmart the algorithms and the search engines trying to return valuable information. Google sometimes make changes to their algorithms in an attempt to foil current strategies but at the same time opens up other loopholes for exploiters to use. Another negative side effect is that these changes sometimes upset search rankings that were previously good in what amounts to a big reshuffling. Google has much better algorithms for returning search results but we are unlikely to see them implemented—more on that later.

Dumb Clicks: Generally, the more clicks some-thing gets the higher it ranks. It doesn’t matter if the clicks were of the “fooled you, there’s no real content here” variety. (See the attached example of a common top-ranked page.) Because people tend to click on something near the top of the results this crap keeps getting clicks. Even a senior search engineer at Google observing user behavior said: “How can you not see that this is a spam page and click on it?!” Time only makes this pattern worse as this type of content “crowds out” everything else.

Tricksters & Cheap Shots: One example of this category is alternativeto.net. In this case, someone must have noticed a popular search technique of using “alternative to” as in “alternative to Photoshop.” Suddenly most queries put in this way returned crappy results full of ads rather than useful information. There is a legion of mostly small-time operators that use domain misspellings and other simple ploys to capture traffic and a few clicks on “parked” domains. This class of problem is fairly easy to solve but still pops up from time to time again like a disease you can’t quite eradicate.

Content Farms: This is where players like Associated Content (acquired by Yahoo), About.com and Demand Media take the game to a new level. Content farms are harder to counter because they invest some money in “real” content to insert themselves into search results. We’ll save the analysis for the following section on Demand Media. Content farms may seem beneficial compared to the SEO villains and tricksters but that’s what makes them insidious.

Syndication: Many sites are so desperate for con-tent they are willing to syndicate just about any-thing. Because they are often following some of the same SEO strategies and now provide even more links to the original content source, the ranking and ubiquity of a lousy piece of content solidifies like a plaque to block normal information flow.

Filter Failure: “Leakage” is when something that is supposed to protect us from garbage content begins to break down. Even paid-for services like CapitalIQ rely on automated filtering and eventually get penetrated by spam content that corrupts the feed. This is just another factor suggesting that effective filters in the future will require some level of human validation even if it also is automated. Some of those methods are described in the final section. (See this related video from Clay Shirky.)

Two other more anthropological factors play a major role in the drive to lower quality content:

Recency bias: Good content has long been pushed out of focus by inferior versions be-cause they are newer. This is true in long-standing categories like movies and books. While freshness has a value it ends up being counterproductive in many cases and results in a “reinventing of the wheel” in the case of factual, well reasoned and documented content. Good content is often not “sticky,” fades away quickly, and becomes hard if not impossible to find. Wikipedia is one example where this is not the case which is why so many people search it explicitly.

All clicks are not created equally: There’s a strong inverse relationship between intelligence / expertise / judgment / insight and the tendency to click. On Google “a click is a click,” so content gets driven to the lowest common denominator. Steve Jobs probably makes fewer, more informed clicks and online decisions than Paris Hilton—but Paris and her ilk are what drive content rankings.

Solving some of these problems is actually easier than it would first appear, because harnessing the power of human behavior and adding more available information to the analysis can lead to excellent results. Next we’ll look specifically at Demand Media, the gorilla of the content farms.

[Disclosure: none]

Related articles

• Why Google and Demand Media Are Headed For a Showdown (gigaom.com)
• Blekko Bans Content Farms Like Demand Media’s eHow From Its Search Results (techcrunch.com)
• Search Still Sucks (techcrunch.com)

The platform war regarding Adobe Flash seems to have ended without a struggle. Adobe can thank Steve Jobs and Apple for making the end short and sweet. The past few months have been filled with intense debate and technical analysis of Flash versus HTML 5, but at a high level it boils down to the fact that Flash is old and HTML 5 is new.

From a personal standpoint I’ve always found Flash to be mildly annoying as applied to most websites (do I really need to watch animation to find out if the place is open on Mondays?) and fairly complicated to implement. However, for some applications Flash creates very impressive and easy to use presentation and navigation services. But the learning curve is steep and of course one has to pay Adobe for the privilege.

Flash would have probably stopped growing and more gradually faded as a deployment technology over time. Apple and the letter from Steve Jobs made the process happen faster and more crisply. Not everything that is outlined in the letter is strictly true but the veracity is enough to be conclusive for most readers.

So what does it mean for Adobe?

It will be important for Adobe to accept and embrace HTML 5, as many infrastructure and content providers are doing. They will gain nothing by being opposed to it. I think of HTML 5 as just another visual rendering method. Flash has more in it but that doesn’t mean content and applications can’t use HTML 5 instead. So Adobe should end up being part of the solution rather than a problem if they are smart about it.

Flash is also only a small part of what Adobe offers today, so the sooner the focus shifts off Flash and to the larger set of products in the Adobe Creative Suite (Photoshop, Illustrator, Designer, Acrobat, DreamWeaver, etc.) the better. Adobe also has an under-appreciated franchise in the enterprise with LiveCycle and some collaboration products.

As for Flash and Adobe Air, they will continue to be of interest to developers who want to build applications that run across platforms. Although Steve Jobs rests his argument in large part on the inefficiency of not writing directly to a specific platform, the fact is the cost of supporting multiple platforms is very high and for many applications the differences between platform-specific implementations might be slight anyway.

From a stock standpoint, Adobe (ADBE) is trading at a discount as investors digest all this controversy and try to measure how much impact it will have on the Adobe business and/or the multiple afforded it. I’d say the current price represents some extra value for investors since it makes the upside to our Intrinsic Value estimate of $42 pretty attractive.

As long as Adobe management seizes the opportunity they have to take a leadership role in helping the creative world move forward with more powerful tools like CS5 and with support for new standards like HTML 5, stockholders are likely to be rewarded from current levels.

[Disclosure: The R2 Model Portfolio has long positions of both Apple and Adobe as does the author at the time of this writing.]

Last week we published our March Thought Leader Interview with Arthur Kroeber, an expert on China and Managing Director at Dragonomics Research & Advisory. It offered some real insights into China from political, economic, technological and practical perspectives.

In addition to several ideas that I expected I found some surprises and excellent long-term considerations including:

1. China already has the cleanest coal burning technology and will extend their lead because that have so much coal.
2. There’s really not much business at stake for Google in China, it dwarfs what they have to lose from a lost of trust if they don’t do the right thing there.
3. A very big looming question is whether or not the government can make the trade-off between control of the financial system (which they rely on to control the country) and greater efficiency and long-term growth.
4. Electric vehicles seem like they would be a natural fit for an increasingly urban China but lack of any garage or home charging space means that most of the growth will be in the form of public vehicles.
5. The real technology know-how continues to exist only in Taiwan and this is likely to be true for a long-time to come.
6. Demographically China will begin to see the number of new workers decline each year. It will still be a big number but it will put upward pressure on wages (increasing consumption) and drive increases in efficiency.

There is plenty more where that came from in the report and as usual the picture of China from afar is way too simplified to be useful. Only by digging in and seeing the details can any useful predictive picture emerge.

R2 Members received this report via email last week and it is available online in our research library.

Research 2.0 basic membership is free subject to approval. Sign up here to join. Additional fee-based research and services are also available.

[Disclosure: None.]

Google is in the news again in a not-so-favorable light due to continued scrutiny and actions in Europe. We have written about this a few times (see Related Posts) and we have acknowledged it more as a nuisance so far.

However a recent post over at Taylor Frigon discusses the shifts that occur for large industry players over time and suggests that the “topple rate” for the kings of the hill may be increasing.

In the last few week or so I’ve been thinking about some other long-term and big picture technology company shifts and some of the conclusions made me become incrementally worried about Google, at least in terms of what multiple to apply.

The key exploration that started off my line of thinking was IBM versus Sun Microsystems. IBM has faced some very serious shifts in their business and has managed to deal with them quite effectively although in most cases over a multi-year period.

We were at IBM for the shift into professional services. It was a very hard sell at first. Few, if any customers, felt that IBM could be objective. But IBM brought in senior executives that understood the services business and perhaps most importantly they changed all their employee incentives to drive behavior. In the ensuing 10 years IBM built a huge, top quality services business that also helped them add to their software empire as well.

There were many major changes at IBM over the past 20 years including exiting the PC business and becoming an OEM supplier but the point we are left with regarding IBM is that they understand two things as deeply as any player in the market: technology and the enterprise business. (we will come back to this vis a vis Google and Apple)

What about Sun Microsystems? They famously didn’t make it despite their technology acumen and massive business success in the late-1990′s. We know that Sun didn’t understand software or services at all but they took the further step of deciding that they wouldn’t bother to learn about it either. So Sun soldiered on in a battle where the terrain, weapons and methods of fighting all changed but Sun didn’t. That’s why the story ended the way it did in contrast to IBM.

I’d say the critical problem at Sun was that they only understood technology deeply, and even then it was mostly hardware and server technology. Sun didn’t see things from an enterprise perspective. Nor did they have any consumer expertise. So at a very high level Sun was actually a feature and not a company. It sounds glib but I don’t think it is.

Sure but that’s all ancient history now. What does it have to do with Google?

In looking over the landscape of companies we follow and have in our R2 Model Portfolio company management and culture is a key aspect of our investment process. In fact since it factors directly into the multiple investors should apply to future results it’s perhaps the most important one.

Broadly speaking we’d say that Apple is a company that understands technology, both software and hardware, as well as any other company in the world. However they couple it with a design and consumer focus that is allowing them to gain market share in multiple areas all at the same time. Obviously their overall company execution in terms of margins, delivery, their retail operations has also been top-notch. So Apple deserves a higher-than-average multiple.

I’d be willing to say that Google understands the Internet better than any other company. This includes aspects like Cloud Computing, Open Source and Mobile Internet to be sure. They have exploited this so far with search and advertising. Fortunately for Google this is a massive, rapidly growing and high-margin market.

But what else?

Google does not have a deep appreciation for the enterprise or consumers. The success of something like Gmail or Google Apps has more to do with it being good technology offered for free or near-free rather than any great insight, marketing or design on Google’s part.

Results on the consumer side of their business are decidedly mixed at best. Wave was a dud. Buzz was a fiasco. Nexus One is a proof-of-concept more than anything else and we expect companies like Motorola to make Android a success.

Again Android will succeed based on the fact that Google has delivered a high-quality, open technology platform for free.

Many of you may be saying “duh!” at this point. That’s who Google is! But I’m not sure if investors completely understand that the leadership and culture at Google may not serve them well as they move into new markets and start to compete with companies like Apple and IBM.

To me it argues for a some tempering of long-term growth expectations and the multiple applied to future results. We still “like Google” and rank them high in our coverage in many areas including Cloud Computing, Mobile Internet and even RealVR thanks to Google Earth, Maps and SketchUp.

Related Posts:

Worries on Google International Materialize…

Is Google International Growth in Jeopardy?

Also for people who want to read a full report on Google we published Google: Media Moguls or Technology Gurus in February, 2008. It’s available in the research library for members and also online for a small fee. Click here to purchase.

[Disclosure: The R2 Model Portfolio has a long position in Google at the time of this writing.]

Back in September we wrote Is Google International Growth in Jeopardy? and today our fears came one step closer to being realized with the news that France is now seriously looking at a tax on the advertising revenue collected by companies like Google in France.

This isn’t as strange as it seems. The success of companies like Google means that foreign countries are in fact seeing billions of dollars of revenue effectively sucked out of their economy. Many of these countries, France included, see this situation becoming untenable. At the same time these governments are spending vastly increased sums of their own money on Internet infrastructure including broadband and content. If they are spending billions on these improvements only to see Google reap the reward without even paying a tax.

I think it’s highly likely that countries will impose a tax of some sort on this type of business activity. At least in the most extreme case for local advertising on www.google.fr for example. As long as the tax is reasonable it’s not going to be a disaster for Google but it will reduce their margins a little bit. The magnitude depends on the number of countries that decide to adopt such a stance.

These debates have been around for over a decade and started with the desire for states to tax sales of physical goods via online channels like Amazon.com. The problem today is that the numbers have become *much* larger. At the same time local economies are struggling and to some, albeit small, degree the loss of local revenue to global companies like Google is part of the reason. The truth is it’s more like salt in the wound created by the financial crisis, economic slowdown, high unemployment and lower property values.

It’s easy to decry government interference and avarice here but it’s not possible if at the same time everyone wants the government to subsidize “broadband for everyone” and other technology infrastructure improvements.

Google might think about taking a more constructive approach than companies like Microsoft, Oracle and Intel have in the past. Maybe a better solution would be to actually help countries like France instead of fighting them? For example the French government is ramping up a very large set of spending initiatives that will in fact help Google quite a bit. What if Google came forward with a contribution of expertise and some small revenue share to focus on developing the French online technology industry?

Google may or may not realize that this is closer to what Microsoft is doing in places like France and it’s effective. Google is powerful enough to lose some of these battles and it won’t necessarily impact the stock price in the short term. But at the same time it wouldn’t take a huge effort for Google to turn the situation in their favor or at least to neutralize what could be a stinging development if it is allowed to gather momentum.

[Disclosure: Google is part of the Research 2.0 model portfolio.]

Thanks to Google this week already started off with a focus on the real-time web, based on mobility and new devices with sensors, cameras, microphones, HD displays and speakers.   On Monday Google presented a slew of new features and technologies aimed at improving search by location, by voice, and by sight.   When combined with enhanced real-time search, one that includes a variety of content from sources like twitter, location-aware applications and fixed search content, the real-time web becomes a much richer experience than what we have known so far with things like IM and SMS.

Tomorrow and Thursday we will be attending Le Web 2009 in Paris who has chosen “real time web” as the theme.  As with all Le Web events there is a fairly diverse range of content across three different programs but the usual suspects (Twitter, Google, Facebook) will all be in attendance and elaborating on real-time as the latest “mode” of web development.

We wouldn’t put “real-time” as a true facet of technology as it relates to our work.  Latency has been a key factor in technology usage for thirty years.  We did include an analysis of this and other features for what we view as the ultimate Internet architecture in our February 2007 research monthly (pdf).  IBM funded many studies that demonstrated the dramatic increases in productivity and value that came from “sub-second respond time” as we called it back then.  As with many things on the web and in the cloud old things are new again.  What’s new now is the ability to deliver instant responses across applications, networks, distances and devices.

What’s so powerful about this notion today is the richness that can be brought into the realm of real-time use: People, places, things, and all related information in one place and current to within a few seconds ago.  As we’ve written before the initial oohs and aahs of insight will be coming from so-called augmented reality and real-time social networking applications on the iPhone and the like.

From an investment standpoint we continue to focus on the mobile segment of this space with companies like Apple, Google, Research in Motion and Motorola being the ones to own.  Based on our IV work it seems that Research in Motion has the most near-term upside here.  RIM is also too strategic to not be acquired by someone like Microsoft, HP, or IBM.

More broadly we know that cloud-based GPU computing is already in early deployment which will add yet another growth story for both Nvidia and AMD.

If it feels like just the beginning it’s because it is.  There are many more related themes to this trend as it develops ranging from wired and wireless bandwidth, content, devices, cloud services and infrastructure, new software infrastructure and on and on.

Thanks to the exponential pace of technological advance and our linear perceptions, we know that many of these advances will seem to happen “all of a sudden” in the next few years.

For more information on the Google Search briefing there is a summary here on TechCrunch.  More information on the Le Web 2009 program can be found on the Le Web event website. The events on Wednesday and Thursday are supposed to be available via webcast.

[Disclosure: Research 2.0 has model portfolio positions in Google, Apple, Research in Motion and Nvidia.]

We were not fully prepared for the sharp sell-off in Baidu stock on Tuesday when BIDU opened up in the $360 range, down from the $430 level where it closed on Monday.  As the Google of China the stock has a short and compelling positioning that many would say make it a “must own” kind of name.  Of course it trades at a high valuation based on conventional metrics.

This was a perfect time to put our Intrinsic Value (IV) model to work.  Our IV for 2010 came to $496 which is what we tend to use to capture a one year return view on a stock.  With current trading around our 2009 value of $372 it was a perfect opportunity to add shares to the model portfolio.

After we completed the work and added in some other factors our conviction level became quite high.  BIDU has a TEV a bit above $14B.  Compare that to Google with a TEV of $153B.  Of course Baidu is at an earlier stage of development but they continue to dominate search in China.

Unlike other parts of the world China is not going to let Google get a majority market share there, not unless the revenue stays in China.  The Europeans have realized first hand how devastating it can be.  Today billions and soon tens of billions of advertising dollars will be flowing out of Europe and into the US-domiciled Google.  Nobody in Europe is happy about it and the concerns are getting more acute.

Although China is a puzzle of good and bad the fact is that Baidu is in a very strong position to grow into higher valuations even from our current IV of $496.  At current growth and profitability trajectories the shares will be over $600 in 2011.

Google has transitioned through some different versions of their online system before and even guided investors to very low “seasonal” results in some past summers.  Post these short-term cautions the stock has done extremely well.  These are companies that have massive secular growth trends firmly in their grasp.  When the IV is attractive these stocks should always be on the top of your “buy list.”

Although the shares have bounced we are not suggesting we know where they will trade in the short term.  Only that the company is worth $496/share in the next 12 months and $650 per share in the next 24 months.

[Disclosure: Our Research 2.0 model portfolio added BIDU as a position yesterday.]