Why would an internet company hire someone who has played a key role in the world’s most impressive hardware supply chain? The response to that question could also provide an answer to one of the more intriguing questions hanging over some of the leading software and internet concerns: are they preparing a deeper push into the hardware business? If so, their business models and margin profiles could be in for a drastic change.
The internet company making the manufacturing hire is Google. The hiree is Simon Prakash, who had held the title of senior director of product integrity at Apple. According to Mr Prakash’s LinkedIn profile, that put him in charge of reliability engineering and product safety – a field in which he had specialised for more than two decades at a series of hardware makers. News of the appointment was broken on a Silicon Valley blog, VentureBeat, at the weekend and was confirmed by Google, though it would say nothing more.
That Google would have a job for the top product quality engineer from Apple’s high-volume global supply chain offers a tantalising glimpse into its plans. Key hires are one of the few ways to trace its strategic moves in advance: its 2005 hire of Andy Rubin, a smartphone pioneer, was the first sign of the ambitious Android mobile software push that followed.
One obvious conclusion is that, with its acquisition of Motorola Mobility pending, Google is bringing in some extra expertise to fill a gap. But with Apple at the top of its game, a hire like this shows Google is aiming very high and probably had more in its sights than Motorola’s patents, which were given as the main reason for the deal.
In tablets, Android is a distant second to the iPad. And the Android tablet widely seen as the one with the best chance of making a dent in Apple’s lead – Amazon’s Kindle Fire – comes from a company that is one of Google’s own arch-rivals. With Microsoft’s tablet-ready Windows 8 in the offing, Google needs to move fast.
But does it really want to trade one of the most profitable business models around to get into the low-margin consumer electronics market? The 65 per cent gross margin it notched up in the latest quarter still lags behind Microsoft’s 73 per cent, but its search advertising business stands alongside the Windows operating system as one of the most reliable and productive cash machines of the modern business world.
The answer lies in looking forward, not backward. Google is not in position to set the rules for the game that is developing. The need to keep people using its high-margin search engine, while also taking closer control over the integration of hardware, software and services to match Apple, has led others deeper into hardware.
Recent hardware successes at Amazon and Microsoft, for instance, cast something of a shadow over the most recent profit announcements from both companies. The emergence of the Xbox as the best-selling games console in the US has lifted revenues almost to the level of Windows, but at the cost of pushing Microsoft’s gross margin to its lowest level in several years. Meanwhile, the Kindle eReader has been one of the main issues weighing on Amazon’s profitability.
The question now is whether these moves presage a much deeper push into hardware, necessitated by Apple’s reinvention of mobile computing with the iPhone and iPad. Amazon’s Fire shows its ambition to move beyond eReaders to establish a platform for its full range of digital media and eCommerce services. Microsoft, meanwhile, has a growing self-confidence in its hardware abilities.
If a deeper hardware push is coming, then some will ride the transition more easily than others. Amazon approaches the battle with two advantages. It thrives on low margin businesses, whether that means price discounting on the internet or handling high-volume computing functions for other companies in its datacentres.
It has also conditioned Wall Street to expect frequent profit margin setbacks as it ploughs into new markets. It has gross margins of only around 20 per cent, and in its latest quarter it squeezed out an operating margin of just 1.5 per cent. For Google and Microsoft investors, on the other hand, the spectre of margin erosion remains a big concern.
As they seek to manage these business model transitions, all three companies will have one target in their sights: Apple, which alone among this group is enjoying margin expansion. With revenues soaring, its operating profits as a percentage of revenues expanded by eight percentage points in the latest quarter, to reach nearly 38 per cent – within a percentage point of Google and Microsoft.
Apple has proved hardware need not be the poor relation of tech. To catch it, its internet and software rivals will need all the hardware expertise they can get.
Richard Waters is the FT’s West Coast Managing Editor