Apple vs. Google

How the battle between Silicon Valley's superstars will shape the future of mobile computing

January 14, 2010, 5:00PM EST

By Peter Burrows

On Jan. 5, Google (GOOG) did a very Apple-like thing. In a presentation at the Googleplex in Mountain View, Calif., the 11-year-old search behemoth unveiled Nexus One, a stylish touchscreen smartphone that runs on the company's Android operating system, is sold through a Google-operated retail Web site, and greets the market with an advertising tagline ("Web meets phone") as simple and optimistic as the one Apple used in 2007 to introduce its iPhone ("The Internet in your pocket").

On the same day, Apple did a very Google-like thing. Steve Jobs, the king of splashy product launches and in-house development, announced a strategic acquisition. For $275 million, Apple purchased Quattro Wireless, an upstart advertising company that excels at targeting ads to mobile-phone users based on their behavior.

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The key battleground in the near term is mobile computing. Analysts who once tingled when talking about the Internet are getting that same old feeling over mobile's potential. Morgan Stanley's (MS) Mary Meeker predicts that within five years more users will tap into the Internet via mobile devices than desktop PCs. Desktop Internet use led to the rise of Google, eBay (EBAY), and Yahoo, but the mobile winners are still emerging. "Now is the time to get going," says Doug Clinton, an analyst with Piper Jaffray (PJC). "It's about winning the battle today rather than getting into the fight tomorrow." Billions of dollars are up for grabs in selling phones, software, and services.

The money in mobile advertising is small—about $2 billion last year, according to researcher Gartner, compared with $60 billion for the overall Web. But figuring out how to make mobile advertising more profitable is a lot more important than merely getting in as the hockey-stick curve begins to move upward. A company that can nail mobile ads and share the wealth with the growing legion of app developers—freelance software writers who create all those sometimes-useful (Business Card Reader), sometimes time-killing (Flick Fishing) mobile programs—could pull in the best of the lot. Create the strongest ecosystem of apps and devices, and, the thinking goes, you leave rivals gasping to keep up. "The mobile platform that creates the most ways to make money wins," says David Hyman, chief executive of MOG, an Internet music service that's developing mobile apps.

Apple has a substantial lead in establishing this ecosystem. Developers have created more than 125,000 mobile applications for Apple devices—seven times as many as exist on Android—and the endless diversity of apps has helped the iPhone quickly pick up 14% of smartphone share, compared with 3.5% for all the Android-powered devices put together, according to estimates by the market research firm IDC. But in the past few months, an increasing number of app developers have complained that they couldn't make money on their work. Free apps have become the norm, and very few sell for more than 99 cents. Some developers have profited by embedding ads in their apps, but the payments tend to be insignificant since the ads are usually smaller, less effective versions of their Web banner forms. According to a source familiar with his thinking, Jobs has recognized that "mobile ads suck" and that improving that situation will make Apple even harder to beat.
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Yet mobile search hasn't taken off. Gartner estimates that $924 million was spent on mobile search ads worldwide last year, less than 2% of overall Internet advertising. The problem is that user behavior isn't consistent between desktops and mobile devices. Many people shy away from calling up minuscule search bars on their phones and pecking out queries using cramped keyboards. Search ads tend to be less effective, too, since people are reluctant to give over the one browser screen they have on a phone to an ad. In many cases, apps are far more effective; it takes fewer steps to find the best local sushi joint using apps from Urbanspoon or Yelp than to type out "best local sushi" into a search bar and navigate the results. "Eric Schmidt has said that the search problem is 99% solved, but, boy, is that self-serving," says Jonathan Yarmis, research fellow with the consulting firm Ovum. "The fact that I have to go to a search bar at all is a sign of failure."

Apple has a vault of valuable data that can help drive an ad business. It knows precisely which apps, podcasts, videos, and songs people download from iTunes; in many cases it has detailed customer information such as credit-card numbers and home addresses. That gives Apple a chance to blend advertising and e-commerce in new ways, particularly after the acquisition of Quattro. The startup already works with advertisers, including Ford (F), Netflix (NFLX), and Procter & Gamble (PG), to help them figure out when and where to place ads on the sites of publishers, such as Sports Illustrated and CBS News. By tying Quattro's ad-serving technology into its own, Apple would be able to tell advertisers how often and under what circumstances a person clicked on particular ads. "Apple is one of the few brands that could actually go head to head with Google," says Kevin Lee, chief executive of search marketing firm Didit. The technology could also be used on the tablet computer that Apple is expected to introduce later this month.
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SAFETY IN NUMBERS

When Google introduced Android in 2007, the company said it would concentrate on developing the operating system software and let traditional phone manufacturers, such as Motorola (MOT) and HTC, make the devices. The strategy was similar to Microsoft's in personal computers, aimed at working with dozens of partners to attack every product area, geography, and demographic. "One or two devices don't matter," said Andy Rubin, head of Google's Android business, after the Nexus One event. "Twenty or thirty or a hundred devices, all running the same software—that's what matters."

Yet the arrival of Nexus One suggests that Google is concerned Android isn't gaining market share fast enough. "The volume, quality, and variety of Android phones in the market today has exceeded our most optimistic expectations," said Google Product Management Vice-President Mario Queiroz at the January announcement. "But we want to do more." The mobile market is so important that Google can't afford to depend on other companies for access; the Nexus One offensive, Google hopes, will establish a foothold in smartphones so the company can control its own fate.

Nexus One isn't without risk. Android hardware makers may balk at having to compete with their supposed partner. "If the Nexus One is any good, why would you buy anything else?" says Edward J. Zander, Motorola's former CEO, who is surprised Google would go so far as to enter the hardware fray. "At least Microsoft never built PCs."

Meanwhile, Google is aware of its vulnerability in mobile advertising and is pushing to make improvements. Schmidt believes mobile ads will one day be more important than PC advertising, largely because of personalization and localization. Although Google declined to discuss its plans for this story, Schmidt has floated the idea that eventually some mobile phones could be free for consumers, with advertising paying the bills. "If Google could do that, they'd be untouchable," says tech consultant John Metcalfe, who has worked with Google on mobile projects. "Apple wouldn't be able to come up with an answer for that."

Of course, Apple and Google could both end up thriving as computing goes mobile. But there will be losers. Microsoft is fading fast in smartphones as device makers shift attention away from Windows Mobile, which doesn't have nearly as many apps or developers as Android and Apple. Nokia, the world's largest mobile-phone maker, is struggling too; its Ovi online store toils in near-anonymity compared with Apple's iTunes store. Even Samsung and LG Electronics, Korean phonemakers long hailed for their advanced technology, are losing ground. "The older cell-phone makers never had to deal with software or software developers," says Shaw Wu, an analyst with Kaufman Bros. "It's just not in their DNA. [But] the world is moving that way."
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Meanwhile, nearly all the growth in search is expected to come from mobile devices, which Piper Jaffray predicts will account for 23.5% of all searches in 2016, up from less than 5% today. That sets the stage for a new main event in the tech sector. "This rivalry is going to accelerate innovation," says Andreas Bechtolsheim, a co-founder of Sun Microsystems and an early investor in Google. "Apple goes pretty fast, but having someone chasing you always makes you go faster. This is going to be good for consumers."