People often ask me what stocks I own. My investing advice is simple: I only invest in unregulated monopolies. They aren’t supposed to exist, but our antitrust laws were written in the era of steam engines, and enforcement has been nonexistent. Big tech is the twenty-first century version of John D. Rockefeller and Andrew Carnegie, and there is no trust-busting Teddy Roosevelt on the horizon to rein them in.
How have they done it? The algorithm is this: innovate, obfuscate, and exploit. Especially in a pandemic.
Put simply, COVID-19 has been an effective weapon of mass distraction from big tech’s bad behavior. No news story survives 12 hours while a pandemic coupled with a national display of incompetence renders everything else what it is, less important. But whether we are paying attention or not, unchecked growth and market dominance lead to a slew of problems. Inevitably, companies without serious competition become less innovative and capture more profits and share from exploiting their position, and less from creating real value. And to protect that position, they perform infanticide on other innovators.
No wonder that Amazon, Apple, Google, and Facebook have added hundreds of billions in market value since March. By virtue of being the biggest elephants in the herd, the Four are well positioned to survive any crisis, and to thrive when the rains return. And a pandemic that keeps us home in front of our screens and leaves the professional class with plenty of unspent income is hardly a crisis at all for the companies that sell us those screens and dominate what we do on them. The Four were already ascending to dominance, and the pandemic has accelerated that trend, just as it has so many others.
Amazon’s core competence is vision and storytelling. Bezos had the vision of selling everything online when that was unthinkable. An even bigger feat, Bezos and his team accomplished something unprecedented—they convinced investors not to expect short- or medium-term profits. While most firms’ profits are reevaluated every three months on their quarterly earnings call, Bezos has retrained investors’ Pavlovian mechanisms, replacing profits with vision and growth. Key to this decision was CFO Joy Covey, who recognized the best way to predict the future is to make it. And the best way to make the future is to gain access to cheap capital to pull the future forward with extraordinary investments others won’t make, resulting in moats, which give you access to cheaper capital . . . and so on and so on. While most firms look for competitive advantage via lowest cost, Amazon looks for sustainable advantage that requires gargantuan investment.
The obvious beneficiary from the lockdown (the closure of retail and a fear of leaving the house) is—surprise!—the company that’s in the business of bringing retail to your house. And though it gets less general media attention, Amazon is also a huge beneficiary of people spending more time online, thanks to Amazon’s $40 billion Amazon Web Services division. Indeed, the federal government’s $1,200 stimulus check program should have been called the Amazon Shareholder Support Act (ASSa). Not in their wildest dreams could Amazon shareholders devise this scenario: the government closes down the competition, restricts everyone to their homes, and then sends consumers trillions in cash. How do they not come out of this with so much momentum that competitors never catch up? Investors will ask themselves, why shouldn’t I just buy Amazon?
The pandemic in a business nutshell:
- Stuck at home
- Hate my spouse
- Starting to hate my children
- Jeff Bezos gets his divorce paid for in 30 days
By achieving a business paradox—a low-cost product that sells for a premium price—Apple became the most profitable company in history in 2014. Leaping from the tech sector (low margins, zero sex appeal) to the luxury sector (the volumes of Toyota with the irrational margins of Ferrari), Apple owns the most profitable product ever made, the iPhone, and sells it through the highest per-square-foot retail business of all time, the Apple Store.
Yet even just a few years ago, a pandemic would have put Apple’s status as a member of the Four at serious risk. Apple has always been unique in the group, as it manufactures and sells physical objects for profit. A slowdown in employment and worries about economic prospects force greater scrutiny on every purchase. However, firms that ask the consumer to make one decision a year, or until you decide to opt out or cancel, are much more resilient, as it is often a bundle, increasing the exit costs across fewer decisions. In addition, the ability to ask the consumer to enter into a monogamous relationship (a subscription) requires a choice that is more of an IQ test than a decision. The recurring revenue bundles that get attraction are forced to be incredible value propositions from the outset. Recurring revenue bundles are expensive, hard, and enduring.
As Apple ran up against the law of big numbers, the firm invested heavily in recurring revenue offerings—iCloud, Apple Music, Apple TV+, Arcade, etc. In Q4 2019, Apple’s services revenue was up 25% year over year to 23% of revenue. As a result, Apple has been recast as a software firm, and despite a negligible increase in earnings, it doubled its valuation and P/E multiple in just 12 months. Apple’s services business would stand as the 258th company on the Fortune 500, just beating out Bed Bath & Beyond. And on the hardware side, the company is transitioning one-off sales of its flagship iPhone into a monthly service through the iPhone Upgrade Program. Tim Cook said he believed that model would “grow disproportionately.”
This was a strategic move before the pandemic—now it’s gangster. That revenue is substantially immune to short-term pandemic disruptions and can cover for softness in the core hardware businesses.
Google and Facebook
Two of the Four are in the advertising business, and traditionally advertising is a lousy business when the economy goes south. This time is different, because even though we are seeing a dip in ad spend, the timing is such that it will rebound to Google and Facebook’s benefit. They can survive the downturn. Many of their traditional media competitors, already on the ropes from two decades of being on the wrong end of a duopoly, won’t. COVID-19 has a mortality rate of around 0.5–1% among people, but the pandemic is going to have a fatality rate of 10–20% in traditional media.
This is a function of weak balance sheets and investors who have lost patience—the same culling we can expect in most industries. Also, being trapped at home increases inventory for Facebook and Google advertisers. Yes, you are “inventory.”
Beyond that, traditional media faces another challenge: the pandemic is highlighting their truth. Facebook and Google are simply more effective platforms for advertisers, and the truth will become increasingly apparent as even the biggest advertisers start cutting spend on traditional media. They won’t miss it. No other platform can offer the combination of scale and granularity that Facebook and Google provide. They are the most effective advertising vehicles in history and, at eight million advertisers, Facebook has the most elastic, self-healing customer base in business history.
Advertisers also won’t miss traditional media, since the thing traditional media advertising does best—build mass brands—is increasingly irrelevant as we graduate from the Brand Age to the Product Age. There is a double bind here, because brand equity erodes slowly, and a few months of reduced spend isn’t going to move any needles. Which will make it that much harder even for marketers still attending the church of brand equity to justify returning their traditional media spend to pre-pandemic levels.
The other benefit for Facebook and Google is the distraction. Pre-pandemic, these two firms were in the news cycle more often, for all the wrong reasons. From ISIS recruitment videos and pedophiles on YouTube to Russian operatives and data thieves on Facebook, the drumbeats for a regulatory response were building.
Then the pandemic happened. And as long as testing, masks, and infection rates continue to dominate the news cycle, they will dominate politics, and Google and Facebook get a reprieve from public scrutiny. However, the business model remains intact, benefiting from conspiracy theory content the pandemic has spurred. Both firms have made an effort to limit misinformation about Covid, but the rage and alienation that powers their endless feeds continues unabated.
Summer 2020 saw a feeble attempt by well-meaning advertisers to push back against Facebook, but it was predictably over before it started. Around one thousand advertisers publicly pulled their ad spending on Facebook in July, joining a campaign organized by civil rights groups in protest of Facebook’s continued promotion of hate speech and misinformation.
The difference in spend was measurable but meaningless—the company still grew its year-over-year ad revenue by 10% in the first three weeks of July. Zuck scoffed at the threat on the firm’s July 30 earnings call, saying that “some seem to wrongly assume that our business is dependent on a few large advertisers.” Indeed, Facebook has over seven million customers, and the top 100 account for only 16% of its revenue.
Meanwhile, the boycott may have backfired on the advertisers. Not only did they lose the business their Facebook ads would have brought in, but their absence created a void for counterfeiters and scammers to fill—because Facebook ads work on an auction model, reduced spend means reduced prices. Analyst Matt Stoller reported on a luxury shoe company that participated in the boycott, only to see ads for counterfeit versions of their shoes pop up where their own ads would normally have run. With eight million advertisers, and a model that creates immediate opportunity for others when one reduces spend, Facebook possesses the most robust (self-healing, even) customer base in the history of business.
Standing up against the Four
Pushing back against this growth is difficult—there is little that individuals or even companies can do when firms become this powerful. This is the role of government. But big tech has public opinion on their side, hundreds of lobbyists, and they move faster than regulators can keep up. Laws written by the light of coal power don’t work against digitized monopolies. Traditional antitrust principles focus on consumer harm through the prism of prices. Low prices are good, high prices are bad. It’s not a framework well suited to companies that don’t charge consumers, like Google or Facebook, or that relentlessly lower prices, like Amazon (and Apple with Apple TV+), but that nonetheless limit competition and cause consumer harm in other ways besides high prices. Nor does the current mainstream antitrust framework account for the ability of these firms to consolidate markets and outcompete competitors through their unique access to billions in low-cost capital.
But we should stop thinking of the breakup of big tech as punishment for doing something wrong, or that it means tech leaders are bad people. Managers do what they can to raise shareholder value, that’s their job. And when you get big enough, stifling competition and exploiting your power is a great way to secure short-term gains for your shareholders, so that’s what managers do. Antitrust is just one tool in the government’s kit for finally pushing back.
Adapted from POST CORONA: From Crisis to Opportunity by Scott Galloway, in agreement with Portfolio, an imprint of Penguin Publishing Group, a division of Penguin Random House LLC. Copyright © Scott Galloway, 2020.