What’s Google’s Value?
Google’s chief economist, Dr. Hal Varian, has been making a push in recent months to quantify Google’s value to advertisers and users of its search engine. By ‘value’ he doesn’t mean ‘market capitalization’. Market cap is simply the combined cost of all outstanding shares in a company at their current price. You can look that up at any time right on Google Finance’s website. At the present, this value is about $190 Billion.
By value, Dr. Varian is referring to the amount of sales generated by Google’s search engine and the value of the time it saves users in not having to make a trip to the library. He claims these combined values are $119 Billion per year. In a study in the summer of 2010, Google claimed that their value to advertisers was $54 Billion per year, and now Dr. Varian claims the value to users is $65 Billion per year, for a total of $119 Billion per year.
Dr. Varian has shown that, in economic equilibrium, an advertiser should be willing to pay Google about half as much as they would have otherwise made in profit. Google made about $26 Billion in 2010 from showing advertisements, therefore, the economic activity they generated, the reasoning goes, was about $54 Billion.
When a Google ad matches a seller of sweaters to someone who buys $100 worth and Google gets paid for that traffic, Google is claiming that they are responsible for all $100 of the sale. In doing so, Google is taking credit for someone else’s work. A portion of that sale gets paid to the manufacturer for the making the sweater, a portion to the retailer for storing it and handling it, a portion to the post office for shipping it, a portion to the web hosting company for running the website, a portion to the electric company for keeping the lights on, and so forth. And Google is getting their fair share too, in the dollars paid for each click on advertisements. Each player gets paid in accordance with the value they create.
Now, Google is also claiming that they generate $65 Billion per year for users in the form of time saved looking for information. Their search engine is free to use, but must obviously be worth something to people (or else they wouldn’t use it). How much is it worth? Dr. Varian estimates it saves 3.75 minutes per person per day, at an average wage of $22 per hour, for a total of $65 Billion per year.
Again, Google is taking credit for someone else’s work. There is no doubt that Google provides great search results, but the key to providing great results is for great results to exist in the first place. When Google finds you a well-written page of economic data that’s very useful to you, it’s the author of that page who deserves the credit for the quality of that page, not Google. Google’s search engine is providing value by helping you find that information for free, but how much? Because Google is free to use, it gets many more users than it would if people had to pay directly for each search they did. That is, giving away free searches are an integral part of getting people to click on the paid ads when their searches have commercial intent. Just as sleeping 8 hours a night is key to having 8 productive hours during the day, giving away free results is key to getting people to click those ads when it suits them.
So, what is Google’s value if not $119 Billion? Google claims that both their AdWords advertising system and even their natural search listings are free and fair marketplaces. The per-click prices in AdWords are not chosen arbitrarily by Google; they are determined through an auction-like process designed to encourage advertisers to be ‘truthful’ in how much a click is worth to them. Similarly, the natural (or ‘organic’) search results are determined by an algorithm based largely analyzing the interconnectivity of webpages. Each link an author of a site gives to another site is essentially a ‘vote’ by the author of the source page vouching for the quality of the target site.
In a free and fair marketplace, each agent in the long run gets paid in accordance to the value they create. If you are getting paid far more than you’re worth, you’re swindling someone and it is in their incentive to stop paying you so much. If you are receiving far less than you produce, you’re getting taken advantage of, and it’s in your best interest to hold out for a higher payment.
So how much value is Google creating? It turns out, we can just check Google Finance after all. Google’s 2010 revenue was about $29.3 Billion and their profit margin about 30.1%. So they consumed about $20.5 Billion worth of labor, computer equipment, electricity and so forth to generate that $29.3 Billion in value.
Thus, Google’s net value to advertisers and users is simply $8.8 Billion per year. (For comparison, the electricity company National Grid had a value of about $1.27 Billion in 2010, and FedEx about $1.32 Billion, making Google about 6.66 times more valuable than them.)
If a number like $8,800,000,000 per year sounds small to you, keep in mind that Google does not create any content. They do not produce the products nor deliver the services advertised on their site. They are simply a matchmaker (like real estate agents who act as property “finders” or Washington power brokers who demand a fee for putting you in touch with someone who can solve your problem) matching you to products, services or information someone else created. There is a value to that, obviously, but if that value was $119 Billion per year, then Google’s market capitalization should be in the Trillions, not $190 Billion.
So, either Google is a free and fair marketplace and therefore they are getting paid what the net value they create, $8.8 Billion per year. Or, Google’s value is $119 Billion per year and Google is only capturing a small fraction of the value they, as a publicly traded company, are legally required to do. My question is: Which one is it, Dr. Varian?