The Curse of Culture

One of the seminal books on culture is Edgar Schein’s Organizational Culture and Leadership. Schein writes in the introduction:

Perhaps the most intriguing aspect of culture as a concept is that it points us to phenomena that are below the surface, that are powerful in their impact but invisible and to a considerable degree unconscious. In that sense, culture is to a group what personality or character is to an individual. We can see the behavior that results, but often we cannot see the forces underneath that cause certain kinds of behavior. Yet, just as our personality and character guide and constrain our behavior, so does culture guide and constrain the behavior of members of a group through the shared norms that are held in that group.

In Schein’s telling, things like ping pong tables and kegerators are two (small) examples of artifacts — the visible qualities of an organization. They are easy to observe but their meaning is usually indecipherable and unique to a particular group (to put it another way, copying Google’s perks is missing the point).

The next level down are espoused beliefs and values, what everyone in an organization understands consciously: “openness,” for example, or “the customer is always right”; as you might expect espoused beliefs and values devolve rather easily into cliché.

It’s the third level that truly matters: underlying assumptions. Schein writes:

Basic assumptions, in the sense in which I want to define that concept, have become so taken for granted that one finds little variation within a social unit. This degree of consensus results from repeated success in implementing certain beliefs and values, as previously described. In fact, if a basic assumption comes to be strongly held in a group, members will find behavior based on any other premise inconceivable.

The implications of this definition are profound: culture is not something that begets success, rather, it is a product of it. All companies start with the espoused beliefs and values of their founder(s), but until those beliefs and values are proven correct and successful they are open to debate and change. If, though, they lead to real sustained success, then those values and beliefs slip from the conscious to the unconscious, and it is this transformation that allows companies to maintain the “secret sauce” that drove their initial success even as they scale. The founder no longer needs to espouse his or her beliefs and values to the 10,000th employee; every single person already in the company will do just that, in every decision they make, big or small.

Microsoft’s Blindness

As with most such things, culture is one of a company’s most powerful assets right until it isn’t: the same underlying assumptions that permit an organization to scale massively constrain the ability of that same organization to change direction. More distressingly, culture prevents organizations from even knowing they need to do so. Schein continues:

Basic assumptions, like theories-in-use, tend to be nonconfrontable and nondebatable, and hence are extremely difficult to change. To learn something new in this realm requires us to resurrect, reexamine, and possibly change some of the more stable portions of our cognitive structure…Such learning is intrinsically difficult because the reexamination of basic assumptions temporarily destabilizes our cognitive and interpersonal world, releasing large quantities of basic anxiety. Rather than tolerating such anxiety levels, we tend to want to perceive the events around us as congruent with our assumptions, even if that means distorting, denying, projecting, or in other ways falsifying to ourselves what may be going on around us. It is in this psychological process that culture has its ultimate power.

Probably the canonical example of this mindset was Microsoft after the launch of the iPhone. It’s hard to remember now, but no company today comes close to matching the stranglehold Microsoft had on the computing industry from 1985 to 2005 or so.1 The company had audacious goals — “A computer on every desk and in every home, running Microsoft software” — which it accomplished and then surpassed: the company owned enterprise back offices as well. This unprecedented success changed that goal — originally an espoused belief — into an unquestioned assumption that of course all computers should be Microsoft-powered. Given this, the real shock would have been then-CEO Steve Ballmer not laughing at the iPhone.

A year-and-a-half later, Microsoft realized that Windows Mobile, their current phone OS, was not competitive with the iPhone and work began on what became Windows Phone. Still, unacknowledged cultural assumptions remained: one, that Microsoft had the time to bring to bear its unmatched resources to make something that might be worse at the beginning but inevitably superior over time, and two, that the company could leverage Windows’ dominance and their Office business. Both assumptions had become cemented in Microsoft’s victory in the browser wars and their slow-motion takeover of corporate data centers; in truth, though, Microsofts’ mobile efforts were already doomed, and nearly everyone realized it before Windows Phone even launched with a funeral for the iPhone.

Steve Ballmer never figured it out; his last acts were to reorganize the company around a “One Microsoft” strategy centered on Windows, and to buy Nokia to prop up Windows Phone. It fell to Satya Nadella, his successor, to change the culture, and it’s why the fact his first public event was to announce Office for iPad was so critical. I wrote at the time:

This is the power CEOs have. They cannot do all the work, and they cannot impact industry trends beyond their control. But they can choose whether or not to accept reality, and in so doing, impact the worldview of all those they lead.

Microsoft under Nadella’s leadership has, over the last three years, undergone a tremendous transformation, embracing its destiny as a device-agnostic service provider; still, it is fighting the headwinds of Amazon’s cloud, open source tooling, and the fact that mobile users had six years to get used to a world without Microsoft software. How much stronger might the company have been had it faced reality in 2007, but the culture made that impossible.

Steve Jobs’ Leadership

Shein defines leadership in the context of culture:

When we examine culture and leadership closely, we see that they are two sides of the same coin; neither can really be understood by itself. On the one hand, cultural norms define how a given nation or organizations will define leadership—who will get promoted, who will get the attention of followers. On the other hand, it can be argued that the only thing of real importance that leaders do is to create and manage culture; that the unique talent of leaders is their ability to understand and work with culture; and that it is an ultimate act of leadership to destroy culture when it is viewed as dysfunctional.

A great example of this sort of destruction was Steve Jobs’ first keynote as interim CEO at the 1997 Boston Macworld, specifically the announcement of Apple’s shocking partnership with Microsoft:

When Jobs said the word Microsoft, the audience audibly groaned. A few minutes later, when Jobs clicked to a slide that said Internet Explorer would be the default browser on Macintosh, the audience booed so loudly that Jobs had to stop speaking. When Jobs finally said the actual words “default browser” the audience booed even louder, with several individuals shouting “No!” It is, given the context of today’s Apple keynotes, shocking to watch.

Then, after Bill Gates spoke to the crowd via satellite (in what Jobs would call his “worst and stupidest staging event ever”), Jobs launched into what his biographer Walter Isaacson called an “impromptu sermon”:

If we want to move forward and see Apple healthy and prospering again, we have to let go of a few things here. We have to let go of this notion that for Apple to win Microsoft has to lose. OK? We have to embrace a notion that for Apple to win Apple has to do a really good job, and if others are going to help us, that’s great, cause we need all the help we can get. And if we screw up and we don’t do a good job, it’s not somebody else’s fault. It’s our fault. So, I think that’s a very important perspective.

I think, if we want Microsoft Office on the Mac, we better treat the company that puts it out with a little bit of gratitude. We like their software. So, the era of setting this up as a competition between Apple and Microsoft is over as far as I’m concerned. This is about getting healthy, and this is about Apple being able to make incredibly great contributions to the industry, to get healthy and prosper again.

Here’s Shein:

But as the group runs into adaptive difficulties, as its environment changes to the point where some of its assumptions are no longer valid, leadership comes into play once more. Leadership is now the ability to step outside the culture that created the leader and to start evolutionary change processes that are more adaptive. This ability to perceive the limitations of one’s own culture and to evolve the culture adaptively is the essence and ultimate challenge of leadership.

Make no mistake: even though he had been gone for over a decade, Steve Jobs was responsible for that booing.

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Jobs had set up Apple generally and the Macintosh specifically as completely unique and superior to the alternatives, particularly the hated IBM PC and its Windows (originally DOS) operating system. By 1997, though, Microsoft had won, and Apple was fighting for its life. And yet the audience booed its lifeline! That is how powerful culture can be — and that is why Jobs’ “impromptu sermon” was so necessary and so powerful. It was Apple’s version of Office on the iPad, and a brilliant display of leadership.

Warning Signs for Apple and Google

Over the weekend Marco Arment wrote a widely-read piece (now) called If Google’s Right About AI, That’s a Problem for Apple:

The BlackBerry’s success came to an end not because RIM started releasing worse smartphones, but because the new job of the smartphone shifted almost entirely outside of their capabilities, and it was too late to catch up. RIM hadn’t spent years building a world-class operating system, or a staff full of great designers, or expertise in mass production of luxury-quality consumer electronics, or amazing APIs and developer tools, or an app store with millions of users with credit cards already on file, or all of the other major assets that Apple had developed over a decade (or longer) that enabled the iPhone. No new initiative, management change, or acquisition in 2007 could’ve saved the BlackBerry. It was too late, and the gulf was too wide.

Today, Amazon, Facebook, and Google are placing large bets on advanced AI, ubiquitous assistants, and voice interfaces, hoping that these will become the next thing that our devices are for. If they’re right — and that’s a big “if” — I’m worried for Apple…If the landscape shifts to prioritize those big-data AI services, Apple will find itself in a similar position as BlackBerry did almost a decade ago: what they’re able to do, despite being very good at it, won’t be enough anymore, and they won’t be able to catch up.

Arment is exactly right. What is fascinating, though, is that, as I wrote last week, Google has their own set of problems: users actually spend their time in social apps, mostly owned by Facebook, and while Google has a critical asset in Android, its most valuable users (from a monetization standpoint) are on iOS. How will users actually access Google’s AI capabilities (if they turn out to matter), and how will Google monetize them?

To be sure, neither company is struggling today. Apple may have failed to achieve record results for the first time in 13 years, but their 2Q 2016 revenue of $50.6 billion was more than the revenue of Microsoft, Google, and Facebook combined; Google, meanwhile, is still setting year-over-year records, with $17.3 billion in revenue.

That, though, is the challenge: BlackBerry wasn’t struggling in 2006, nor was Microsoft in 2007, or even Apple as late as 1993. There was no obvious reason to think that anything was amiss, and it was culture that ensured that whatever hints there were would be ignored. Shein again:

Culture as a set of basic assumptions defines for us what to pay attention to, what things mean, how to react emotionally to what is going on, and what actions to take in various kinds of situations. Once we have developed an integrated set of such assumptions—a “thought world” or “mental map”—we will be maximally comfortable with others who share the same set of assumptions and very uncomfortable and vulnerable in situations where different assumptions operate, because either we will not understand what is going on, or, worse, we will misperceive and misinterpret the actions of others.

And so BlackBerry thought Apple was lying about the iPhone; Steve Ballmer declared “He liked Microsoft’s chances”; and Apple, well, Apple had already decided to, in Jobs’ view, sacrifice product for profits. The time to act was at the moment of denial, not the moment of crisis.

Paths Forward

That said, both Apple and Google are still operating from positions of considerable strength going forward: iPhone growth may or may not have peaked, but it’s not going anywhere for a good long while, and the company is almost certainly working on a car. Google, meanwhile, is arguably in even better shape: the company has a massive lead in machine learning, which could manifest itself in all kinds of interesting applications, and here Android looms large.

Still, there are very obvious steps both companies could do to entrench their advantages:

  • Apple could partner with a company like Microsoft (again) to build out its services layer, both on the backend (Azure) and, if they want to get really radical, the front-end (combining Siri and Cortana). The most radical solution, though, would be fully opening up iOS in such a way that users could set Google (or any other company’s) services as defaults. This would foreclose any medium-term threat to the iPhone from an Android experience that is fully-infused with Google’s AI capabilities (more on the long-term problems in a moment)
  • Google could — should! — build a bot for Facebook Messenger. More than that, they should build an entire backend for Facebook Messenger developers. Do people want to live in Facebook? Very well, meet them there, just as Google found its user base on Windows through the browser.

Both ideas (and there are certainly others) have their issues: Apple would be foreclosing their future as a services provider, but frankly, I am extremely skeptical about this regardless. Not only does the company have the wrong organizational structure but, similar to Microsoft, the company’s overwhelming success has had far-reaching effects on the culture; in this case, the company is so focused on making physical products that it’s doubtful an effective services mentality could ever emerge, not to mention the company’s (at times disingenuous) absolutism about privacy.2

Google, meanwhile, would be supporting its most dangerous competitor. At the end of the day Google and Facebook share the exact same customers — advertisers — and even though it’s not clear how Google can steal attention back it’s also not obvious that they should aid their rival.3

The Curse of Culture

The biggest problem for both, though, is culture. Apple, beyond everything else — and in part because of the humiliation of that 1997 keynote — desires complete control; Google, for its part, desires information, and can’t tolerate the idea of Facebook having more.

The rigidity of both is the manifestation of the disease that affects every great company: the assurance that what worked before will work eternally into the future, even if circumstances have changed. What makes companies great is inevitably what makes companies fail, whenever that day comes.4

  1. Yes, Apple ultimately came to earn much more revenue that Microsoft ever did, and Google has come close, but both did so in the context of a much larger industry []
  2. This too is why I don’t buy the “Wait for WWDC” response to Marco’s article; the reasons to be skeptical about Apple’s prospects here are structural []
  3. That, in some respects, gets to the tragedy of this piece: Apple and Google are the most natural of partners. Neither has to lose for the other to win, and both have wasted far too much valuable time fighting a war that was never necessary. []
  4. One final quote from Shein:

    If one wishes to distinguish leadership from management or administration, one can argue that leadership creates and changes cultures, while management and administration act within a culture. By defining leadership in this manner, I am not implying that culture is easy to create or change, or that formal leaders are the only determiners of culture. On the contrary, as we will see, culture refers to those elements of a group or organization that are most stable and least malleable. Culture is the result of a complex group learning process that is only partially influenced by leader behavior. But if the group’s survival is threatened because elements of its culture have become maladapted, it is ultimately the function of leadership at all levels of the organization to recognize and do something about this situation. It is in this sense that leadership and culture are conceptually intertwined.

    Are Tim Cook and Sundar Pichai managers, or leaders? And which do they need to be? []

Google’s Go-to-Market Gap

Perhaps the most surprising aspect of Google’s rise is that it is almost entirely attributable to having the best technology. That sounds like it should be the normal state of affairs, but in truth there are an untold number of research projects and startups that had superior technology but never became viable businesses; perhaps there was no business model, or an inability to build a requisite ecosystem, or most commonly, an inability to find a viable market and/or reach consumers who might be interested.

Great Companies Versus Great Technology

For example, look at the other technology giants, all of whom got their start on the basis of more than pure technology:

  • While Bill Gates and Paul Allen built Microsoft’s first product (Altair BASIC), the company’s dominance was established via a business development deal with IBM to provide an operating system for the nascent IBM personal computer; the actual OS (MS-DOS) was acquired from a company called Seattle Computer Products. And while Microsoft would go on to develop all kinds of technology, everything that followed rested on the leverage from that IBM deal.
  • Amazon started out as a primitive website that was differentiated by its selection and ability to deliver anywhere in the U.S. And while the company has certainly invented a lot of technology when it comes to web services and logistics, its advantage remains rooted in its scale.
  • Facebook’s technology was so basic that Mark Zuckerberg’s first employee — his roommate Dustin Moskovitz — didn’t even know how to program; he would go on to be Facebook’s first Chief Technical Officer. What got the site off the ground was the way it digitized pre-existing offline networks — it started from its market and worked backwards.
  • Apple’s strategy has certainly been predicated on having the best products, but that does not necessarily mean the company has always had the best technology. The Mac GUI was famously “inspired” by Xerox PARC, the iPod was hardly the first MP3 player, and while the original iPhone was certainly a technological marvel, it not only was built on everything that came before it but also required huge investments in distribution to become the juggernaut it is1

To be clear, all of these companies had great technology, but it wasn’t enough — it rarely is.

Google = Best

Google stands in stark contrast: relying on links and a lot of math to rank sites was a technological breakthrough of the first order — and no company wanted to buy it, despite the fact it was very much on sale. And yet, usage grew exponentially thanks to word-of-mouth: Google’s search was so startlingly better — and the cost of trying it was simply typing in a URL — that the product grew like wild fire without business development, distribution, or marketing. By the time Google did their first distribution deal, with Yahoo in 2000, Google was already handling millions of queries a day simply because they were superior; Yahoo only hastened Google’s inevitable domination.

The focus on being the best became a core piece of Google’s identity, and the biggest factor in how they hired. Steven Levy wrote in In the Plex:

The founders also knew that Google had to be a lot smarter to keep satisfying users—and to fulfill the world-changing ambitions of its founders. “We don’t always produce what people want,” Page explained in Google’s early days. “It’s really difficult. To do that you have to be smart—you have to understand everything in the world. In computer science, we call that artificial intelligence.”

Brin chimed in. “We want Google to be as smart as you—you should be getting an answer the minute you think of it.”

“The ultimate search engine,” said Page. “We’re a long way from that.”

Page and Brin both held a core belief that the success of their company would hinge on having world-class engineers and scientists committed to their ambitious vision. Page believed that technology companies can thrive only by “an understanding of engineering at the highest level”…

“We just hired people like us,” says Page.

So many of Google’s successes — and failures — is wrapped up in this sentiment. So, too, is their future.

The Google Assistant

Yesterday at the Google I/O keynote the dominant theme was the very real progress Google is making on genuine Artificial Intelligence that goes far beyond search. Sundar Pichai said in his opening remarks:

It’s amazing to see how people engage differently with Google. It’s not just enough to give them links. We really need to help them get things done in the real world. This is why we are evolving search to be much more assistive. We’ve been laying the foundation for this for many, many years through investments in deep areas of computer science. We’ve built the knowledge graph — we today have an understanding of 1 billion entities, people, places, and things, and the relationships between them and the real world. We have dramatically improved the quality of our voice recognition…Image recognition and computer vision, we can do things we never thought we could do before…We even do real-time translation.

Progress in all of these areas is accelerating, thanks to profound advances in machine learning and [artificial intelligence] (AI), and I believe we are at a seminal moment. We as Google have evolved significantly over the past ten years and we believe we are poised to take a big leap forward in the next ten years leveraging out state-of-the-art capabilities in machine learning and AI, we truly want to take the next step in being more assistive for our users. So today, we are announcing the Google assistant.

There is little question that Google is far ahead in artificial intelligence. Late January, in a humorous juxtaposition that was almost certainly coincidental but telling all the same, Facebook CEO Mark Zuckerberg posted about the social network company’s progress in building a computer that could play the board game ‘Go’, long thought unbeatable by computers. Mere hours later Demis Hassabis, the head of Google’s DeepMind division, revealed in a blog post that Google had done exactly that: their machine learning-based program, called AlphaGo, had defeated a three-time European champion, and would soon take on the best Go player in the world (AlphaGo would go on to win that match 4–1).

To be sure, this is a single example, but any time spent using the increasing number of Google products that rely on machine learning-based artificial intelligence — translation, voice and image recognition, and yes, search — quickly make it obvious just how much better Google is, and, thanks to the copious amount of data at the company’s disposal, how much better they are likely to become. The problem is that in today’s world being the best may not be enough.

Open Versus Closed

While describing how Google search grew by word-of-mouth, I snuck in one line that looms very large when it comes to thinking about both Google’s past and its future: “the cost of trying it was simply typing in a URL.” Google’s initial success was not just because they were superior at search: thanks to the fact that the interface with Google was a web page, the company had instant access to every person on earth with a PC and a functioning Internet connect — and they didn’t have to pay a dime. On the flip-side, if you heard about this amazing new search engine, you didn’t need to go buy a CD or even download a program: you simply typed “Google.com” and the results spoke for themselves. Make no mistake: the brilliance of Larry Page and Sergey Brin was only perhaps surpassed by the brilliance of the people they hired, particularly in the early days, but the company’s success was very much intertwined with the openness afforded by a browser and the world wide web.

Today, though, the PC is fading in relevance, and the browser along with it: what matters is mobile, and the means to connect with users is to either be embedded into the phone or have an app where people live. And while Google has a massive foothold thanks to Android, a huge number of its best customers are on iOS, and nearly all its customers live in Facebook.

The implications of this are obvious — just look at maps. Google Maps is widely regarded as being the superior product to Apple Maps, yet the latter is used three times as often on iPhones; such is the power of defaults and being “good enough.”2 Similarly, while Google’s voice recognition far outpaces Apple’s Siri, the fact that Apple sets the rules means that Google’s Gboard keyboard for iOS cannot include dictation.3 More broadly, on iOS the only way to use the Google assistant that Pichai announced yesterday will be to open a Google app (or go to a search field in, you guessed it, a browser): using Siri will always be much easier and frictionless.

The situation is even more challenging when it comes to social networks broadly and messaging specifically, which is to mobile as the browser was to the PC: a meta-OS where people spend the vast majority of their time. The problem for Google is that while the browser was an open platform that not even Microsoft could control — sure, they killed Netscape, but Google built its audience from within Internet Explorer — social networks and messaging services are not only closed but nearly impossible to compete with. No matter how great of a messaging service Google may build — another I/O announcement was a messaging service called Allo, which heavily features the Google assistant — the most important feature of any messaging service is whether or not your friends use it, and nearly every geography in the world is locked up by a competitor.

There is a new arena — the home, the one place where talking is usually better than pecking away at a phone no longer in your pocket — but here Google is behind Amazon. The latter, thanks to the failure of its own smartphone efforts, was freed from the smartphone obsession that resulted in Google wrongly identifying the smartphone-dependent Nest as its connected home offering, instead of a voice-focused standalone device like the Echo. There is almost certainly time to catchup, but it’s telling that Google’s announced competitor — Google Home — is still months away.

Google’s Go-to-Market Challenge

The net result is that Google has no choice but to put its founding proposition to the ultimate test: is it enough to be the best? Can the best artificial intelligence overcome the friction that will be involved in using Google assistant on an iPhone? Can the best artificial intelligence actually shift human networks? Can the best artificial intelligence win the home in the face of a big head start?

That the answer may very well be “no” (or mixed, at best), is at the root of my 2014 piece Peak Google. That piece was about business relevance, something that goes beyond the collection of cash or the creation of superior technologies. The question I was asking was which companies are the best equipped to build new businesses going forward, and here Google’s outlook is far cloudier than it was back when the company was, for all intents and purposes, invented.

The problem is that as much as Google may be ahead, the company is also on the clock: every interaction with Siri, every signal sent to Facebook, every command answered by Alexa, is one that is not only not captured by Google but also one that is captured by its competitors. Yes, it is likely Apple, Facebook, and Amazon are all behind Google when it comes to machine learning and artificial intelligence — hugely so, in many cases — but it is not a fair fight. Google’s competitors, by virtue of owning the customer, need only be good enough, and they will get better. Google has a far higher bar to clear — it is asking users and in some cases their networks to not only change their behavior but willingly introduce more friction into their lives — and its technology will have to be special indeed to replicate the company’s original success as a business.4

  1. To put it another way, the technology at the heart of Apple’s products — OS X and iOS — has its roots in NeXT, a business failure []
  2. By most accounts Apple Maps is indeed “good enough” in the U.S.; from personal experience, though, it very much falls short in many other countries []
  3. Google does deserve a lot of credit for finally remembering that Android exists to serve Google, which should be focused on all users, not its own platforms []
  4. Which itself is under threat: to fully leverage Google assistant in Google search will almost certainly deepen Google’s antitrust troubles with the European Union []

The Real Problem With Facebook and the News

I got my start writing for the student newspaper at the University of Wisconsin.1

What is interesting about that statement is that the appropriate follow-up question is “Which student newspaper?” For many years Wisconsin was unique in being the only university with two daily newspapers, both with five-digit print circulations.2 The older paper, The Daily Cardinal, got its start in 1892, but in 1969, as Wisconsin became ground zero for some of the most intense protests against the Vietnam War, a group of conservative students, with support from right-wing luminary William F. Buckley, resolved to counter what they saw as a pervasive liberal bias from The Daily Cardinal specifically and media generally.

Against all odds the fledgling paper survived — and it’s those odds that interest me most. To start a paper in 1969 required a not insignificant amount of money to pay for everything from desks to typewriters to, most pertinently, (renting time on) a printing press. The reality is that Wisconsin was a huge aberration, not only amongst universities but amongst cities generally: most had one paper, maybe two, and there were only three broadcast TV networks.

This was an arrangement that was certainly profitable for those who owned these geographic monopolies, but it also had a curious effect on how news was experienced in the United States: first, there was a strict wall built between the editorial and business sides of a business (a wall that hinders publishers today), and secondly, befitting their dominant market position (and, perhaps, in a careful attempt to ensure they kept it), news organizations adopted a “balanced” he-said/she-said approach to reporting that Jay Rosen has characterized as The View From Nowhere.

The problem with this approach is that no matter how scrupulous a reporter or editor may be, they are still human, constrained to a world view informed by their own limited experiences, and, as was so often the case in nearly every professional workplace in America, those experiences were shared: white, middle to upper class, often from the coasts, educated at elite universities. And so began a longstanding conservative critique of the media: that while it claims to be balanced, what was actually printed or broadcast, both in terms of selection and tone, had a liberal bias.3

Facebook Trending News

Yesterday Gizmodo published a bombshell where the headline basically says it all: Former Facebook Workers: We Routinely Suppressed Conservative News.

Facebook workers routinely suppressed news stories of interest to conservative readers from the social network’s influential “trending” news section, according to a former journalist who worked on the project. This individual says that workers prevented stories about the right-wing CPAC gathering, Mitt Romney, Rand Paul, and other conservative topics from appearing in the highly-influential section, even though they were organically trending among the site’s users.

Several former Facebook “news curators,” as they were known internally, also told Gizmodo that they were instructed to artificially “inject” selected stories into the trending news module, even if they weren’t popular enough to warrant inclusion—or in some cases weren’t trending at all. The former curators, all of whom worked as contractors, also said they were directed not to include news about Facebook itself in the trending module.

In other words, Facebook’s news section operates like a traditional newsroom, reflecting the biases of its workers and the institutional imperatives of the corporation. Imposing human editorial values onto the lists of topics an algorithm spits out is by no means a bad thing—but it is in stark contrast to the company’s claims that the trending module simply lists “topics that have recently become popular on Facebook.”

There is a lot to unpack here, complicated by a good deal of confusion about what exactly is being alleged:

  • This story is not about the News Feed, that algorithmically-driven stream of content that is at the core of Facebook’s success. Rather, it is about the “Trending News” box of content placed in the upper right of a desktop Facebook page, or more pertinently for most Facebook users, what appears below an activated search box on mobile. It is valuable real estate in the way that all Facebook real estate is valuable, but it is of considerably less importance than what appears in the aforementioned feed. Indeed, I suspect I’m not alone in that before this controversy happened I didn’t even know it existed on mobile at all.
  • Thanks to Gizmodo’s reporting a week ago, we already knew that Facebook has a content team that chooses which trends deserve to be promoted, writes headlines for them, and also blacklists topics (most commonly because “it didn’t have at least three traditional news sources covering it”). Gizmodo added that “Those we interviewed said they didn’t see any signs that blacklisting was being abused or used inappropriately”, and suggested that the content team was being phased out as Facebook’s algorithms improved.4
  • Apparently in response to last week’s story, a former “curator” from the content team and self-identified conservative alleged that conservative topics were sometimes blacklisted; other curators disputed that claim, but all those interviewed with Gizmodo agreed that curators also had the power to “inject” stories into the trending list even if they were not, in fact, trending. Most examples were about Facebook trying to keep up with Twitter in current news, although longer-running topics like Black Lives Matter were allegedly injected as well.

I parse these details for a few reasons: first, it seems self-evident that a team of curators would, in fact, curate; Facebook’s mistake was in its willingness to let people believe “Trending News” was purely algorithmic. Second, there is very strong evidence that “Trending News” has a human component that, like the “balanced” news organizations of old, is by definition subject to bias. Third, the allegation that said bias is actively trying to suppress conservative news is the opinion of one person only (contra Gizmodo’s headline). And when you consider the make-up of the content team — “young journalists, primarily educated at Ivy League or private East Coast universities”, according to Gizmodo — it seems very possible that the second and third points are, per my observation about the conservative critique of media,5 the exact same thing.

The Rise of Alternative Media

As you might expect, the conservative media was all over these allegations; what is most striking, though, at least in the context of the founding of my old paper The Badger Herald, is that these outlets exist at all. The Internet removed the need for things like desks, typewriters, and especially printing presses, making it viable for an entire new universe of publications. And, unlike the news organizations of old who started with a geographic monopoly and worked backwards, Internet-era publications have no distribution advantage (or more pertinently, disadvantage) versus anyone else; the only way to win is to attract more users on the basis of your content.

To that end Internet publications, particularly political ones, have tended to have a very distinct point of view, whether it be Talking Points Memo on the left or Red State on the right — and those are just two examples of many, covering every part of the ideological spectrum. And why not? The truth is that all of us like to read what we already agree with, particularly when it comes to fraught issues like politics, and we’re more likely to return to a site that makes us feel good about our beliefs.

Facebook has magnified all of these trends: not only is content content, regardless of source, but it also tries to give us more of what we (literally) like, or click on, or comment on (in this case I am talking about the News Feed, not the Trending News section). If you like publications and stories that are more liberal in nature, you’ll get more liberal stories and publications in your feed; it’s the same thing with conservative stories and publications, or sports, or music, or whatever topics “drives engagement”, to use the parlance.

The result is that if you are a conservative, say, you are living in a cornucopia of conservative thought unimaginable to those students launching a new college newspaper against the odds in 1969. There are no obstacles to publishing, and Facebook actually tries its darnedest to bring you more of what you like in the name of engagement.

Polarization and Virtual Villages

Late last month Ezra Klein, who has covered the topic of polarization in American politics extensively, wrote in an overview of a 10,000 adult survey done by Pew about politics:

It’s tempting to imagine that rising political polarization is just a temporary blip and America will soon return to a calmer, friendlier political system. Don’t bet on it. Political polarization maps onto more than just politics. It’s changing where people live, what they watch, and who they see — and, in all cases, it’s changing those things in ways that lead to more political polarization, particularly among the people who are already most politically polarized…

It’s easy to see how this could work to strengthen polarization over time. As Cass Sunstein and others have shown, people become more extreme when they’re around others who share their beliefs. If liberals and conservatives end up moving to different places and surrounding themselves with others like them they’re likely to pull yet further apart. And even for those who can’t move, the internet makes it easy to settle in a virtual neighborhood with people who agree with you. Polarization is going to get a lot worse before it starts getting better.

When Klein refers to “a virtual neighborhood” he means Facebook: that is where people live, where they go in the empty spaces of their lives. It is by far the biggest traffic driver to nearly every site on the Internet, and the most-used app of every age group. And it is a company whose executives talked about engagement double-digit times on the last earnings call. It is the metric that matters, the one everything at the company is built around.

This, then, is the deep irony of this controversy: Facebook is receiving a huge amount of criticism for allegedly biasing the news via the empowerment of a team of human curators to make editorial decisions, as opposed to relying on what was previously thought to be an algorithm; it is an algorithm, though — the algorithm that powers the News Feed, with the goal of driving engagement — that is arguably doing more damage to our politics than the most biased human editor ever could.6 The fact of the matter is that, on the part of Facebook people actually see — the News Feed, not Trending News — conservatives see conservative stories, and liberals see liberal ones; the middle of the road is as hard to find as a viable business model for journalism (these things are not disconnected).

Indeed, one could make the argument that an authoritative news module from Facebook would actually be a civil benefit: at least we would all be starting from a common set of facts. What is far more damaging — and far more engaging, and thus lucrative for Facebook — is all of us in our own virtual neighborhoods of our own making, liking opinions that tell us we’re right instead of engaging with viewpoints that make us question our assumptions.

  1. I don’t usually talk about this much, in part because I’ve almost completely changed my politics since then []
  2. It’s almost unfathomable now, but print advertising was so lucrative that The Badger Herald, where I worked, actually paid a staff of 100 or so people across editorial and ad sales who put out a free 16~20 page broadsheet five days a week. As I recall, at that time The Badger Herald’s daily circulation was 16,000, and The Daily Cardinal was 10,000. Needless to say both have dramatically cut back. []
  3. Per the previous footnote, having been raised in this environment, I know from experience that the idea of a “liberal bias” to the news, whether true or not, has been unquestioned by conservatives for decades []
  4. Indeed, as the Huffington Post reported, today most people don’t even see the same topics. []
  5. And without weighing in as to whether or not it is justified []
  6. And, of course, algorithms, having been created by humans, have their own biases []

Everything as a Service

Last month Benedict Evans observed that The Best is the Last:

A technology often produces its best results just when it’s ready to be replaced — it’s the best it’s ever been, but it’s also the best it could ever be. There’s no room for more optimisation — the technology has run its course and it’s time for something new, and any further attempts at optimisation produce something that doesn’t make much sense.

The development of technologies tends to follow an S-Curve: they improve slowly, then quickly, and then slowly again. And at that last stage, they’re really, really good. Everything has been optimised and worked out and understood, and they’re fast, cheap and reliable. That’s also often the point that a new architecture comes to replace them. You can see this very clearly today in devices such as Apple’s new Macbook or Windows ‘ultrabooks’ — they’ve taken Intel’s x86 and the mouse and window-based GUI model as far as they can go, and reached the point that everything possible has been optimised. Smartphones are probably at the point that the curve is starting to flatten…

Evans’ post was particularly timely as only days later Apple released quarterly results and an earnings forecast that were well under expectations,1 and the primary reason cited by Apple CEO Tim Cook was a significantly slower iPhone upgrade rate.2

It is certainly reasonable to argue that this slowdown is temporary — an artifact of the iPhone 6 pulling forward upgrades from iPhone users clamoring for larger screens — and that the iPhone 7 will return the franchise to growth; personally, I tend to agree with Neil Cybart that iPhone growth has indeed peaked — structural growth factors like new countries and carriers are largely tapped out,3 and while Apple will still draw switchers, they won’t draw enough to make up for existing customers not upgrading — but even if you disagree, your disagreement by definition must be one of timing.4 As we’ve seen with first PCs and then tablets, as hardware matures upgrade cycles inevitably lengthen and choke off growth. That the iPhone grew far beyond either of these product categories — far beyond any product ever, at least in revenue and profit terms — is a testament to the incredible market that was smartphones, and the incredible product that was the iPhone.

Indeed, it was the best market — and best product — we’ve ever seen; the question is if it is the last.

The Manufacturing Model

From the industrial revolution on, the dominant business model has been manufacturing goods and selling them at (hopefully) a profit. This had a huge number of knock-on effects, including the shift in population from rural areas to urban ones, in cities created around transportation hubs and markets. Manufactured goods (or food produced on increasingly mechanized farms) were transported to a central location, made available for purchase, and carried home by individual buyers, themselves primarily occupied in the creation of said goods. Over time, as economies matured, new types of businesses sprang up like professional services (lawyers, doctors, etc.), transportation, or luxuries like grooming or dining, but it was manufacturing that led to the creation of the critical mass of people necessary to make these sorts of businesses viable.

Over the past thirty years, this way of organizing people (in developed countries) has been increasingly hollowed out; thanks to improved communication and transportation links a wave of globalization has shifted manufacturing to the developing world and made services an increasingly central part of the economy (78% of U.S. GDP in 2015). This, though, has made companies capable of working and selling across borders more valuable than ever before, and chief amongst these is Apple.

Apple has arguably perfected the manufacturing model: most of the company’s corporate employees5 are employed in California in the design and marketing of iconic devices that are created in Chinese factories built and run to Apple’s exacting standards (including a substantial number of employees on site), and then transported all over the world to consumers eager for best-in-class smartphones, tablets, computers, and smartwatches.

What makes this model so effective — and so profitable — is that Apple has differentiated its otherwise commoditizable hardware with software. Software is a completely new type of good in that it is both infinitely differentiable yet infinitely copyable; this means that any piece of software is both completely unique yet has unlimited supply, leading to a theoretical price of $0. However, by combining the differentiable qualities of software with hardware that requires real assets and commodities to manufacture, Apple is able to charge an incredible premium for its products.

The results speak for themselves: this past “down” quarter saw Apple rake in $50.6 billion in revenue and $10.5 billion in profit. Over the last nine years the iPhone alone has generated $600 billion in revenue and nearly $250 billion in gross profit. It is probably the most valuable — the “best”, at least from a business perspective — manufactured product of all time.

Apple and Services

Yesterday Tim Cook appeared on CNBC’s Mad Money with Jim Cramer to defend the iPhone’s prospects. Cook said:

Let’s look at how did we do in this quarter, and what you would find is $50 billion and $10 billion in profit. No one else is earning anywhere near this.

They’re the best!

But, the real answer to your question, is that the thing that is different is that customers love Apple products. And the relationship with Apple doesn’t stop when you buy an iPhone. It continues. You might buy apps across the App Store. You might subscribe to Apple Music. You might use iCloud to buy additional storage. You might buy songs. You might rent movies. And so there’s a significant number of things. You might use Apple Pay every day now. Or at least several times a week. And so that relationship continues.

This, though, is a subtle shift: Cook is not talking about Apple’s ability to sell new iPhones — to make money with the old model — he is referring to the fact that Apple can (and does) make a significant amount of revenue from people using the iPhone. This is the “services” business model and the fact it shares a name with the economic activity that rose up around manufacturing over the last century is not an accident.6

The fundamental difference between manufacturing and services is that one entails the creation and transfer of ownership of a product, while the other is much more intangible: you visit a doctor or hire a lawyer, and you don’t get a widget to take home. Moreover, if you want more of a service, you have to pay more — when your hair grows back you don’t get credit from the hairdresser for having visited just a few weeks or months prior.

Manufacturing can and does undergird services: your lawyer owns computers and has office space in a building that was constructed, and your doctor buys medical devices and prescribes drugs. Even your hairdresser buys scissors and clippers and hair rollers. Similarly, Apple’s services by and large depend on you having bought an iPhone on which you can then subscribe to music or leverage the App Store or make a payment with Apple Pay. In most services business, though, what is manufactured is a modular component of the overall offering, subject to an ongoing cost-benefit comparison with competitors that drives down profits over time.7

To be sure, these transactions are much smaller on an individual basis, at least compared to an iPhone: you would need to buy more than $1000 worth of apps for Apple to earn the same gross profit as the entry-level iPhone 6S, or subscribe to Apple Music for nearly 10 years, or make over $215,000 in purchases with Apple Pay. What makes services so attractive, though, is that that is possible! Because services revenue is recurring and not tied to the delivery of a physical item it can scale indefinitely; Apple, on the other hand, faces a limit based on the number of people who can both afford their devices and are willing to upgrade.

Software and the Services Model

In this, services sound a lot like software: both are intangible, both scale infinitely, and both are infinitely customizable. It follows that a services business model — payment in exchange for service rendered, without the transfer of ownership — is a much more natural fit for software than the transaction model characteristic of manufacturing. It better matches value generated and value received — customers only pay if they use it, and producers are rewarded for making their product indispensable — and more efficiently allocates fixed costs: occasional users may be charged nothing at all, while regular users who find your software differentiated pay more than the marginal cost of providing it.

These advantages have always been obvious (along with other consumer-centric ones like the need to not install updates, or to move costs from capital to operational expenses), but when the software industry first emerged the model simply wasn’t practical: there was no way to measure how often software was used, or to seamlessly add and remove users. There were, in short, significant distribution and transactional costs that were characteristic of the old manufacturing world, so a manufacturing business model was used.

The Internet has changed that: it is possible to run software on a central server for multiple clients (spreading the fixed costs amongst them), and there are zero transactional costs involved in calculating usage or in supporting new users (even free ones);8 the result is that nearly all software now is now sold on a service model (or based on advertising, which is the same concept of pricing based on usage), including software that used to be sold like physical goods (like Adobe and Microsoft’s offerings).

Hardware as a Service

What happens, though, if we apply the services business model to hardware? Consider an airplane: I fly thousands of miles a year, but while Stratechery is doing well, I certainly don’t own my own plane! Rather, I fly on an airplane that is owned by an airline9 that is paid for in part through some percentage of my ticket cost. I am, effectively, “renting” a seat on that airplane, and once that flight is gone I own nothing other than new GPS coordinates on my phone.

Now the process of buying an airplane ticket, identifying who I am, etc. is far more cumbersome than simply hopping in my car — there are significant transaction costs — but given that I can’t afford an airplane it’s worth putting up with when I have to travel long distances.

What happens, though, when those transaction costs are removed? Well, then you get Uber or its competitors: simply touch a button and a car that would have otherwise been unused will pick you up and take you where you want to go, for a price that is a tiny fraction of what the car cost to buy in the first place. The same model applies to hotels — instead of buying a house in every city you visit, simply rent a room — and Airbnb has taken the concept to a new level by leveraging unused space.

The enabling factor for both Uber and Airbnb applying a services business model to physical goods is your smartphone and the Internet: it enables distribution and transactions costs to be zero, making it infinitely more convenient to simply rent the physical goods you need instead of acquiring them outright.

Services and the Future

This idea of a new service-based economy that deprioritizes ownership in favor of renting what you need when you need it isn’t a new one: people have been speculating about this for a few years, and in many cases experimenting with building such businesses out. Still, outside of Uber, success has been limited. I’m reminded, though, of one of my favorite Bill Gates quotes:

We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten.

It was less than ten years ago that the iPhone was launched — that’s how quickly the world can change. And while changing the status quo is hard, in the grand scheme of things, the fact that Uber and Airbnb only launched only seven and eight years ago respectively is pretty amazing. Moreover, it may be the case that some models require generational changes, or may first spring up in other geographies where people simply have less stuff.10

With regards to the iPhone, it’s hard to see its record revenues and profits ever being surpassed by another product, by Apple or anyone else: it is in many respects the perfect device from a business perspective, and given that whatever replaces it will likely be significantly less dependent on a physical interface and even more dependent on the cloud (which will help commoditize the hardware), it will likely be sold for much less and with much smaller profit margins.11

More broadly, I suspect it is going to be increasingly difficult to analyze the future with any lens based on the past. The two companies that dominated earnings in a largely gloomy quarter — Facebook and Amazon — are both uniquely enabled by the Internet; Amazon lets you rent compute power without buying a server, and Facebook serves 1.6 billion people customized content from an effectively infinite number of sources.

Just as importantly, both companies are enabling new business models in their own right: I wrote last fall about how Amazon Web Services has dramatically lowered the barrier to entry for startups, and as I wrote last week Facebook may very well do the same when it comes to advertising: it is easier, cheaper, yet more measurable (and thus justifiable) for a small business to advertise on Facebook than any other medium ever. Indeed, for all the billions that Apple has extracted from the App Store by virtue of owning distribution onto iPhones, it is Facebook that is actually “earning” the billions it is paid by app developers thanks to the disruptive nature of its advertising product. No, neither company has Apple’s profits, and will not for a long time if ever, but then again, they are at the beginning of something new, not the best of the last.


The line it is drawn, the curse it is cast
The slow one now, will later be fast
As the present now, will later be past
The order is rapidly fadin’
And the first one now, will later be last
For the times they are a-changin’.

— Bob Dylan, The Times They Are A-Changin’

Ironically, and tellingly as to the difficulty of this transition, only available on a transactional basis in iTunes

  1. Not just Wall Street’s but also Apple’s; while Apple does not release forecast numbers more than a quarter out, as I noted in the Daily Update the Q1 2016 earnings call included several allusions to Apple’s full-year expectations that clearly did not countenance what is now forecast for the next quarter []
  2. This is another thing that Apple got wrong; last year Cook suggested on every earnings call that there was nothing particularly remarkable about the iPhone 6 upgrade rate, in direct contrast to this call []
  3. And China is a real concern []
  4. And please, note the distinction between noting that iPhone growth may have peaked and saying that the iPhone is dead or that Apple is doomed []
  5. I.e. not retail []
  6. To be very clear, as I laid out two weeks ago, services are much more than just online services like email or search; they are any sort of recurring activity that does not entail a transfer of ownership []
  7. A challenge — and opportunity! — for Apple will be in maintaining its selling prices and margins even as it ramps up its services businesses []
  8. Yes, I am talking about Aggregation Theory []
  9. Or leased []
  10. This, for example, is why car-sharing services are so huge in China: many people don’t have a car at all, and the car in your garage has always been Uber et al’s biggest competitor []
  11. Implicit in that statement is that Apple will continue to sell a lot of iPhone for the foreseeable future []

Antitrust and Aggregation

Fifteen years on, perhaps the most pertinent takeaway from Microsoft’s antitrust battles with both the United States and Europe is how little it seems to have mattered. From a financial perspective, Microsoft grew revenue unimpeded from $15 billion in 1998 when the case was initiated to $95 billion last year.1 Internet Explorer, meanwhile, peaked at 95% market share in 2004, two years after the U.S. case was settled; in Europe, Windows XP N, which excluded Windows Media Player, sold only a few thousand copies, and browser choice did nothing to change underlying market trends.

What ultimately undid Microsoft — and why that $95 billion revenue figure was a peak; the current trailing twelve month number is $87 billion — was that even as Windows continued to have a monopoly on laptops and desktops the definition of a computer was dramatically expanded to include smartphones (and, to a lesser extent, tablets). And while many Microsoft partisans argue that the antitrust-related restrictions caused the company to miss mobile, the truth is Apple’s iPhone succeeded by being a very different product than Windows, and Android leveraged a very different business model; if anything Microsoft’s PC dominance meant their mobile failure was inevitable as the company was ill-equipped to think differently.

Antitrust and the Google Play Store

This history is pertinent in light of the news that the European Commission has sent a Statement of Objections to Google alleging antitrust violations in how the company has leveraged monopolies in smartphone operating systems (Android), app stores (the Google Play Store), and search (Google Search). As I detailed on Thursday my preliminary takeaway is that Google is very likely to lose the case, not necessarily because of Android’s dominance or even search, but rather because of the Google Play Store; that is the linchpin on which the Commission’s case turns. The Play Store is the one part of the Google Mobile Services suite that is irreplaceable and thus the leverage enforcing the various requirements the Commission objected to, like making Google Search and Chrome defaults, and forbidding AOSP forks.

To be sure, Google Mobile Services has other world class apps. The difference, though, is that those other apps are products, not platforms. In the case of Google Maps, for example, the quality of the service is solely under the control of Google; by extension, the quality of a competitor like HERE Maps is similarly controlled by its owners. Presuming HERE invests sufficiently OEMs will have alternatives when it comes to mapping apps.

What makes the Play Store indispensable, on the other hand, are the millions of apps that reside there; to build an equivalent is not simply a matter of will and resources but of network effects: the more customers who use a particular app store, the more likely developers are to put their apps in that store, which will attract more customers and thus more developers in a virtuous cycle. And while the biggest factor in Google Play Store achieving this dominant position was its default inclusion in Android from the beginning, the effect I just described is a familiar one: aggregation theory.

Aggregation Theory and Antitrust

To briefly recap, Aggregation Theory is about how business works in a world with zero distribution costs and zero transaction costs; consumers are attracted to an aggregator through the delivery of a superior experience, which attracts modular suppliers, which improves the experience and thus attracts more consumers, and thus more suppliers in the aforementioned virtuous cycle. It is a phenomenon seen across industries including search (Google and web pages), feeds (Facebook and content), shopping (Amazon and retail goods), video (Netflix/YouTube and content creators), transportation (Uber/Didi and drivers), and lodging (Airbnb and rooms, Booking/Expedia and hotels).

The first key antitrust implication of Aggregation Theory is that, thanks to these virtuous cycles, the big get bigger; indeed, all things being equal the equilibrium state in a market covered by Aggregation Theory is monopoly: one aggregator that has captured all of the consumers and all of the suppliers.

This monopoly, though, is a lot different than the monopolies of yesteryear: aggregators aren’t limiting consumer choice by controlling supply (like oil) or distribution (like railroads) or infrastructure (like telephone wires); rather, consumers are self-selecting onto the Aggregator’s platform because it’s a better experience. This has completely neutered U.S. antitrust law, which is based on whether or not there has been clear harm to the consumer (primarily through higher prices, but also decreased competition), and it’s why the FTC has declined to sue Google for questionable search practices.

The European Commission, on the other hand, is much more concerned about protecting competitors with the assumption that will, in the long run, benefit consumers; it sounds like the same thing but as I noted last year, the way these approaches manifest themselves differ tremendously when it comes to aggregators:

Given that [aggregators’] “monopoly” is based on consumer choice it is highly unlikely that any of them will ultimately have antitrust problems in the U.S. absent a substantial shift in antitrust doctrine. And, on the flipside, it is very possible that all of them will ultimately have problems in Europe: Europe’s doctrine of prioritizing competition isn’t so much challenging U.S. tech company dominance as it is challenging the very structure of Internet-enabled markets.

That last line seems like an invitation to slam “Europe’s anti-tech thinking”, but actually I have a lot of sympathy for the Commission’s approach. One more implication of aggregation-based monopolies is that once competitors die the aggregators become monopsonies — i.e. the only buyer for modularized suppliers. And this, by extension, turns the virtuous cycle on its head: instead of more consumers leading to more suppliers, a dominant hold over suppliers means that consumers can never leave, rendering a superior user experience less important than a monopoly that looks an awful lot like the ones our antitrust laws were designed to eliminate.

The Microsoft Remedy

The problem is that by the time aggregators establish monopolies worth investigating under today’s antitrust laws there is little that can be done to change the facts on the ground. Whatever happens in this Android case, for example, will do nothing to diminish Google’s dominant position, just as prior action against Microsoft didn’t really diminish Windows, at least not in terms of browsers or media players.

It should be noted, though, that there was one remedy from the European Commission settlement with Microsoft that actually worked out quite well: Windows was required to document interoperability protocols for work group servers, which while designed for the benefit of established competitors like Sun, was actually more important for the open-source Samba project. Samba made it possible for non-Windows PCs and servers to be fully compatible with Windows-based networks, making it viable to use a Mac or Linux machine in corporate environments, or (more importantly) in corporate data centers, one of the first areas where the Windows monopoly started to come apart.

Of course Windows remained dominant on the desktop thanks to its application lock-in (i.e. a monopoly on suppliers); in an interesting what-if the U.S. nearly upended this as well. Originally the government demanded that Microsoft fully disclose and document all of its APIs, which would allow alternative operating systems to recreate them and thus run Windows applications with no modifications, removing the application lock-in. Instead the final settlement was much narrower:

Microsoft shall disclose to [relevant developers and other industry participants] for the sole purpose of interoperating with a Windows Operating System Product, … the APIs and related Documentation that are used by Microsoft Middleware to interoperate with a Windows Operating System Product.

Basically, Microsoft agreed to not favor their own software on Windows, leaving open source compatibility layers like Wine to reverse engineer Windows APIs, ensuring they would never achieve the degree of reliability Samba did.

The Problem of Implementation

Both of these approaches — interoperability and API disclosure — could be solutions when it comes to defusing the market power of aggregators:

  • Mandated interoperability would significantly reduce the switching costs for consumers as they could more easily compare services. For example, a meta ride-hailing app would significantly weaken Uber’s lockin, and the ability to export your social graph could better enable social competitors to arise.
  • API disclosure would have a similar effect on the supply side. Imagine if you could export your host ratings from Airbnb to a competitor, or your driver rating from Uber to Lyft (Albert Wenger has proposed something similar)

What, though, should be the standard that ensure these measures are effective before it’s too late? Perhaps a 200 million user threshold would trigger interoperability and API disclosure, which leads to the question of how do you define a user? Who audits that? And shouldn’t different industries have different numbers? Who exactly is going to figure that out and what assurances do we have they won’t suffer from regulatory capture? And then there’s enforcement — who ensures that the aggregators are actually opening up in good faith? After all, it took years and hundreds of millions of Euros to extract the interoperability standards undergirding Samba from a recalcitrant Microsoft insistent its intellectual property rights were being violated. And to be fair, Microsoft had a point: the company was being asked to not simply stop bad behavior or pay a fine but to effectively empower a competitor with their own IP.

Remember, though, that the entire point of enshrining intellectual property in the law is to spur innovation: as I’ve argued previously with regards to patents, technology with its high fixed costs and strong network effects has massive incentives that drive innovation; there is enough reward for being first that the preservation of intellectual property is less important than it may be in other industries. On the flipside, the danger of slow-moving regulators is even greater.

Is This Necessary?

Given that, perhaps the biggest question is whether or not we will look back in 15 years and wonder what the point was. Microsoft’s revenue may have had a long ways to grow back in 1998, but the truth is the company’s relevance to the industry had already peaked; that year their successor on top of the industry and — via the browser, on top of Windows — was founded in Palo Alto. It was named Google.

Similar, I have made the case that while Google may still grow, the company has peaked in relevance as well, eclipsed by Facebook. So sure, the European Commission can prosecute Google, but it won’t dent Android’s dominance, and it won’t deter whoever else has the problematic monopoly in the future.2 The incentives and feedback loops that drive towards domination are simply too strong (one could make the case that the most effective monopoly killer is the next monopoly).

To that end, there is no question that the broader point underlying Aggregation Theory holds: the (metaphorical) rules have changed, and it’s fair to believe that at some point the laws may have to as well. It won’t be easy, though, and the possibility of unintended consequences will be strong, particularly given the self-corrective resiliency tech has shown to date that provides a compelling argument for leaving well enough alone.

  1. Both figures on a trailing twelve-month basis []
  2. Maybe Facebook should hope that VR isn’t as mainstream as they claim it will be []

Apple’s Organizational Crossroads

Apple is unique, and I mean that objectively.

Forget about products for a moment, about which reasonable people can disagree. Leave aside the financial results, which certainly are unprecedented. And ignore the people you know so well: folks like Jony Ive or Jeff Williams or Phil Schiller, and the many talented workers underneath them. Rather, the very structure of Apple the organization — the way all those workers align to create those products that drive those exceptional results — is distinct from nearly all its large company peers.

The Unitary Organizational Form

Apple employs what is known as a “unitary organizational form” — U-form for short — which is also known as a “functional organization.” In broad strokes, a U-form organization is organized around expertise, not products: in the case of Apple, that means design is one group (under Ive), product marketing is another (under Schiller), and operations a third (under Williams, who is also Chief Operating Officer). Other areas of expertise represented by the members of Apple’s executive team include Software Engineering (Craig Federighi), Hardware Engineering (Dan Riccio), and Hardware Technologies (Johny Srouji).

What is most striking about that list is what it does not include: the words iPhone, iPad, Mac, or Watch. Apple’s products instead cut across the organization in a way that enforces coordination amongst the various teams:

functional

The benefits of this approach are well-known at this point, and captured in the name itself: “unitary” is a synonym for “integrated”. CEO Tim Cook has repeatedly extolled Apple’s ability to create integrated products that deliver a superior user experience, and former CEO Steve Jobs made clear in one of his final keynotes that to do so required more than wishful thinking:

[iPads] are post-PC devices that need to be even more intuitive and easier to use than a PC, and where the software and the hardware and the applications need to be intertwined in an even more seamless way than they are on a PC. We think we have the right architecture not just in silicon, but in our organization, to build these kinds of products.

This is why the very first thing that Jobs did when he returned to Apple, even before he famously pared the product line down, was to reorganize the company functionally; then again, perhaps the distinction is meaningless — a functional organization and a simplified product line go hand-in-hand.

Why the Multi-Divisional Form Was Invented

Back in 2013 when Steve Ballmer reorganized Microsoft to be (somewhat more) functional, I criticized the move in a piece entitled Why Microsoft’s Reorganization is a Bad Idea;1 as an introduction I described how the “multi-divisional form” — M-form, or divisional organization — came about:

DuPont, the famous chemical company, was actually built on gunpowder. Founded in the early 1800s, DuPont was a small family concern until the early 1900s, when Pierre DuPont modernized and organized the company around functions: primarily sales and manufacturing. The structure served DuPont well, particularly in World War I, when in response to overwhelming demand DuPont vertically integrated its supply chain, and grew to become one of the largest companies in the world.

After the war, DuPont needed to diversify, and paint, which involved a similar compound to gunpowder, was the area they chose to focus on. Yet, despite the fact DuPont was perhaps the most professionally run corporation in America, losses soared. Eventually, a disconnect between sales and manufacturing was identified as the root cause, and the cure was a new organization around two separate gunpowder and paint divisions.

The deeper details of Dupont are quite interesting, and worth getting into: in short, the entire reason Dupont started making paint was that the manufacturing process was very similar to gunpowder; the problem is that gunpowder sold on a tonnage basis to huge buyers (like the army), while paint was sold to individual customers in stores. The product may have been very similar but the business model was entirely different. The end result was that Dupont was using a sales and marketing organization that was built around selling to large customers to get their paint into retail stores, and it was massively inefficient; the more paint Dupont sold, the more money they lost.

The solution was, as noted in the excerpt, divisions organized around gunpowder and paint, each with their own sales and marketing teams, their own manufacturing heads, and their own quasi-CEOs with their own profit-and-loss responsibilities. And, as you might suspect, it was a massive success that has since been copied by nearly every large organization.

Except, of course, Apple.

Apple the Services Company

In January, in their Q1 2016 earnings call, the prepared remarks of Apple CEO Tim Cook and CFO Luca Maestri took a surprising turn: an extended amount of time was spent making the case that Apple was a services company. Cook stated:

Especially during a period of economic uncertainty, we believe it is important to appreciate that a significant portion of Apple’s revenue recurs over time…a growing portion of our revenue is directly driven by our existing install base. Because our customers are very satisfied and engaged, they spend a lot of time on their devices and purchase apps, content, and other services.

Maestri was much more to the point — these were the first words out of his mouth:

Each quarter, we report results for our Services category, which includes revenue from iTunes, the App Store, AppleCare, iCloud, Apple Pay, licensing, and some other items. Today, we would like to highlight the major drivers of growth in this category, which we have summarized on page three of our supplemental material.

That supplemental material is here, and the fact it even exists underscores how serious Apple is about this narrative. And frankly, they have reason to be: while the iPhone remains in a very strong position that I believe will return to growth next fiscal year, that growth will be far more tepid than it has been to date: all of the “low-hanging fruit” — new markets, new carriers, new screen-sizes — is gone, and the real competition for Apple are the still very-good iPhones their customers already have. To that end, making more and more money off of those preexisting customers is the natural next step in Apple’s growth.

The problem for Apple is that while iPhones may be gunpowder — the growth was certainly explosive! — services are paint. And, just as Dupont learned that having a similar manufacturing process did not lead to similar business model, the evidence is quite clear in my mind that having iPhone customers does not mean Apple is necessarily well-equipped to offer those customers compelling services. At least not yet.

The Difference Between Devices and Services

I suggested at the beginning of this piece that to objectively claim that Apple is unique you needed to think beyond products, but in fact I do believe that Apple’s products — their devices anyways — are superior, particularly if you value the finer details of industrial design, build quality, and little UI details like scrolling and responsiveness that seem so simple but are so hard to get right.2 And, frankly, it’s not surprising that Apple is good at this stuff for the exact reasons laid out above: everything about the company is designed to produce integrated devices that don’t sacrifice perfection for the sake of modularity.

The problem is that everything that goes into creating these jewel-like devices works against being good at services:

  • You only get one shot to get a device right, so all of Apple’s internal rhythms and processes are organized around delivering as perfect a product as possible at a specific moment in time.

    Services, on the other hand, which are subject to an effectively infinite number of variables ranging from bandwidth to device capability to hacking attempts to data integrity to power outages — the list goes on and on — can never be perfect; the ideal go-to-market is releasing a minimum viable product that is engineered for resiliency and then updated multiple times a week if not multiple times a day. The rhythms and processes are the exact opposite of what is required to build a great device.

  • As Apple is happy to tell you, a superior experience on a device comes from integration: the software can be tailored to the hardware, all the way down to the component level; this is why Apple designs their own system-on-a-chip hand-in-hand with iOS. Integration to this degree, though, is only possible when there is a static endpoint: the device that goes on sale to the public.

    In the case of services, though, which develop organically and iteratively, an integrated approach is unworkable: you can’t build everything from scratch multiple times a day. Rather, an effective set of services are modular in the extreme: different capabilities snap together like lego blocks to deliver different types of experiences, and each of those capabilities can be iterated on without disrupting the end product.

  • The fact that smartphones are such an important part of people’s lives, combined with the fact that physical objects can have additional consumer benefits like status, enables Apple to sell each iPhone with a huge amount of margin. However, not everyone values smartphones that much, or has the willingness to pay, which means Apple has to be ok with not serving the entire market; after all, to make a single iPhone costs money that has to be made up for in the purchase price.

    Services, though, have a very different business model. First, there is precious little evidence that consumers are willing to pay more than a nominal amount for services (if that!), which means the most profitable services make money through volume. Secondly, services are effectively free on a marginal basis; the real costs are fixed, which means that services business have a strong economic imperative to reach as many people as possible.

These differences get at the very fundamental reasons why Apple struggles with services: it’s not that the company is incompetent, but rather that the company is brilliant — brilliant at making devices, which require completely different business structures and incentives.

Apple’s Services Problem

Late last week news broke that Apple was considering adding search ads to the App Store. I detailed yesterday why I think this is less of a big deal for the industry than either advocates or detractors believe, but I do think this is a very big deal for what is says about Apple: namely, that the company is serious about building out its services business.

The question, though, is how serious; App Store search ads will be a relatively easy thing to implement, just as the App Store itself was in many respects an obvious — yet still revolutionary — addition to the iPhone.3 It’s worth noting, though, how poorly the App Store is generally run: Apple is not, in my estimation, deriving nearly the amount of strategic value they should be from the App Store. The iPhone and iPad should be home to an increasingly sophisticated and exclusive cadre of high-powered applications that make the idea of choosing another platform unthinkable, but sadly, such applications have no business model because of App Store policies.

Apple Music is in worse shape: the extent to which the product is succeeding is largely due to its tie-in with Apple’s hardware; however, were the service held to the same ease-of-use, fit-and-finish, and profitability standards of said hardware there would be panic in Cupertino.

Cloud services, meanwhile, are still less reliable than Apple’s competition, and the integration — Apple’s supposed strength! — with Apple’s software is at best a source of irritation and at worst very worrisome from a security perspective: little things like constantly being prompted to enter one’s password are not only annoying but also corrosive when it comes to what should be a healthy skepticism about sharing the keys to your life.

The problem in all these cases is that Apple simply isn’t set up organizationally to excel in these areas:

  • Apple values integration and perfection, which results in too many services being over-built and thus more difficult to iterate on or reuse elsewhere
  • Service releases (and software) are not iterative but rather tied to hardware releases
  • Apple’s focus on secrecy means many teams end up building new services from scratch instead of reusing components

The root problem in all these cases is the lack of accountability: as long as the iPhone keeps the money flowing and the captive customers coming, it doesn’t really matter if Apple’s services are as good as they could be. People will still use the App Store, Apple Music, and iCloud, simply because the iPhone is so good.

What they won’t do, though, is use Apple Pay: an extension of Apple’s unitary vision (and another manifestation of the problems underlying my critique of the App Store) is a struggle to partner effectively, particularly with vast ecosystems driven by incentives, not backroom deals. Apple Pay could be the foundation for a tremendous amount of value but Apple isn’t doing the grunt work to get it off the ground (iMessage fits here as well).

You can see the same pattern with HomeKit, or Siri: the Amazon Echo is quietly taking over the home automation market with a simple API that is easy-to-integrate with and easy-to-understand; Apple, meanwhile, has yet to announce a Siri API even as it struggles to deliver natural language interaction that is simply not what the company is good at.

Both examples are even more worrisome when you consider Apple Watch: the Watch will truly realize its value when it becomes the key to interacting with your environment; getting there, though, means nailing services, partnerships, and APIs that are good, not perfect.

How Apple Can Excel at Services

The solution to all these problems — and the key to Apple actually delivering on its services vision — is to start with the question of accountability and work backwards: Apple’s services need to be separated from the devices that are core to the company, and the managers of those services need to be held accountable via dollars and cents.

This last point is surely anathema to Apple: the company famously only has one P&L4 — the number it delivers to Wall Street — and I absolutely agree that is foundational to Apple’s success. Removing the position of Senior Vice President of iPod made it far easier to obsolete it with the iPhone,5 and the fact there was no Senior Vice President of the Mac made it easier to come out with the iPad. Apple has displayed a remarkable unity of purpose that is only truly possible with a unitary organization, which is exactly why restoring that structure was Jobs’ first move upon his return.

But again, Jobs’ next move was slashing the product line, and that wasn’t only for reasons of focus and customer confusion: the fact is that unitary organizations do not scale to different business models, and if Apple is truly serious about services — and the existence of the relatively cheap yet full-featured iPhone SE suggests they are — they need to follow Dupont’s example.

Apple will not fix the services it already has, or deliver on the promise of the services its hardware might yet enable, unless a new kind of organization is built around these services that has a fundamentally different structure, different incentives, and different rhythms from Apple’s device teams. You don’t make great products because you want to make great products; you make great products by creating the conditions where great products can be produced.

Apple’s Dupont Moment

To be honest, I’m not sure Apple has it in them; indeed, Dupont nearly didn’t. Listen to these passages from Richard Tedlow’s book Denial and see if they ring familiar:

Irénée du Pont did not like this proposal [to organize the company by divisions], despite the fact that it came from his top people — seasoned executives all. It violated the “principle of specialization,” which had served DuPont so well. Irénée was still wedded to the idea of functional rather than product specialization…

Middle management — the men closest to the problems and seeking practical solutions for them — felt one way. Top management — which had created the modern DuPont company and seen that creation grow to un-imagined wealth and size — felt another…

Four years ago, Cook told a Goldman Sach’s investment conference:

They’re not things where we run separate [profits and losses] on, because we don’t do that — we don’t believe in that. We manage the company at the top and just have one [profit and loss] and don’t worry about the iCloud team making money and the Siri team making money. We want to have a great customer experience, and we think measuring all these things at that level would never achieve such a thing…

Apple is this unique company, unique culture that you can’t replicate. And I’m not going to witness or permit the slow undoing of it, because I believe in it so deeply. Steve grilled in all of us, over many years, that the company should revolve around great products, and that we should stay extremely focused on few things. Rather than try to do so many that we did nothing well.

Unlike many, I’m not bothered that Apple sells multiple variations of iPhone, iPads, etc. Scaling to variations is simply a matter of money and experience, which Apple has in spades. Services, though, are a fundamentally different problem that require a fundamentally different organization. If Apple is serious about services, then Cook’s promise that Apple would stay “extremely focused” is an empty one, and the insistence on a single type of organizational structure changes from enhancing Apple’s quality to actively detracting.6

Tedlow concluded:

It is extraordinarily difficult to bring about change in a big company. Leadership, it has been said, consists of using minimum problems to create maximum positive change. By that standard, DuPont did well, but it could have done better. Only when the firm was on the brink of disaster, in the midst of a crisis produced by one of the worst years in its history, was it able to reconcile itself to the fact that yesterday’s structure was acting as a barrier against rather than an avenue toward tomorrow’s strategy.

Something has to give: either what makes Apple Apple, or Apple’s newfound ambitions; the measure of Cook’s leadership will be how long it takes for him to stop straddling the fence.

  1. If you’re interested in this topic you can also read the followup: The Uncanny Valley of a Functional Organization []
  2. If you disagree, that’s ok! I also believe that if you value things like flexibility and integration with services — which I’m getting to — that Android phones (which I own and use regularly) are better; furthermore, I am well aware of and have written extensively about what I and many others perceive as Apple’s declining software quality. Please bear with me here. []
  3. To clarify, the implementation of the App Store was brilliant; the idea of allowing 3rd-party apps was obvious []
  4. Profit and loss, the metric on which divisional managers are measured []
  5. Tony Fadell left (with, reportedly, not much effort to keep him) after losing out to Scott Forstall’s vision of the iPhone, and it is telling that Apple has not had a product-centric executive member since []
  6. One important thing to note: Apple’s Retail division is a separate division with its own organizational structure and own P&L; Ron Johnson knew that was necessary to make the division work []

Facebook, Phones, and Phonebooks

It was a bit surreal to see Facebook founder and CEO Mark Zuckerberg traipsing around the F8 stage carrying an “engine pod” for a Facebook drone designed to beam the Internet to the one billion people Zuckerberg said could not be online due to a lack of access. Zuckerberg himself clearly felt the same way, remarking that “If you had told me 12 years ago that one day Facebook was going to build a plane, I would have told you that you were crazy.”

Still, it makes sense: Facebook has from day one been about getting people online.

Thefacebook

Twelve years ago Zuckerberg started Thefacebook — the company would switch its name a year later — at Harvard as the online version of the freshman facebook that Harvard distributed in print; to join you had to have a Harvard email address and use your own name. But of course you wanted to do exactly that: as Amelia Lester, who would go on to be the long-time managing editor of The New Yorker, wrote in a remarkably insightful column in The Harvard Crimson:

The thefacebook.com scene includes reams of carefully coiffed, immaculately manicured, evening-garbed Harvard students grinning eagerly on page after page as we present our own ideal image of selfhood to fellow browsers…every profile is a carefully constructed artifice, a kind of pixelated Platonic ideal of our messy, all-too organic real-life selves who don’t have perfect hair and don’t spend their weekends snuggling up with the latest Garcia Marquez…There are plenty of other primal instincts evident at work here: an element of wanting to belong, a dash of vanity and more than a little voyuerism probably go a long way in explaining most addictions (mine included). But most of all it’s about performing — striking a pose, as Madonna might put it, and letting the world know why we’re important individuals.

For the next several years, that’s all Thefacebook was: a collection of profile pages that gave individuals the opportunity to present their best selves for the perusal and approval of those in their network. And people could not get enough: Thefacebook methodically spread from college to college, usually signing up the vast majority of students in a matter of weeks if not days.

The phenomenon, according to The Facebook Effect author David Kirkpatrick, was surprisingly one that didn’t appeal that much to Zuckerberg. Kirkpatrick wrote:

Ironically, Zuckerberg was not a heavy user of Thefacebook. Nor, in fact, were any of its founders and early employees. [The summer of 2004] the interns, working with Moskovitz, started to gather data on how people actually used the site. They found that some users were looking at hundreds and even thousands of profiles every day. These were the users they were designing for.

Kirkpatrick noted that Zuckerberg was splitting his time between Thefacebook and a service called Wirehog that enabled peer-to-peer sharing amongst Thefacebook users, something that Zuckerberg was much more interested in personally. Zuckerberg would eventually be persuaded to give up the side project, but this would not be the last time Zuckerberg’s interest in sharing would seem to run counter to Thefacebook’s focus on enabling people to put themselves — their best selves — online.

The Power of Identity

As Lester astutely noted, the identity we build for ourselves on Facebook is our own projection of how we want others to see us, and it has been core to the service from the beginning. Kirkpatrick writes:

Perfecting the details of your own profile in order to make yourself a more attractive potential friend occupied a considerable amount of time for many of these newly networked Ivy Leaguers. Find exactly the right picture. Change it regularly. Consider carefully how you describe your interests. Since everyone’s classes were listed, some students even began selecting what they studied in order to project a certain image of themselves. And many definitely selected classes based on who Thefacebook indicated would be joining them there…Your “facebook,” as profiles on the service began to be called, increasingly became your public face. It defined your identity.

Moreover, Zuckerberg was insistent from the beginning that said identity not be split. Kirkpatrick again:

“You have one identity,” [Zuckerberg] says emphatically three times in a single minute during a 2009 interview. He recalls that in Facebook’s early days some argued the service ought to offer adult users both a work profile and a “fun social profile.” Zuckerberg was always opposed to that. “The days of you having a different image for your work friends or co-workers and for the other people you know are probably coming to an end pretty quickly.”

The power of this approach cannot be overstated: as Lester observed, from a product perspective both vanity and voyeurism are powerful drivers of engagement. It’s also a goldmine when it comes to advertising: the lead that Facebook has over everyone, including Google, when it comes to targeting advertisements is huge. The service knows exactly who you are, exactly what you like, exactly where you live, work, and went to school, all because you told them yourself. And yes, some of your “interests”, particularly in those early days, may have been more aspirational than realistic, but from an advertiser’s perspective, all the better: aspiration is exactly what they sell.

The News Feed Rubicon

It was ten years ago, in September 2006, that Facebook became the product we know today: that is when the News Feed was introduced. Now, instead of needing to proactively visit the profile pages of all your friends to discover what had changed, Facebook would use an algorithm to proactively tell you what changes you might be interested in.

The effect of the News Feed was massive: engagement immediately skyrocketed from already unseen levels, and I have previously argued that the algorithmic nature of Facebook’s feed was a core reason why the service squashed Twitter. Even more important is what the News Feed meant to the bottom line: a feed is the best place to place advertising, especially on mobile, and Facebook has spent the last several years drawing down its old display ad inventory even as News Feed ads continue to grow both in inventory and in price.

The News Feed, though, came at a cost: while Facebook information had always been public to your network,1 the fact that what you posted was being pushed out to people who were “Facebook Friends” but not necessarily real friends was a wake-up call to Facebook users. There were immediate protests, which Facebook rather astutely tamped down, but the longer-term repercussions were real. Kirkpatrick notes:

When people can see what you are doing, that can change how you behave. The reason the News Feed evoked something as intrusive as stalking was that each individual’s behavior was now more exposed. It was as if you could see every single person you knew over your backyard fence at all times. Now they could more easily be called to account for their actions.

Over the next several years a rash of incidents in which people lost their jobs, were denied entry to college, or simply got in hot water with someone close to them were a common media trope. President Obama told a group of high school students in 2009, “I want everybody here to be careful about what you post on Facebook.”

Facebook’s Closed Door

The core of Facebook’s value is its ownership of identity of every person online. To that end, while a drone plane may have been unimaginable in 2004, it fits: the only thing lacking when it comes to Facebook’s role as the Internet phone book are the missing entries for the 4 billion people who are not yet online.

In fact, the most unbelievable part of Zuckerberg’s presentation came a few minutes later, when he discussed Live Video:

People love going live because it’s so unfiltered and person and you feel like you’re just there hanging out with your friends. In a funny way, we’ve found that Live takes some of the pressure off of having to find that perfect photo or video, because everyone knows that it’s live and it’s not curated.

There is, in the subtext of Zuckerberg’s description, an acknowledgment of the need to project your best self that has always been at the root of Facebook, something the News Feed changed from an incentive to an imperative. It is the very thing that fueled the rise of Snapchat, and make no mistake, the selfie-sharing app has Facebook spooked.

Last week The Information reported that Facebook was struggling to stop the decline in “original” sharing — content that users generate themselves, as opposed to sharing a link or a viral video. Bloomberg added a day later:

People have been less willing to post updates about their lives as their lists of friends grow…Instead, Facebook’s 1.6 billion users are posting more news and information from other websites. As Facebook ages, users may have more than a decade’s worth of acquaintances added as friends. People may not always feel comfortable checking into a local bar or sharing an anecdote from their lives, knowing these updates may not be relevant to all their connections.

According to one of the people familiar with the situation, Facebook employees working on the problem have a term for this decline in intimacy: “context collapse.” Personal sharing has shifted to smaller audiences on Snapchat, Facebook’s Instagram and other messaging services.

This is the price of owning identity — of owning all the value that Facebook generates from advertising in its News Feed — and there is no going back.

The Bifurcation of Social

It is increasingly clear that there are two types of social apps: one is the phone book, and one is the phone. The phone book is incredibly valuable: it connects you to anyone, whether they be a personal friend, an acquaintance, or a business. The social phone book, though, goes much further: it allows the creation of ad hoc groups for an event or network, it is continually updated with the status of anyone you may know or wish to know, and it even provides an unlimited supply of entertaining professionally produced content whenever you feel the slightest bit bored.

The phone, on the other hand, is personal: it is about communication between you and someone you purposely reach out to. True, telemarketing calls can happen, but they are annoying and often dismissed. The phone is simply about the conversation that is happening right now, one that will be gone the moment you hang up.

In the U.S. the phone book is Facebook and the phone is Snapchat; in Taiwan, where I live, the phone book is Facebook and the phone is LINE. Japan and Thailand are the same, with a dash of Twitter in the former. In China WeChat handles it all, while Kakao is the phone in South Korea. For much of the rest of the world the phone is WhatsApp, but for everywhere but China the phone book is Facebook.

This isn’t a bad thing; indeed, it is an incredibly valuable thing: Facebook’s status as a utility is exactly what makes the company so valuable. It has the data to target advertising and the feed in which to place it, and it is difficult to imagine any of the phone companies overtaking it in value.

This is why I wrote almost exactly a year ago that Facebook should embrace its position as being something more than just a social network. From Facebook and the Feed:

It’s not inconceivable that, at some point in the relatively near future, it is Facebook that is the default advertising medium, commanding dollars that exceed its already dominant share of attention. Still, this outcome depends on Facebook driving ever-more engagement, and I’m not convinced that more “content posted by the friends [I] care about” is the best path to success.

Everyone loves to mock Paul Krugman’s 1998 contention about the limited economic impact of the Internet:

The growth of the Internet will slow drastically, as the flaw in “Metcalfe’s law”–which states that the number of potential connections in a network is proportional to the square of the number of participants–becomes apparent: most people have nothing to say to each other!

It’s worth considering, though, just how much users value what their friends have to say versus what professional media organizations produce…Was Krugman wrong because he didn’t appreciate the relative worth people put on what folks in their network wanted to say, or because he didn’t appreciate that people in their network may not have much to say but a wealth of information to share?

I suspect that Zuckerberg for one subscribes to the first idea: that people find what others say inherently valuable, and that it is the access to that information that makes Facebook indispensable. Conveniently, this fits with his mission for the company. For my part, though, I’m not so sure. It’s just as possible that Facebook is compelling for the content it surfaces, regardless of who surfaces it. And, if the latter is the case, then Facebook’s engagement moat is less its network effects than it is that for almost a billion users Facebook is their most essential digital habit: their door to the Internet.

In that piece I said that Facebook had a choice: try to restore its ownership of personal updates, or embrace its status as a utility. Here’s the funny thing about choices, though: all too often the choice is not about choosing one path or another, but about accepting reality sooner rather than later.

The truth is that Facebook chose its path way back in 2004, and cemented it in 2006: it was the place you publicly shared your identity with the world, and you had best take care exactly what that identity was. No amount of live video or original sharing prompts will change that reality, and that’s ok. If anything the real danger to Facebook is that the act of banging their collective head on a closed door will start to damage the utility of, well, their utility.

Clearly there are parts of Facebook that get this: David Marcus, for example, is pursuing a very smart strategy in his attempt to position Messenger as a transaction medium between businesses and individuals. It plays perfectly to Facebook’s strengths, and as WeChat has demonstrated in China, it can be very lucrative. Still, though, for all of the brilliance and strategic acumen he has shown to date, I worry about Zuckerberg. He opened his keynote with a surprisingly political plea to avoid the Trump-ian rhetoric around building walls:

If the world starts to turn inwards, then our community will just have to work even harder to bring people together. That’s why I think that the work that we’re all doing is so important, because we can actually give more people a voice. Instead of building walls we can help people build bridges, and instead of dividing people we can help bring people together. We do it one connection at a time; one innovation at a time; day after day after day. And that’s why I think the work that we’re all doing together is more important now than it’s ever been before.

Leaving aside the irony that Facebook has arguably played a role in Trump’s rise, the reality is that not everyone wants to build bridges all the time. Zuckerberg’s insistence that every individual on Facebook have one identity may have been a masterstroke when it comes to building value, but the truth is each of us contains multitudes: there are parts we want to show the world, and parts we want to show only our closest friends, and the sooner Facebook accepts they can’t have everything the more valuable the parts they own will become.

  1. And Facebook actually included relatively granular privacy controls from the start []