Is artificial intelligence a threat or an opportunity for Google? It’s quite the dilemma for shareholders in Alphabet (GOOGL.O), the internet search giant’s parent. There’s the immediate question of whether AI-based chatbots will direct users to better information more quickly, but a deep and lucrative relationship with Apple (AAPL.O) presents the bigger financial risk.
The $1.9 trillion company run by Sundar Pichai has captured nearly the entire market for online search since its inception in 1999, punishing competitors including Microsoft’s (MSFT.O) Bing along the way. Until recently, its defenses looked impenetrable. Google’s share of the worldwide search market was 99% in 2021, according to data aggregator Similarweb.
Small cracks are beginning to show, however, as Microsoft and start-ups such as OpenAI roll out competing products using artificial intelligence. Between early 2022 and late 2023, Google’s market share fell three percentage points. The decline may be small, but it’s meaningful, especially given how quickly it happened after years of unwavering command over the industry. It suggests that web surfers are open to experimenting with alternatives.
In some ways, Google’s search engine is a victim of its own success. Users entering a query now regularly must scroll past sponsored links before getting to the top results. And even those results may be less useful because companies invest so much money nowadays to ensure Google’s algorithm features their pages. This business model is what has helped open the door for AI challengers, which tend to provide a single and direct answer to a question rather than pages of URLs.
Google’s incumbency is a big strength, too, when it comes to warding off wannabe contenders. Upstarts have to break ingrained habits where “Googling” has become synonymous with looking for something online. More significantly, Google has access to the essential resource needed to build the large-language models that form the basis of AI systems: data. Alphabet’s pockets are also very deep, having already plowed some $280 billion of capital expenditure into data centers and related artificial-intelligence projects, almost twice as much as Facebook owner Meta Platforms (META.O), according to Barclays analysts. Moreover, the overall internet pie will keep growing, as AI lures people into using their smartphones, PCs and other devices an average of 170 times daily, up from 120 times now, the analysts predict.
The uncertain economics of AI-powered searches are another factor in Google’s favor. Its search engine is free to users, while advertisers pay to reach them. The same approach does not work as easily for AI-based chatbots, which synthesize information when responding to a query. Costs are another issue. An exchange with an AI chatbot probably costs 10 times more than a standard keyword search, Alphabet Chairman John Hennessy told Reuters last year.
New products promising more tailored results, such as Perplexity AI, are charging users. But there is a limit to how many of them will pay for the privilege. Google itself is illustrative.
The company recently introduced a premium version of Google One, its cloud-storage service that offers various fee-based plans. Pichai said earlier this year that the service has about 100 million subscribers. Assume roughly 20% of those already paying for packages upgrade to the version that charges $20 a month for Gemini AI, and Alphabet would add just $480 million in incremental revenue, according to Stifel analysts. The sum represents about 0.1% of the company’s estimated top line for this year, based on estimates compiled on LSEG.
Moreover, Google’s ventures into AI have not all been smooth so far either. In February, its image-generation tool prompted widespread ridicule after spitting out inaccurate pictures of historical figures. The company put the initiative on pause.
All these competing pressures are reflected in Alphabet’s stock price. Its value has increased by more than 40% over the past six months, outpacing the S&P 500 Index (.SPX) by about 10 percentage points. But shares in other AI-boom beneficiaries, including Microsoft and Meta, have risen even faster.
The biggest threat to Alphabet’s business may yet come from $2.6 trillion Apple, whose iPhone users deliver an outsized amount of search revenue. Being the handset’s default search engine helps. Apple users are a wealthy bunch, too, making them especially valuable. A 2018 study by University of Chicago professors found that owning an Apple product was the strongest indicator of a person with high income. It’s what makes the business relationship so lucrative.
Apple’s smartphones will account for about 60% of the company’s search revenue in 2024, or about $118 billion, the Barclays analysts estimate, despite that it brings in a much smaller share of queries. Their calculation includes both users who specifically choose Google and ones that come through Apple’s Safari, which uses Google as its default. According to witness testimony in an antitrust trial last year, Alphabet sends back to Apple almost 40% of what it earns from these referrals.
The risks to this highly profitable arrangement are twofold. First, dogged trustbusters in the United States or Europe could succeed in forcing Apple to open its search queries to rivals. Alphabet might still capture some of those users on its own, but simply having a deal in place that surrenders such a large share of the economics implies the company sees great value in the relationship. Apple could also start directing iPhone users to its own AI-based search tool using an improved Siri chatbot. The company’s music service is testimony to its clout with customers: It has captured about a third of streaming music subscribers globally, according to Midia Research, even though rival Spotify Technology (SPOT.N) focuses exclusively on audio services.
Even as these challenges mount, the two technology titans are taking steps to shore up their partnership. For example, Apple is in talks to build Google’s Gemini AI engine into the iPhone, Bloomberg reported last month. Despite such indications of cooperation, there are more reasons for them to be at odds with each other, providing a worrisome answer to the question about Google’s future in the age of AI.
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