The Toothbrush Test and Other Reasons Tech Companies Make Acquisitions
A quick peek into the acquisitions made by major technology companies reveals some startling details. From Facebook's acquiring WhatsApp for a whopping $19 billion to Google's acquisition of relatively smaller, modest players for an undisclosed amount of money, acquisitions made by technology companies always pique curiosity. What goes into a company's decision to acquire another company?
Before Google decides to make an acquisition, its seemingly novel way to evaluate the decision is the toothbrush test. The toothbrush test asks the question: "Is the product the target company makes something people will use at least once a day, and that makes their lives better?"
It may seem like Google has oversimplified the complex decision-making process of acquiring companies, but a quick look at some of the companies that Google acquired in 2014 reveals the truth. Earlier this year Google acquired Nest Labs, which makes the next generation of thermostats. Google also acquired Word Lens, an augmented reality app used by travelers to translate signs into their native language. Will both of these acquisitions pass the toothbrush test? Yes, they will.
Like Google, Apple is known to keep in mind a longer term view of customers and market. Apple's acquisition of Beats Music is largely attributed to the projection that streaming will account for 70 percent of digital music revenue by 2019. This is quite a shift from the way Steve Jobs once referred to acquisitions as a "failure to innovate." Though Apple is still more conservative than Google when it comes to acquisitions, under Tim Cook they seem to think about acquisitions with a long-term vision.
Facebook's acquisition of WhatsApp received attention because of the huge sum involved, and that acquisition helped Facebook overcome a fear of irrelevancy. Being an ad-free and largely free service, WhatsApp may not add to Facebook's revenues immediately. In a recent interview, Mark Zuckerberg mentioned that he is fine with his newer products and services not moving the needles in the business for a long time. More than earning immediate revenue, the WhatsApp acquisition has helped Facebook remain a leader in social networking.
Amazon's acquisition of The Washington Post raised eyebrows because it was an amalgamation of somewhat unrelated sectors. However, these examples give a glimpse into the world of technology acquisitions in which key players value profitability less than customer utility—the long term view more than near term gains—and acquiring talent instead of just technology.
One can argue that given the massive cash reserves of these technology companies, it is easier for them to experiment and to think about the long term, but it still takes an appetite for risk-taking and new-age thinking to undertake such bold approaches.