When Facebook acquired WhatsApp last week, it set itself apart from earlier generation technology leaders like Apple and Microsoft. Facebook has decided that it wants to own the social space now, as well as in the future, and is willing to pay an ostensibly high price to ensure owning rising players who may one day challenge them. By contrast, Apple and Microsoft believed they could catch up and surpass new entrants (and were both often, but not always, correct) and therefore rarely paid a premium for acquisitions. We will return to this theme in a future blog by speculating who Microsoft could buy to help ensure more control over its domain going forward.

For now, WhatsApp’s acquisition led me to think about Google’s next acquisition. Since Google has ironclad control over its core domain, search, one M&A strategy is to expand into new areas of opportunity rather than to acquire next generation competitors (as there aren’t any). What market offers a large enough opportunity to tempt Google? Autos. The worldwide 2013 auto market totaled about $2 trillion, enough to stimulate Google’s interest. But Google will need to leapfrog existing auto technology to have an advantage versus entrenched competition. Technology has progressed to the point where this is possible.

After years of only incremental improvements, the car industry is approaching a period of fundamental change. Over the next few decades, cars appear likely to become more autonomous and will rely completely on battery power. Google has seized the chance to become the early leader in technology for Autonomous Cars (ACs), or vehicles that drive themselves. But their beta test required using third-party cars and enhancing them with Google technology. This limits Google’s ability to fully optimize the finished product. Google also does not have the battery technology to create an Autonomous Electric Car (AEC), which I think will be the car of the future. Leading the transformation may require the capability of building one’s own cars.

There is one auto company that has many of the characteristics that make it an ideal acquisition target for Google: Tesla. If Google acquired Tesla, it could accelerate the development of the AEC. Google would have access to Tesla’s advanced battery technology, state of the art manufacturing, and brilliant engineers which, combined with their own technology and innovative atmosphere, would provide a strong foundation for developing and implementing the features needed in, and desired of, an AEC. Because Tesla is so advanced in its manufacturing and in the introduction of technology within a car, it will provide Google with the strongest opportunity to create an AEC that is attractive at a marketable price.

The two key technologies in an AEC are the battery and Lidar (laser radar). Google has taken ordinary cars from Toyota, Audi and Lexus and outfitted them with about $150,000 in equipment to convert them to robotic cars. The Lidar system consumes about $70,000 of that. Lidar is a remote sensing technology using lasers to help create a detailed 3D map of a car’s surroundings. This information plus the GPS system location data and Google’s high resolution maps are then fed into algorithms that control the car’s movement. In a way this is just a much (much) more sophisticated version of the robotic vacuum cleaner, the Roomba. The Roomba, now in millions of homes, maps the layout of a room and then determines a route to clean the floor that insures full coverage while traversing a relatively minimal distance. Of course the Roomba travels at a fraction of the speed of a car and won’t hurt anyone if it crashes. Similarly, a more sophisticated version of Roomba, Anki has already proven that the robotics and AI technology for self-driving cars is possible. The Anki application is currently in toys but certainly foreshadows the potential for ACs.

Already, today’s cars have AEC features. For instance, Ford has a few models that will self-park, even in a tight space. Radar, cruise control and GPS now come standard or as an option in most cars. And a few even have adaptive cruise control which slows the car down when it gets too close to a car ahead.

Why Autonomous Electric Cars (AECs) will Transform the Automobile Industry

Two of the most important drivers of change are cost savings and user benefits. Assuming the technology is perfected, AECs offer multiple ways to achieve both. Cost savings will result from fewer accidents as the AEC won’t get drunk, won’t fall asleep, and won’t misjudge a turn. According to the World Health Organization, traffic accidents worldwide cause 20 to 50 million injuries and 1.24 million deaths each year plus hundreds of billions of dollars in damages to autos and other property. The cost of a traffic accident persists long after the accident is over in the form of insurance claims, legal disputes, etc. If AECs are dominant, traffic can be automatically routed, resulting in reduced congestion and fuel consumption. Taxis and trucks might not require a driver creating labor savings.

Further savings are generated by combining electric car and autonomous car technology. Tesla claims their cars consume about one cent of electricity per mile. Assuming a gas propelled car gets 50 miles/ gallon and gas prices average only $6.00/gallon over the next 5 years, the electric car would save about 90% in fuel cost. As the population converts to electric cars, demand for oil should decline leading to slower growth in gas prices. Additionally, a battery- powered car has far less maintenance – unlike the internal combustion engine, which requires pumping the accelerator, a spark control to advance and throttle linkage to pre-set before starting. The Tesla motor has only one moving piece: The rotor. Many of the drivers of cost savings also provide non-financial benefits to the user. Reductions in traffic accidents have the obvious benefit of reducing personal injury and death. Do people who claim they love to drive really find it great during rush hour? I find it stressful and a depleter of energy better deployed elsewhere. And, who wouldn’t love to have your car drive itself to the shop for maintenance and repairs? The combination of hundreds of billions of dollars of cost savings, prevention of millions of deaths and injuries, and making life easier makes the conversion to AECs inevitable. The cost and reliability are not there yet. We are in the early innings of this change with various features coming to market but no complete products. And like every new technology when it first reaches the market, the cost of early AECs will be quite high. Given the multi-year time frame required to create new car models, it could easily take several decades for AECs to be the standard on the road. But we believe the right pairing of players (Google and Tesla) could claim at least 5% of dollars in the auto market within 10 years – about $100-200 billion in revenue.

Disclosure: Mike owns both Tesla and Facebook stocks, but in the case of Tesla, has sold options against the position eliminating further upside.