Philip Pilkington: Facebook – The Second Birth of a Mighty Titan or the Withering of a Weary Giant?

By Philip Pilkington, a writer and journalist based in Dublin, Ireland

Over the past few days Facebook has once again been getting an awful lot of attention. The Facebook company, of course, loves the attention. After all, Facebook’s business model is almost entirely built upon the amount of attention they can garner for themselves.

But the attention Facebook are now getting seems less positive than usual. Where there was nothing but praise before, mild scepticism now lurks.

The shift in media opinion came at a pivotal moment in the company’s history: its announcement of its plan to launch its Initial Public Offering (IPO). Up until now Facebook has been a private company and the media have been more than happy to sing its praises – after all, those journalists and commentators don’t hold any stock. But when this Wunderkind of New Media technology asks the public to put their money where their collective mouth is what sort of response do they get? Well, let’s take a look at some of the headline quotes.

From Reuters:

At Granite Investment Advisors in New Hampshire, Chief Investment Officer Scott Schermerhorn has already been fielding queries from clients eager to get in on the action.”We had some clients call and once we step them through the numbers, they sober up,” he said. “The valuation is 100 times earnings in a stock market that is trading at 12.”

From Xfinity:

For all the huge numbers in Facebook’s IPO papers, a surprisingly small figure stands out: $4.39, the amount the site generated per user last year. It’s one of the company’s major challenges because the total is paltry compared with competing Internet companies. Google makes more than $30 a year from each registered user. Even struggling Yahoo and AOL make $7 and $10, respectively.

An interested reader can track down some positive comments, but they are few and far between. Indeed, some media outlets have used the ominous words ‘internet bubble’ and raised comparison to certain infamous dot com era blow-ups.

Facebook could well be running out of steam. As The Guardian points out:

But one problem Facebook faces is how to expand that already enormous user base. What started out as a networking site for Harvard students now encompasses almost one in eight people on the planet. Thus the sort of massive exponential growth that has marked Facebook’s astonishing rise is simply not going to be possible for much longer.

Facebook seems to have been generating most of its revenues from expanding its user base as fast as possible. This is why, as the Xfinity article above points out, they can continue to tick over while making only $4.39 per user per annum while companies like Google make upwards of $30 per registered user over the same time period.

Simply put, with its frontiers all but expanded to their limits, if Facebook wants to keep going it must try to dig deeper into its existing user base in search of profit. To do this it will have to become ever more intrusive in its advertising and marketing methods. Yet this will turn people off the platform and diminish its popularity. So, Facebook finds itself caught between a rock and a hard place.

In fact, if anything the media are downplaying this catch 22. I spent a small amount of time working with a company that was actively engaged in the new social media marketing ‘revolution’. I got a strong impression that the industry was about as reputable and innovative as the market for snake oil.

Marketing on Facebook and on any social media is extremely difficult. Marketers know enough to realise that in order to tap this market they must do it through the users themselves – pop-up and banner ads can only go so far. But this brings problems of its own. People who use Facebook will be familiar with friends of theirs making the occasional post where they draw attention to a new website or product. Usually this is done at gunpoint. The user who posts this often only does so because the company they work for has put pressure on them to do so. It only works once and the user’s friends usually ignore the post.

Again, marketers know this. And so they try to devise ways to get users to consensually ‘interact’ with the products or services in question. One trick is to try to form an online community centred around the product. Another is to try to generate ‘interesting’ content centred on the product in the hope that it will go viral.

These manoeuvres occasionally work to an extent, but they generally only work for a certain type of product. Skiing holidays are a good example of a product that these tactics might succeed. If the holiday provider can successfully form a community of skiers who can chat about the product they will likely use the community to get information on all the hottest ski spots – and, in the process, return to the same holiday provider every year as they become ever more familiar with the brand.

But even this raises problems of its own. People can and do log into such communities and start complaining about the product for some reason or another. Many companies actively monitor their Facebook communities to eliminate such negative responses; others try to deal with them by appeasing the customer in front of the public gaze. Both tactics have their drawbacks.

In my experience though, the types of companies that can form effective Facebook communities as a means to build rather than reinforce their brand are the exception and not the rule. If you have the wrong type of product – say, a certain brand of hot drink or an insurance company – and you try to use the above outlined tactics to increase sales, you will almost certainly fail. These types of products generally have to fall back on classical methods of advertising such as running competitions and then hope that these competitions will go viral. Not much innovation there, rather just classic tactics applied to a new medium.

The products that do work to some extent – barring certain unique exceptions such as holiday companies – are often those that already have a brand firmly established. This makes perfect sense, really. Think about why you generally add a friend on Facebook: it’s because you already know them. Ditto for product brands. You’ll generally engage with a product on Facebook because you’re already very familiar with it. This makes it very difficult for advertisers to reach new markets, even when they can generate interest on their Facebook pages and within their communities. Often it is people that already firmly identify with the brand that engage. Unfortunately for advertisers, such is the nature of advertising on an interactive medium rather than one whose participants are passive.

Put frankly, a great deal of the ‘exciting’ new social media marketing buzz is extremely dubious and probably not nearly as important or ‘revolutionary’ as it is puffed up to be. So, even if Facebook do figure out a way to cash in on this side of the industry, it may be worth less than many think.

Moving back to Facebook itself, to say that it is a junk company would be massively unfair. But to say that its upcoming IPO issue aligns with reality would be a blatant lie. Facebook may well turn out to be a fad or it may continue in its popularity and remain a household brand like Google. But it will never be able to overcome the problems we have just described, not unless it integrates some wholly new component that allows it to move far beyond what it currently does.

The Facebook company would be better off finding this new component prior to any public stock issuance, otherwise they’re sure to be met by investors with scepticism. And as the climate remains tepid and they issue more and more stock they may find themselves in the midst of an inflating bubble that will undoubtedly, at some point, burst.

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  1. LRT

    100 times earnings for a company that fashion can leave in a flash, and non-one knows where the future growth is going to come from? This is going to be an awe inspiring disaster. The only question is how.

  2. The Peak Oil Poet

    Here’s Farcebooks business plan

    1. we’ll give everyone on the planet a free home page with built in email and messaging so we can make sure that all the coms goes through our system

    2. we’ll plaster the poor sods with advertising we tailor to what the stupid dolts put on their pages and the friends they tell us about.

    3. When everyone thinks it’s a huge thing (that still does not pay for the farms and farms of computers needed to keep it all going) we’ll IPO and find a way out and leave them all to figure it out for themselves.

    Really, any system that is built on restricting the internet by building a less powerful system within it is doomed – because the internet will always out-think and out-innovate such a limited model.

    But i’m starting to like facebook for one reason and only one – it might keep google honest for a while and really, it’s google we have most to worry about – unless Apple buys Microsoft which it could do with pocket change.


  3. psychohistorian

    Facebook is losing folks in their 40’s that I know of….at least they are trying to get out of this non financial octopus but finding saying goodbye is difficult.

    I think many will find their lives quite fulfilling without Facebook in it, parameterizing it, rating it, manipulating it and reporting it to the authorities with the drones……maybe taking down the intertubes for a bit could be a GOOD thing……hmmmmm.

  4. Maju

    What’s wrong with making almost 4 billion yearly (my math on your figures) out of a mere internet thing which requires relatively low expenditures?

    Of course I know that FB can’t expand much more, specially now that more and more people is hostile to them (on censorship and privacy grounds). And I know that, if they are selling their shares, it is because they believe they have touched a ceiling and can’t expect much more growth, so it’s time to move on to either other ventures or sweet retirement. But what’s wrong with a business making 4 billion if it’s stable? Does a business need to be always growing?

    1. Philip Pilkington

      Because their IPO asking is outlandish in comparison to their potential profitability. From the Reuters article:

      “Facebook is seeking a multiple of up to 27 times annual revenue, or up to 100 times earnings… But the sheer size of Facebook’s valuation means that it will have to become the world’s first $700 billion company if it is to replicate the gain in Google’s stock.”

      Good luck FB!

      1. James

        Something for nothing for FB’s founders. Good “work” if you can find it. More pixie dust for investors and believers in the ephemeral something for nothing economy. Remember, “it’s not a lie if you really believe it.” Greed and belief in things unseen are powerful motivators. Follow the herd young man, they’re always right!

      2. Larry

        I agree that the IPO is overpriced, but Facebook has basically admitted that they’re doing this to reward employees and investors. And while I think that their IPO is overinflated, is there any doubt that they will sell out of shares and hit their IPO demand? There is little value for the people who buy these stocks, but that never stops people from investing in worthless assets.

  5. jake chase

    I have no idea how Facebook works; have never considered using it; have no need for it. But 50 years experience in financial markets tells me that Facebook’s IPO will mark the end of the current bull run in stocks. It is a reprise of Jerry Tsai’s Manhattan Fund in 1966. The Top. Anyone buying this in the aftermarket deserves what happens to him, IMHO.

    History repeats itself, the second time as farce. Except this is the fifth or sixth time. Can anyone remember dot com?

    1. skippy

      Try thinking of it as a social gaming platform winners and losers and the in between ( fluff / churn).

      Skippy… what is the self life, of most gaming platforms.

    2. Fiver

      There’s good reason not to be much interested in FB, but if they mark the top of the market, it’s just bad timing – never underestimate the ability of the Fed or Pentagon to generate an “external” shock, or “internal” WS gains.

  6. bmeisen

    Assuming that social networking is here to stay and that size does count, then should the winning platform be private or public, corporate or state? Is the service provided more of a public utility or a private club?

    A private platform is going to get a return by mining your information, harmlessly and otherwise, and they are going to do all they can to hide their mining. Furthermore if Assange is correct, FB cooperates with government, acting effectively as a shell company for the security branch. Would it be easier to regulate a private platform or to fence-off a public utility from abuse by governmental interests?

    Social networking is in my opinion a public good similar to education, trasportation, public libraries, and jails. The service should be provided by a public entity like PBS or the National Science Foundation and intensely fenced off from meddling politicians.

    1. MLS

      If you think turning social media into a public good will insulate it from meddling pols, you have more faith in government than I do.

  7. MRW

    As Eben Moglen pointed out, the KGB would have been in ecstasy if it could have had FB during the Cold War.

    FB and that arrogant punk who runs it weren’t bright enough to figure out the privacy angle without resorting to a 60-year-old advertising model that his techno wonder can’t protect.

    Moglen has a much better idea. His idea will be along in a year. IPO or not, FB is not going to be able to compete with Moglen, and Zuckerburg knows it: he announced he would have an IPO after refusing to entertain the idea within days of Moglen’s Feb 5, 2010 ground-breaking talk.

    1. Boston Scrod

      I have to say that I agree with bmeisen and MRW that the real value (risk) of FB is its ability to service the all consuming needs of the ever expanding police state. While I have no use for the FB model of tallying and comparing false and phoney relationships (interpersonal consumerism is what I would call it), the behavior of Facebook users is HUGELY valuable to those who have decided that we can no longer afford as a nation and a people to be both safe and free.

      It is a well established fact that our intelligence services are already using social media such as FB to disseminate propaganda both domestically and internationally in an attempt to steer developing national and world opinion in a way that is perceived to be favorable to what are deemed to be American interests.

      While I doubt it would ever be publicly disclosed, given the extraordinary value FB provides to these efforts, I suspect that various dark agencies within the American government will take whatever steps are necessary to insure that FB doesn’t fail should it ever be at risk… unless, of course, a newer, even more intrusive social networking technology comes along which can be used to extract even more personal and private data from a clueless and unsuspecting public.

      I am reminded of these words spoken by Edward R. Murrow in 1954 at the height of the McCarthy era:

      We live in a time of fear and prejudice, and freedom is hard-pressed both at home and abroad. But freedom will survive and flourish unless it be destroyed by the consent of the free. I say consent, for acquiescence or silence is a form of consent. I believe that there may be more acquiescence than is healthy because too many people have mistakenly thought it was necessary to be undemocratic to deal with the emergency. They have thought there wasn’t time to be both safe and free. No more fateful mistake can be made. For in the cold war, there is no safety whatever unless we remain free. Democracy is our one chance of survival. For if we emerge from the long crisis undevestated by total war but no longer free, we have but chosen the cheapest and least heroic way to give tyranny the victory.

        1. bmeisen

          It cuts two ways – see also the use of texting by fare dodgers to escape controllers in public transit systems. And I admit that the state is more likely to pull the plug than Zuckerberg. But just because ideas associated with the Arab spring were spead via texting, doesn’t mean that reform movements everywhere will be able to benefit from FB et al. Who could pull the plug at FB?

          The challenge to set a platform up that is free of abuse by the operators. The ideal solution may be a completely autark platform perfectly firewalled against all and any attempts to get at the info.

          Zuckerberg dropped his pay to 1$. He could pay users, maybe some would accept his FB currency.

        2. MRW

          Philip, it appears to cut both ways, but it doesn’t, because when a police state wants FB cut off (1) it can because of the FB technical model, which is no more sophisticated than the old centralized telephone/switchboard model a la 1910 and (2) FB has already agreed to acquiesce to foreign political pressure and accept foreign characterization of certain FB users as delegitimizing their state. All it took was a phone call…or was it an email?

          May I suggest you listen to these two talks–throw them on while you’re finally tidying up your desk or getting that chore you’re avoiding. Listen in this order.

          “Freedom in the Cloud,” Feb 5, 2010 (the 45-minute talk that galvanized 200,000 developers worldwide within days of its net appearance, although it was the Q&A period afterward in which the ideas popped. A word you might not understand is ‘wall-wart computer’, so keep it in mind at the end.)

          Then listen to this:
          “The alternate net we need, and how we can build it ourselves”
          15 minutes, June 2011

          The good thing is that Moglen’s entertaining as well as smart, and because of his PhD in history (Yale) pulls in the arc of history in his discussion of technology. Moglen invented the first networked email program at age 16, and he is the lawyer for Richard Stallman’s Free Software Foundation. (Free as in freedom, he likes to say, not free as in beer.) Moglen is the guy who represented Phil Zimmerman, the inventor of PGP encryption software, pro bono as the US was about to charge Zimmerman with espionage in the 90s for spreading PGP for free around the world. Moglen is considered a visionary, and is guru to the 18-21 year-old uber-smart programming crowd.

          Let me put it to you this way: you won’t regret spending the time on these two talks, I can guarantee you that.

      1. Maju

        “… to those who have decided that we can no longer afford as a nation and a people to be both safe and free”.

        I understand this is not your position but the way you describe still leaves me with this burning question: “safe” from what? The USA face absolutely no threat.

  8. pebird

    Reading through the S1 (the version I have does not state the number of shares they will be issuing), issued Feb 1st Prospectus (subject to completion)

    The company expects Zuckerman to sell [blank] number of shares, with substantially most of the proceeds to pay taxes on exercising an option on 120 million shares of Class B stock.  Class B stock provides 10 votes per share, whereas Class A stock is one vote per share.

    Outstanding shares after the IPO is 117 million Class A shares, 1.76 billion Class B shares, the Zuckerman option for 120 million Class B shares.  This excludes another 25 million Class A shares reserved for future equity comp, and a whopping 550 plus million Class B shares, reserved for a variety of reasons.

    The number of Class A and B shares being offered is [blank].

    As long as the number of Class B shares is greater than 9.1% of all outstanding shares, the holders of Class B stock will control the company.

    They do not intend to pay dividends.

    They have elected to take the “controlled company” exemption to corporate governance.  So, they do not need a majority of independent board members, do not need a compensation committee, nor are they required to have an independent nominating committee for board members.

    This is basically a bet on the No Pass line and wait for your number to hit, you are along for the ride, no dividends, no voting power.  How very Facebook-like a definition of a “public” company.

    There is a letter by Zuckerman where he talks about “the Hacker Way”.  I think he meant to say “The Hack way”.

    When I heard that Facebook wanted to raise $5 billion in their IPO, and expected a valuation of $100 billion, I wondered what effectively tiny percentage of the company did they expect to sell to make those numbers work.  Now I know.

  9. SR6719

    I know, this is not exactly on topic, nothing to add concerning FB’s annual revenue or IPO…..

    Facebook…….let people from the past find you, people you’d forgotten about and thought you were rid of for good. Have friends and “friends” and lots of relationships and “personal” connections. Go where everyone is can-do, where everyone is upbeat, *always*, where no one’s ever depressed. Go where everyone likes everyone and they all like millions of products or pretend to like them in exchange for kickbacks. And they want to tell you about it. Every. Boring. Detail. Advertise for yourself, be sure to include lots of cute photographs with your pets or your favorite products, and let everyone know if you can’t shit or can’t get a hard-on (but in a happy, upbeat tone of course, maybe one of your “friends” can offer advice) or discuss the latest iPhone apps or what you had for dinner and hurrah for everything!

    No thanks.

    “Don’t you want to join us?” I was recently asked by an acquaintance when he ran across me alone after midnight in a coffeehouse that was already almost deserted. “No, I don’t,” I said.” – Franz Kafka

  10. Andrew Montalenti

    I think I agree with the general sentiment that given Facebook’s existing penetration (e.g. 1 in 8 people use it), it will be hard to continue exponential growth. At some point, you have saturated the earth with social networking, so they can’t bet on growing users forever. Also, Facebook needs to worry about attrition, which is inevitable for any web service.

    However, I think comparing Facebook’s current revenue per user to Google’s is a tad disingenuous. Before Google had AdWords, their revenue per user was $0. To me, it seems Facebook has a much stronger platform on which to build a higher revenue per user than Google (conceivably) did before AdWords existed. We just don’t truly know what that revenue source is going to look like. Could you have predicted when Amazon IPO’ed as an online bookseller that it would derive much revenue from hosted cloud services and consumer electronics that Amazon manufactures on its own?

    This IPO will probably give FB some room to play w/ the consumer market in ways it hasn’t before (for better or worse).

    Google had timing on its side. Its AdWords product came about at precisely the time when display advertising was a) being heavily experimented w/ by online marketers and b) was failing miserably due to the lack of targeting technology. When AdWords came out, it was a revolution because for the first time, there was a cheap way to target advertisements at commercial intent at scale on the Internet. And Google captured that early opportunity, and has spent the last half-decade creating walls around its dominance in this space by acquiring every potential thread in the online advertising market.

    Facebook does not have timing on its side for this particular business model. The only reason FB has an advertising business is because (IMO) it was the surest way to grow revenue, but not necessarily the one with highest risk-adjusted reward.

    But it has way more users — and way more engaged users, across more platforms — than Google did pre-IPO. Google is a utility (essentially, the modern yellowpages), but Facebook has become a societal communication platform (essentially, the modern phone).

    Eric Weisen, a VC who commented on the above story, has the best take IMO:

    On business models: “Google sells advertising against their proprietary user-submitted data (your search queries). Facebook sells advertising against their proprietary user-submitted data (your social media interactions with others). Google is more profitable on a unit basis because search queries are loaded with richer commercial intent than social media gestures but nonetheless the business models are fairly similar.”

    On funding history: “Google raised one round of capital – $25M in 1999 and then went public four years later. Facebook raised over $2B across many rounds (although a big chunk of this was secondary purchase not primary investment that went to the balance sheet). Another way to look at it is that Facebook essentially did a “private IPO” (if you can accept the contradiction) that took place over the past four or five years and that this IPO in 2012 is more akin to a giant subsequent public offering.”

    On whether Google more “capital efficient” than FB? “That is probably true but doesn’t follow automatically from the comparison of funding histories. Google just went public considerably earlier in its life. Facebook probably could have gone public in 2005 or 2006 but chose to continue to raise private money and wait as long as possible. The IPO they’re doing now isn’t to raise money – they have tons and are very profitable. It’s to satisfy shareholder desire to sell and to comply with other securities rules about private company shareholder dispersion.”

  11. different clue

    Whenever friends and aquaintances tell me that I should get on Facebook, I tell them that I read Facebook was invented as a way to trick self-estimated hipsters and creatives and then others into compiling vast dossiers on themselves for intelligence operatives and/or law enforcers to be able to read at their future convenience. My friends and aquaintances tell me I am being paranoid and perhaps they are right. Oh well . . . “MyBook”, “SpaceFace” , its all too modern for me to play with.

    People who believe this is a good bussiness with a good stock with a good future should borrow all the credit they can borrow against everything they own and buy all the shares they can buy. If they were right, they will have the last laugh on the rest of us. Go ahead, I don’t mind.

    Perhaps if another social networking platform can indeed arise which solves the Zero Privacy problem and the drinking-sewage-from-a-firehose problem; that social networking platform may be useful to the slow, the square, and the un-hip.

  12. Fiver

    Facebook, the Nemesis of tyranny everywhere can’t find some wealthy patron to do the Government a favour, i.e., snap it up for police state services and provide cover in exchange for some very nice “offsets” elsewhere?

    In any event, FB needs to come up with something groups of people can DO together that has them hooked and spending; some form of clever gambling or gaming for real money might just do it.

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